Dividends/GDP have gone up a lot
Karl Smith notes that the ratio of total Dividends to GDP increased from 2 to 5% since 1980 (it was 6% before the crash). He is amazed that he didn’t know this already. I am amazed that I didn’t know this already.
I must admit that economists are even more determined to ignore anything which might make anyone think of class struggle than I believed. I wouldn’t have thought that possible.
Okay, as a simpleton, lay economist…why the change in 1980? I mean a sudden change like that has be due to some larger factor.
Was it the recession in 1980? The subsequent laffer curve based economics (biting my tongue)?
Very interesting data, but I need to better understand the reasons behind the change.
I suspect the increase has something to do with tax rates. Looking at the charts in Karl Smith’s article, there’s a big jump in 1980 that levels off, and another big jump in 2000. As I recall, before 1980, dividends did not share the 50% cap on marginal tax rates that Kennedy introduced, because the cap only applied to “earned” income, and dividend income wasn’t “earned.” Reagan ended that. And then, of course, the Bush tax cut gave dividends capital gains tax rates, which taxed dividends significantly less than “earned” income. The owners of capital can largely choose how they wish to be paid, in appreciation of the stock of the underlying business, as interest on loans to the corporation (unearned but fully taxes), or in ordinary income from services to the corporation. When the tax rates on dividends is tied for the lowest of all the options with capital gains, but taking dividends is risk free, they will pay themselves dividends.
Don’t forget a lot of those dividends go to 401(k) and IRA accounts, hardly the refuge of the very rich.
What is a lot?
that must be why the poor are so poor; they should be putting their money into a 401-k and collecting dividends instead of spending such a large percentage of it on food…
up 200% (up to the pre crash peak). The increase in dividends is not a large fraction of GDP (maximum 4%) but the proportional increase is dramatic.
I agree that the shift has a lot to do with taxes. In addition to the tax code changes you mentioned, would also stress another major change — the 1986 tax reform. Here I am looking at the graph of the dividend payout ratio which increased from around 40% to around 50%. The ratio increases during recessions (why reinvest profits when you have spare capacity ?). But aside from that, I see an increase in 1987. The tax reform cut the top marginal income tax rate and increased the capital gains tax rate and the effective corporate income tax rate. An advantage of reinvesting profits is that shareholders benefit in the form of capital gains not income. This advantage was reduced in 1986.
Also during 82-86 there was a policy of “accelerated depreciation” which allowed firms to depreciate capital quickly. For structures, the statutary rate was hugely greater than true depreciation. This enormously increased the attractiveness of the classic tax shelter of buying a building and reporting losses as it depreciates (in law but not in fact) and a capital gain when you sell, hence a commercial property bubble and lots of empty office buildings. It also meant that corporations with positive profits bought buildings from corporations with negative profits (to get the depreciation allowance). Thus the profitable corporations didn’t pay dividends and, naturally the loss making corporations didn’t pay dividends. I’d say this policy smoothed what would otherwise have been a jump up in dividends.
I don’t know how big an issue this was in the USA, but in many countries corporations invest in corporate cars which managers are allowed to use as a fringe benefit. This is a way of disguising personal income as corporate income (and also counting depreciation of the car as a loss not as consumption). I’m not sure when such fringe benefits became taxable as income in the USA (I guess 86 but I don’t know). In any case, a higher corporate income tax and lower personal income tax reduced the advantage of doing this. Again I don’t know if this is a big deal.
All the dividend payout issues aim to explain why the ratio increased 50% and not why profits increased 100% (to the peak before the crash).
I was sitting in my office trying to think of an answer, when I noticed it had become rather late and I might face some irritation when I finally got home. Now everyone else here is asleep and I’m still thinking. But still, I’g going from no idea it happened to attempting an explanation in one day so let the reader beware.
First looking at Smith’s graphs there are two components of the increase of dividends/GDP. Dividends used to be about 40% of corporate profits and were about 60% just before the recent crisis. so of the threefold 1980 to peak increase a good part of it was increased dividend payouts. I think changes in the tax code played a major role in this increase (see down thread).
The other is that corporate profits as a share of GDP roughly doubled reaching a probably unsustainable bubbly peak at 10%. So why did that happen ? Well part of it is that the share of capital increased some compared to the share of labor. Possible explanations are the usual.
1 weakened unions (one has to assume that the threat of unionisation affected wages also at non union firms way back then).
2. the over valued dollar and huge trade deficits (started the right time). This increases the share of capital in the US if foreign competitors are relatively labor rich (as they are) so they compete more with US labor than US capital. [an aside — this can cause an increase in dividends/GDP without increasing corporate profits earned in the USA/GDP. If a foreign subsidiary of a US based corporations earns profits over there they aren’t in GDP at all. If they are sent back to the USA and paid out as dividends then well dividends are higher. foreign earned profits of US based corporations/GDP have grown. This is separate from the share of capital in US GDP as such profits are part of GNP but not GDP].
3. capital biased technological progress (technological progress can’t be measured directly so it’s always the residual explanation when nothing else works — capital biased just means that it causes an increase in the share of capital — somehow).
4. Hypertrophy of finance. Back when corporate profits were 10% of GDP the profits of the financial sector were IIRC 40% of total profits (note I have dropped “corporate” — a lot were at hedge funds). These huge profits came from nowhere comprehensible for no comprehensible reason. The dividends in the series include dividends paid by Lehman, AIG and Bear Stearns. It is possible that the profits were illusory. It is likely that profits at that rate are unsustainable. But if the financial bosses don’t believe that, they will pay out a lot of them as dividends.
I was originally going to say that the Reagan tax cuts made it a lot cheaper to take money out of companies, so people did.
Then I looked at the obvious, corporate profits as a share of the GDP. See my chart at:
1980 is roughly when corporate profits started to turn around. Where did the money come from? That’s obvious too. Incomes have stagnated since then.
Since these are pre-profit taxes, I’m inclined to drop my tax idea completely and suggest that it was the destruction of labor’s bargaining power. The economy continued ot grow, but the growth went to collectives, not individuals.
P.S. I think the analysis of proprieterships tells a different story, the destruction of small businesses at the expense of corporations. Collectivism has its downside.
Wow, am I slow or what?
If you look at the Fred chart of after tax corporate profits in the blog entry cited, you’ll see another perspective. It looks like falling tax rates might have meant more money for the shareholders as opposed to the government.
But, then I did one more chart of taxes plus dividends as a share of profit, and it looks like this ratio has been falling since the Korean War, but there was a big drop starting in the late 70s, well before the Reagan tax cuts.
It’s kind of worrying. Collectives have been doing very well, but the money hasn’t really gone to their owners or to the government or to their workers. CEOs seem to have been the big winners, but even they just get a little piece of the collectivist pie. We seem to have financial growth without economic growth, and the predominant message is that we’ll all have to do with less. Maybe it’s time to rethink collectivist capitalism?
…economists are even more determined to ignore anything which might make anyone think of class struggle than I believed. I wouldn’t have thought that possible.
Reminiscent in form of DeLong’s “X is worse than you can imagine even though you know it is worse than you can imagine.” Caution: that way shrillness lies. For “class struggle,” substitute “rest seeking;” then for “rent seeking,” substitute “local sub-optimization.” See? Back on solid ground!