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Note on Rates of Return for Domestic Nonfinancial Corporations, 1960-98.

FOR DOMESTIC NONFINANCIAL corporations, property income's rate of return decreased to 9.6 percent in 1998 from 9.9 percent in 1997 (chart 1 and table 1). Though lower than in 1997 and in 1996, the rate of return was higher than in any other year since 1969. Property income's share of domestic income dropped to 18.5 percent from 19.4 percent; nevertheless, the share was well above its average level for the past quarter century.

[CHART 1 OMITTED]

Table 1--Rate of Return and Income Share, Domestic Nonfinancial Corporations, 1960-98

[Percent]
 Rate of return

 Property income

 Profits from current
 production

 Profits Profits
 tax after Net
 Total Total liability tax interest
Year (1) (2) (3) (4) (5)
1960 8.7 8.0 3.8 4.2 0.7
1961 8.8 8.0 3.8 4.3 0.8
1962 10.0 9.2 3.9 5.3 0.9
1963 10.8 9.9 4.1 5.8 0.9
1964 11.5 10.6 4.2 6.5 0.9
1965 12.7 11.7 4.4 7.2 1.0
1966 12.6 11.5 4.5 7.0 1.1
1967 11.3 10.1 3.9 6.3 1.2
1968 11.2 9.9 4.3 5.6 1.3
1969 9.9 8.4 3.9 4.5 1.5
1970 8.0 6.2 2.9 3.3 1.8
1971 8.5 6.7 2.9 3.8 1.8
1972 8.9 7.2 3.0 4.2 1.7
1973 8.8 7.0 3.2 3.0 1.8
1974 7.1 5.1 2.9 2.2 1.9
1975 7.5 5.8 2.5 3.3 1.7
1976 7.8 6.4 2.8 3.5 1.5
1977 8.3 6.8 2.9 3.9 1.5
1978 8.2 6.7 2.9 3.8 1.6
1979 7.3 5.6 2.6 2.9 1.7
1980 6.2 4.3 2.2 2.1 1.9
1981 6.8 4.7 1.9 2.8 2.1
1982 6.1 3.9 1.3 2.6 2.2
1983 6.8 4.8 1.6 3.2 2.0
1984 8.2 6.0 1.9 4.2 2.2
1985 8.0 5.8 1.7 4.2 2.2
1986 7.5 2.0 1.7 3.5 2.3
1987 8.1 5.7 2.1 3.7 2.3
1988 8.7 6.2 2.1 4.0 2.5
1989 8.4 5.5 2.0 3.5 2.9
1990 8.0 5.2 1.8 3.4 2.8
1991 7.5 5.0 1.6 3.4 2.5
1992 7.3 5.4 1.7 3.7 1.9
1983 7.7 6.1 1.8 4.2 1.7
1984 8.9 7.3 2.1 5.1 1.6
1995 9.3 7.7 2.2 5.5 1.6
1996 9.8 8.2 2.3 6.0 1.5
1987 9.9 8.5 2.4 6.1 1.4
1988 9.6 8.3 2.2 6.0 1.3
Average:
1960-69 10.8 9.7 4.1 5.7 1.0
1970-79 8.0 6.4 2.9 3.5 1.7
1980-89 7.5 5.2 1.9 3.4 2.3
1990-98 8.7 6.9 2.0 4.8 1.8

