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Crux of Capitalism
The countries and sectors with the highest economic profit concentration are not what you might expectÂ
An analysis of 21 economies between 2018 and 2022 finds that economic profit concentration is not limited to the âMagnificent Sevenâ âtechâ stocks â Alphabet, Amazon, Apple, Meta, Microsoft, Nvidia, and Tesla. Other countries and sectors face more severe economic profit dominance.
Our economic textbooks teach us that in markets where entry and exit are costless, perfect competition among firms will result in a tendency for economic profits (EP) to be eliminated. On this view, evidence of sustained positive economic profits implies that some firms have and exploit market power, which harms buyers and distorts resource allocation.
Nations with commercially unassailable superstar firms that make sustained economic profits are said to have problematic âwinner takes allâ dynamics. The âMagnificent 7â firms in the USA are said to be a leading example. But are economic â opposed to accounting â profits concentrated as well? As we have seen in earlier Insights, economic profits (EP) and accounting profits (AP) dynamics can diverge in meaningful ways.
Leveraging the Crux of Capitalismâs data set spanning 21 countries, we employ a bottom-up firm-based methodology to examine the concentration of EP creation by publicly-listed superstar firms over a 5-year period, 2018 to 2022. We computed two metrics:
- (i) the share of total national EP generated by the top 5% of most profitable firms; and
- (ii) the share of total national EP generated by firms with over $1bn in EP.
Similar shares were computed for nine sectors. We do not exclude firms with a negative EP. This pulls down the total national (or sectoral) EP and increases the computed shares (i) and (ii) outlined above.
To fix ideas, we first examined the distribution of economic profits in the USA in 2022, the latest full year for which EP data is currently available. . While there is an upper tail of highly profitable firms earning more than $1bn in EP, 57% of publicly-listed US firms are destroying value (have negative EP). Computing the shares mentioned above reveals the concentration of the national EP in highly profitable firms. Repeating this analysis for all 21 economies in our project reveals the following three findings:
First, in 15 out of 21 countries, the top 5% of publicly listed firms generate over 100% of aggregate (net) EP. In 2022, superstar firms in eight economies including Canada, India, Korea and Singapore accounted for over 140% of total EP in their respective countries. Meanwhile, superstar firms in Brazil, the Netherlands, Russia, Switzerland and the USA had combined EP generation below 100% of national EP totals in 2022. Despite the prominence of the âMagnificent 7,â the top 5% of US firms created âonlyâ 99% of net EP in 2022, putting them toward the lower end of 21 economies.
Second, a different pattern emerges when a $1bn threshold is used to identify superstar firms. On this metric, economic profit concentration tends to fall when compared with the total national EP generated by the top 5% most profitable firms. Divergent results arise in the five biggest economies in the world: the United States, China, Germany, Japan, and India. Only the US has similar profit concentration in both first and second metrics; the other four behemoths have lower levels. One reason is that US firms tend to be bigger than their international peers, with more than 5% of companies crossing the 1bn in EP mark
âAn emphasis on 'excess' profit creation may overlook deficiencies in the disciplining mechanisms for value-destroying firms.â
Third, the top 5% of most profitable firms generate over 100% of total sectoral EP in six out of nine cases. In 2022, industrials had the highest EP concentration (142%), probably due to economies of scale in production processes.
Communication services also saw a high EP concentration (128%), on the back likely of strong network externalities. This sector includes tech giants such as Google and Meta Platforms Inc, as well as telecom players such as Verizon. The utilities sector had negative net EP in 2022, possibly due to the fallout from the Russian invasion of Ukraine. Overall, sectoral economic profit concentration is not confined to tech sectors.
While the reasons for EP generation may differ from country to country, concentration of economic profit is a pervasive feature of contemporary capitalism. Importantly, concentration is not a uniquely American or tech phenomenon â casting doubts on critiques of capitalism that point to the exceptionalism of either.
Where positive economic profits are the result of unique corporate capabilities and hard-to-replicate strategies, rather than regulatory capture or policy-induced barriers to entry, they may reflect benefits to buyers and the broader economy. EP is like cholesterol, some can be good, some bad. Further work is needed to tease out the relative importance of each.
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