Fortune 500: A Snapshot of American Capitalism
The Fortune 500 list provides an annual snapshot of the biggest and mightiest in American capitalism. Not only does it capture the competition between cities to attract big business, but it also reveals the dynamic industries that drive GDP growth. The 69th annual list, however, uncovered an interesting phenomenon on corporate balance sheets. Revenues hit a record high, but profits fell – by a lot. This article explores what this means for the economy and whether it is a sign of an imminent recession.
The Profits Dip
Fortune 500 companies earned $1.84 trillion in profits on $16.1 trillion in revenue in 2021. However, last year, although revenue rose to $18.1 trillion, profits fell roughly 15% to $1.56 trillion. Rising interest rates increased borrowing costs for many Fortune 500 companies during the year, eroding margins even as inflation allowed for higher prices. The tech sector also saw its profits sharply decrease due to the e-commerce slowdown and return-to-office trend.
Natural Ebb and Flow
Despite worrying declines, economists interviewed by Fortune believe that it is just an example of the natural ebbs and flows occurring in earnings during business cycles. Corporate profits had been surging since the second half of 2020 and throughout 2021, prompting outrage among consumers struggling to cope with rising costs of living. However, last year took a bearish turn when the Federal Reserve jacked up interest rates, leaving corporations raking in record revenues but experiencing plummeting profits.
The Return to Trend
According to economists, profits tend to rise as economies come out of recessions, increasing demand and driving up prices. However, when inflation falls from four-decade highs and interest rates rise, the natural “margin compression” period of the business cycle occurs, resulting in lower profits. Both Brian Albrect, Chief Economist of the International Center for Law & Economics and John Leer, Chief Economist of MorningConsult, believe that profits will continue to deteriorate this year, but not to the extent claimed by many on Wall Street. Some fear that fading corporate profits could be an indication that a recession is approaching.
Signs of a Recession?
Evidence suggests that corporations’ declining profits have preceded past recessions. For example: they peaked in the third quarter of 2006, indicating the Great Recession more than a year earlier’s start in December 2007. Falling profits do “typically precede recessions,” noted Albert Edwards, a global strategist at Societe Generale. However, Leer and Albrect believe that the recent drop in profits is a return to trend rather than a sign of an imminent recession. While Edwards attributes falling profits to “greedflation,” the idea that businesses raised prices more than their increased costs due to pandemic, supply chain issues, and the Ukraine war, Albrecht disagreed. Both economists linked the sharp profits’ rise in late 2020 and 2021 to the economy that was flooded with fiscal and monetary stimuli while supply chains were strained, possibly entailing that the recent dip may represent a move back to normal business cycle setup rather than a severe recession.
Despite the decline in the profits of Fortune 500 companies recorded, economists believe it is typical business cycle behavior. While the decline in corporate profits signifies potential caution, history has shown that it is not always a reliable indicator of the onset of a recession. However, corporate leaders must consider the possibility of a recession and plan accordingly.