 Share of domestic
 income

 Property income

 Profits
 from
 current
 pro- Net
 Total duction interest
Year (6) (7) (8)
1960 19.6 18.1 1.5
1961 19.7 18.0 1.7
1962 21.1 19.3 1.8
1963 22.1 20.3 1.8
1964 22.7 20.9 1.8
1965 23.9 22.0 1.9
1966 23.3 21.3 2.1
1967 21.9 19.5 2.3
1968 21.3 18.9 2.5
1969 19.3 16.3 3.0
1970 16.6 12.8 3.8
1971 17.8 14.1 3.7
1972 18.2 14.7 3.5
1973 17.8 14.2 3.7
1974 15.6 11.3 4.3
1975 17.8 13.8 4.1
1976 18.2 14.7 3.4
1977 18.6 15.3 3.4
1978 18.2 14.8 3.5
1979 16.6 12.7 3.9
1980 15.1 10.4 4.7
1981 16.5 11.4 5.1
1982 15.6 9.9 5.7
1983 16.8 11.8 5.0
1984 18.7 13.7 5.0
1985 18.0 13.1 4.9
1986 16.8 11.7 5.1
1987 17.5 12.4 5.1
1988 18.4 13.0 5.4
1989 17.8 11.7 6.2
1990 17.1 11.1 6.0
1991 16.2 10.8 5.4
1992 15.4 11.4 4.0
1983 16.1 12.7 3.5
1984 18.0 14.8 3.3
1995 18.8 15.5 3.3
1996 19.5 16.5 3.0
1987 19.4 16.7 2.7
1988 18.5 15.9 2.5
Average:
1960-69 21.5 19.5 2.0
1970-79 17.5 13.8 3.7
1980-89 17.1 11.9 5.2
1990-98 17.7 13.9 3.7


Source: Table 2

NOTE.--Columns 1-5 are percentages of the net stock of reproducible tangible wealth (averages of end-of-year values for adjacent years) valued at current cost Columns 6-8 are percentages of domestic income.

The rate of return is defined here as the ratio of profits and interest payments to the value of structures, equipment, and inventories. For purposes of this note, the numerator--corporate profits with inventory valuation and capital consumption adjustments plus net interest--is termed "property income" (table 2).(1) In addition, the denominator--the current-cost value for domestic nonfinancial corporations of the net stock of structures and equipment plus the replacement-cost value of inventories--is termed "reproducible tangible wealth." (In other contexts, different definitions of property income and reproducible tangible wealth may be appropriate.)

Table 2.--Property Income of Domestic Nonfinancial Corporations and Related Series, 1960-98

[Billions of dollars]
 Property income

 Profits from current
 production

 Profit Profits
 tax after Net
 Total Total liability tax interest

Year (1) (2) (3) (4) (5)
1960 44.1 40.7 19.2 21.5 3.5
1961 45.6 41.6 19.5 22.2 4.0
1962 53.6 49.1 20.6 28.4 4.5
1963 59.7 54.9 22.8 32.1 4.8
1964 66.5 61.2 24.0 37.2 5.3
1965 77.5 71.4 27.2 44.2 6.1
1966 83.4 76.1 29.5 46.6 7.4
1967 81.8 73.0 27.8 45.2 8.8
1968 87.6 77.5 33.6 43.9 10.1
1969 85.6 72.5 33.3 39.1 13.2
1970 75.4 58.3 27.2 31.1 17.1
1971 86.9 68.8 29.9 38.8 18.1
1972 99.5 80.4 33.8 46.6 19.2
1973 109.6 87.1 40.2 46.9 22.5
1974 103.1 74.8 42.2 32.6 28.3
1975 126.0 97.3 41.5 55.8 28.7
1976 145.9 118.4 53.0 65.4 27.5
1977 170.1 139.4 59.9 79.5 30.6
1978 190.3 154.0 67.1 86.9 36.3
1979 192.3 147.2 69.6 77.6 45.1
1980 188.3 130.1 67.0 63.1 58.2
1981 232.3 160.3 63.9 96.4 71.9
1982 224.6 142.1 46.3 95.8 82.5
1983 258.0 181.5 59.4 122.0 76.6
1984 326.9 239.0 73.7 165.4 87.8
1985 334.1 243.5 69.9 173.6 92.6
1986 324.1 226.0 75.6 150.5 98.1
1987 363.8 258.6 93.5 165.1 105.3
1988 415.3 294.3 101.7 192.6 121.0
1989 422.7 276.7 98.8 178.0 145.9
1990 422.8 275.3 95.7 179.6 147.5
1991 403.4 269.7 85.4 184.3 133.7
1992 399.8 295.6 91.1 204.5 104.2
1993 441.0 346.4 105.0 241.4 94.5
1994 533.4 437.1 128.8 308.3 96.3
1995 591.5 487.4 136.7 350.6 104.2
1996 649.7 548.5 151.5 397.0 101.2
1997 691.1 594.2 169.8 424.4 96.9
1998 694.2 598.7 160.4 438.2 95.6

