Timothy Taylor writes, financial services, as a share of the value-added in GDP, are about 7-8% of GDP in recent decades, according to the US Bureau of Economic Analysis (see the “Value added by Industry as a Percentage of Gross Domestic Product” table, line 55). Thus, the question is why the financial services accounts for 7-8% of GDP, but about 25-30% of all corporate profits.
"We are entitled to wonder if the financial sector really earns its share of profits in the economy. In the end, all I can say is that it is a very hard question to answer."
It does not, and it itsn't.
GDP is a gamed, garbage metric that conflates money flow with actual goods and constructive services (e.g. services which add to productive capacity).
The financial sector is almost wholly parasitic, and a knock-on effect of the financialization of our economy by banksters & oligarchs that have bribed and (often pedo-sexually) blackmailed our government apparatchiks into engineering the system to enrich them at the expense of everyone else.
This is about to become painfully apparent to even midwits.
Pretty sure nearly all banking profits would be wiped out in periodic banking crises if not for the govt backstop. So maybe 7-8% of GDP is the value-add and the rest is the value of the backstop.
1) "the profits are sending a signal that the US economy would benefit from a dramatic expansion of financial services." -- but doesn't think so; or,
2) " limited competition in financial services, perhaps due to difficulties of entry and costs of regulation, "; or,
3) "the way in which GDP measures the value-added of the financial services sector may tend to understate the size of the sector."
1- As the Big Tech & Big Finance folk start demonetizing "dis-information" dissidents from Dem Party current propaganda, like Alex Jones & maybe Trump, we're likely to slowly see a small expansion of other services. Certainly BitCoin and crypto- are examples of expanding services. But crypto- hasn't really solved for "reducing inflation risk".
2- limits on competition hugely help the Big Banks, far more than normal consumers. Part of Banster oligopolistic domination thru slight overcharging, like 2% credit card instead of 1%, others have little choice but to follow the leaders.
3- Successful financial companies ARE hugely profitable, so the GDP comparison measures are valid.
All three have some truth, but Timothy is probably missing the biggest issue:
4) Finance is capturing most of the profit most companies make thru the semi-cartelized negotiation power of the banks. It's like the ultimatum game: the bank loan creates $100 million in possible profit (risk adjusted) thru funding a new project, but offers the material - factory project only 20%. So even tho it's "unfair", the project creator takes it, and both sides win; but the Bank wins more bigly.
The One True Mandate is a good way to look at the real Fed - and supports Ron Paul's call for a better audit of the Fed.
I have never understood why a service like credit cards didn't decrease fees when we shifted from humans passing paper to computers that cost almost nothing per transaction?
I don't understand what you mean with: "If some investors put in $100 million to start a bank and some other investors put in $25 million to start a factory, the profits (leftovers) of the bank ought to be greater than the profits of the factory, even if the factory produces output with more measured value in GDP." That $100 million in a bank seems to be nearly risk free as the Feds even pay interest on reserves in todays world, but the $25 million in a factory can be much higher risk, especially if it is something innovative. Somehow risk of capital loss must be in the equation. With effectively risk of banking on the tax payers, it is a sweet deal.
Note that much of the innovation required for the leading economy to lead is not financed by the conventional banking system but by Individuals, Angle Investors, and Venture Capital funds that are outside the typical financial services. You can't get a bank loan on anything that is new or innovative and you don't want one.
With an innovative startup type business you want equity investors willing to risk real money. You know that no matter how good your plans are there will be setbacks and that is why you don't want debt financing. Debt financing on a general purpose facility will work (you can sell and lease back to cut cash loss rates during the setback), but debt on innovative facilities that may have no real value is just a high fixed cost when the setback occurs.
I would posit that the economic value created by the financial sector is not fully captured by the metrics you mentioned. For example, modern trading technology and the existence of certain players in the market have tightened spreads on equity trading. This has reduced the cost of capital for every publicly traded company. That is a significant economic value that is accruing broadly. Yes, the financial sector is capturing some of that through their own profits, but if we want to measure the impact on GDP, I think we need to incorporate some of these broader concepts.
I've thought, too, that the reluctance of the Fed to be more data driven is based on not wanting to upset bankers who do not like changes in interest rates and especially not unexpected changes. Why should the Fed ever announce that it will make a change in the future?
Tangentially, tying this to yesterday's Scott Sumner comments, level targeting, an NGDP futures market, and an overall preference for market indicators could, at least in principle, clarify the mandate and reduce public choice concerns.