 Reproduc-
 ible
 Domestic tangible
 income wealth(1)

Year (6) (7)
1960 225.3 512.8
1961 230.9 524.6
1962 253.7 542.5
1963 270.8 561.2
1964 293.2 590.5
1965 324.0 632.2
1966 357.4 692.0
1967 374.1 750.6
1968 410.8 819.6
1969 444.5 902.8
1970 454.0 983.7
1971 488.9 1,067.8
1972 546.6 1,164.7
1973 615.5 1,327.6
1974 659.9 1,597.4
1975 706.3 1,772.7
1976 803.3 1,950.1
1977 912.6 2,170.7
1978 1,043.2 2,457.9
1979 1,160.4 2,825.3
1980 1,246.8 3,223.9
1981 1,403.7 3,589.1
1982 144.6 3,764.8
1983 1,538.6 3,860.3
1984 1,748.6 4,085.0
1985 1,856.0 4,264.1
1986 1,927.3 4,388.8
1987 2,079.3 4,619.9
1988 2,262.0 4,902.6
1989 2,372.7 5,149.6
1990 2,478.8 5,377.0
1991 2,493.9 5,439.4
1992 2,595.1 5,574.7
1993 2,731.6 5,845.2
1994 2,960.1 6,178.6
1995 3,147.5 6,505.8
1996 3,329.4 6,791.8
1997 3,562.3 7,122.8
1998 3,760.8 7,387.0


(1) Structures, equipment, and inventories, valued at current cost at end of year. Structures and equipment are from U.S. Department of Commerce, Bureau of Economic Analysis, Fixed Reproducible Tangible Wealth of the United States 1925-96, CD-ROM (Washington, DC: Bureau of Economic Analysis, 1998) and from unpublished BEA data. Inventories are from legal-form end industry detail underlying NIPA table 5.13.

NOTE.--Property income is profits from current production plus net interest. Profits from current production is corporate profits with inventory valuation adjustment and capital consumption adjustment. Profits after tax is also shown with inventory valuation adjustment and capital consumption adjustment.

The measure of rate of return used here has several useful features. First, it captures the return to investment, regardless of the mix of equity and debt used to finance the investment. Second, the numerator is not affected by inventory profits or by depreciation schedules used in preparing the underlying tax returns. Third, because the components of the denominator are measured at current cost, the ratio is an estimate of the current average profitability of investment. (See the box "Alternative Measures of Rates of Return" on page 10 of the June 1997 SURVEY.)

The ratio of property income to domestic income is property income's "share" of domestic income--that is, the portion of domestic income that is not labor income.

Q-type ratios

Another ratio of analytical interest is "Tobin's-Q," or simply "Q," which compares the valuation of assets in financial markets with the current replacement cost of assets.(2) A value of Q above I indicates that newly produced physical assets may be purchased more cheaply than (the ownership claims to) existing assets. Such a situation may induce businesses to purchase newly produced physical assets instead of acquiring existing assets; alternatively, it may induce financial investors to reduce the prices they will offer for financial assets. A value of Q below 1 indicates that existing physical assets may be acquired more cheaply than newly produced assets. Such a situation may induce businesses to purchase existing assets instead of newly produced physical assets; alternatively, it may induce financial investors to raise the prices they will offer for financial assets.

Q may be calculated in a variety of ways, but the general pattern of the ratio over time is relatively insensitive to the precise formula used to calculate it. In the numerator, all analysts would include the market value of equities outstanding. Many analysts would also include the value of corporate bond obligations, thereby making the ratio invariant to shifts in the mix of equity and debt used to finance investment. Further, the numerator could include all corporate debt, not just bonds.(3)

The denominator of Q should certainly include the net stock of reproducible tangible wealth valued at current cost; estimates for this series were used in calculating the rate of return. The denominator might also include other assets, such as land and financial assets; it might also include intellectual property (including software) that may not be capitalized. (All of these items are reflected in the market value of equities outstanding.)

It should be noted that the market value of equities outstanding reflects domestic and foreign assets owned by domestic nonfinancial corporations, while the net stock of reproducible tangible wealth includes the domestic wealth of domestic and foreign corporations.

Moreover, the other series that have been suggested for inclusion in the numerator and denominator (such as corporate bonds and land) generally are either not available or are available on a historical-cost basis. The use of historical-cost estimates is inconsistent with the underlying rationale for Q--a comparison of market valuation and replacement costs.(4) Analysts may differ on whether it is preferable to use some historical-cost components or to omit them and to thereby exclude some potentially important variables.

Fortunately, ratios constructed from various definitions all display quite similar patterns over time, and in light of the difficulties involved in measuring both the numerators and the denominators, the patterns of movement may be more important than the levels of the ratios. Three variants of the measure for domestic nonfinancial corporations are shown in chart 2; other variants would show much the same overall picture.(5) All the ratios drop sharply in the early 1970's, stay relatively low until the early 1980's, and then increase more or less rapidly through 1998. In recent years, the increases have been particularly dramatic. Two of the ratios reached record highs in 1998. The narrowest measure--the market value of equities outstanding divided by the replacement cost of reproducible tangible wealth--increased to 1.36 from 1.09. A broader measure that includes corporate bonds in the numerator increased to 1.58 from 1.30. The broadest measure, which includes corporate debt in the numerator and financial assets in the denominator, increased to o.99 from 0.85.

[CHART 2 OMITTED]

NOTE.--This note was prepared by Daniel Larkins.

(1.) Corporate profits and net interest are based on tabulations of "company" data rather than "establishment" data. As a result, property income for domestic nonfinancial corporations may include income earned by financial establishments of those corporations; similarly, it may exclude income earned by nonfinancial units of financial corporations.

For a discussion of the industrial distribution of NIPA series, see Eugene P. Seskin and Robert P. Parker, "A Guide to the NIPA'S," SURVEY 78 (March 1998): 42-43. For a discussion of definitions and classifications underlying the NIPA'S, see U.S. Department of Commerce, Bureau of Economic Analysis, National Income and Product Accounts of the United States, 1929-94, vol. 1 (Washington, DC: U.S. Government Printing Office, April 1998). For a discussion of the wealth estimates, which are on an establishment basis, see Arnold J. Katz and Shelby W. Herman "Improved Estimates of Fixed Reproducible Tangible Wealth, 1929-95," SURVEY OF CURRENT BUSINESS 77 (May 1997).

(2.) See William C. Brainard and James Tobin, "Pitfalls in Financial Model Building" American Economic Review 58 (May 1968): 99-122. For additional references, see footnote 13 on page 10 of the June 1998 SURVEY.

(3.) Financial assets and liabilities mentioned in this paragraph are available from the Federal Reserve Board, Flow of Funds Accounts of the United States, Federal Reserve Statistical Release z.1 (Washington, DC: Board of Governors of the Federal Reserve System).

(4.) Some data are available to shed light on the difference between historic values and market values of corporate bonds. According to the Merril Lynch Bond Indices: December 1998 Results 20 (January 19, 1999), the market value of investment grade domestic corporate bonds at the end of 1998 was approximately 8 percent higher than par value.

(5.) For example, a variant incorporating a rough adjustment to convert corporate bonds to market valuation has very little effect on either the shape or the level of the ratios.3
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Publication:Survey of Current Business
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Geographic Code:1USA
Date:Jun 1, 1999
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