"We are entitled to wonder if the financial sector really earns its share of profits in the economy. In the end, all I can say is that it is a very hard question to answer."
It does not, and it itsn't.
GDP is a gamed, garbage metric that conflates money flow with actual goods and constructive services (e.g. services which add to productive capacity).
The financial sector is almost wholly parasitic, and a knock-on effect of the financialization of our economy by banksters & oligarchs that have bribed and (often pedo-sexually) blackmailed our government apparatchiks into engineering the system to enrich them at the expense of everyone else.
This is about to become painfully apparent to even midwits.
Pretty sure nearly all banking profits would be wiped out in periodic banking crises if not for the govt backstop. So maybe 7-8% of GDP is the value-add and the rest is the value of the backstop.
What share of the profits do bookies contribute to the "mafia"?
Corporate profits aren’t the only component of GDP… So I’m confused by the initial supposed dissonance that spurred the post.
Great link. Tim suggests:
1) "the profits are sending a signal that the US economy would benefit from a dramatic expansion of financial services." -- but doesn't think so; or,
2) " limited competition in financial services, perhaps due to difficulties of entry and costs of regulation, "; or,
3) "the way in which GDP measures the value-added of the financial services sector may tend to understate the size of the sector."
1- As the Big Tech & Big Finance folk start demonetizing "dis-information" dissidents from Dem Party current propaganda, like Alex Jones & maybe Trump, we're likely to slowly see a small expansion of other services. Certainly BitCoin and crypto- are examples of expanding services. But crypto- hasn't really solved for "reducing inflation risk".
2- limits on competition hugely help the Big Banks, far more than normal consumers. Part of Banster oligopolistic domination thru slight overcharging, like 2% credit card instead of 1%, others have little choice but to follow the leaders.
3- Successful financial companies ARE hugely profitable, so the GDP comparison measures are valid.
All three have some truth, but Timothy is probably missing the biggest issue:
4) Finance is capturing most of the profit most companies make thru the semi-cartelized negotiation power of the banks. It's like the ultimatum game: the bank loan creates $100 million in possible profit (risk adjusted) thru funding a new project, but offers the material - factory project only 20%. So even tho it's "unfair", the project creator takes it, and both sides win; but the Bank wins more bigly.
The One True Mandate is a good way to look at the real Fed - and supports Ron Paul's call for a better audit of the Fed.
Is profitably providing foreigners access to US assets, US residents to foreign assets, fully registered in GDP figures?
Arcane subject for me… but ENJOYED it!
I have never understood why a service like credit cards didn't decrease fees when we shifted from humans passing paper to computers that cost almost nothing per transaction?
I don't understand what you mean with: "If some investors put in $100 million to start a bank and some other investors put in $25 million to start a factory, the profits (leftovers) of the bank ought to be greater than the profits of the factory, even if the factory produces output with more measured value in GDP." That $100 million in a bank seems to be nearly risk free as the Feds even pay interest on reserves in todays world, but the $25 million in a factory can be much higher risk, especially if it is something innovative. Somehow risk of capital loss must be in the equation. With effectively risk of banking on the tax payers, it is a sweet deal.
Note that much of the innovation required for the leading economy to lead is not financed by the conventional banking system but by Individuals, Angle Investors, and Venture Capital funds that are outside the typical financial services. You can't get a bank loan on anything that is new or innovative and you don't want one.
With an innovative startup type business you want equity investors willing to risk real money. You know that no matter how good your plans are there will be setbacks and that is why you don't want debt financing. Debt financing on a general purpose facility will work (you can sell and lease back to cut cash loss rates during the setback), but debt on innovative facilities that may have no real value is just a high fixed cost when the setback occurs.
I would posit that the economic value created by the financial sector is not fully captured by the metrics you mentioned. For example, modern trading technology and the existence of certain players in the market have tightened spreads on equity trading. This has reduced the cost of capital for every publicly traded company. That is a significant economic value that is accruing broadly. Yes, the financial sector is capturing some of that through their own profits, but if we want to measure the impact on GDP, I think we need to incorporate some of these broader concepts.
I've thought, too, that the reluctance of the Fed to be more data driven is based on not wanting to upset bankers who do not like changes in interest rates and especially not unexpected changes. Why should the Fed ever announce that it will make a change in the future?
Tangentially, tying this to yesterday's Scott Sumner comments, level targeting, an NGDP futures market, and an overall preference for market indicators could, at least in principle, clarify the mandate and reduce public choice concerns.