Increase in UK Corporate Profits Sparks Examination of Bank's Position on Prices

18 Aug, 2023

Increase in UK Corporate Profits Sparks Examination of Bank's Position on Prices

Amidst assertions of profiteering's significant role in the UK's inflation narrative, official figures reveal a notable boost in the profitability of British companies. The recent data indicates that these businesses have shielded themselves from cost pressures, prompting discussions about the implications of their increased profits.

As global attention turns to the topic of inflation, Joe Biden's remarks on the correlation between declining corporate profits and tackling inflation in the US provide context. Against this backdrop, the Office for National Statistics released figures on Thursday, unveiling a surge in UK business profits during the first quarter of 2023.

A closer look at the numbers reveals that manufacturing firms raised their net rate of return to 8.8% in Q1, up from 8.4% in Q4 2022. Similarly, services companies, constituting a substantial portion of economic activity, witnessed their net rate of return climb to 16.1%, marking a 0.4 percentage point uptick from the last quarter of 2022.

The net rate of return serves as a metric for profitability, showcasing the margin between operational profits and the cost of assets deployed to generate those profits. In response to these developments, unions have alleged that companies are inflating prices beyond the scope of cost increases, dubbing the trend "greedflation."

The stance taken by the Bank of England, which contends that minor fluctuations in corporate profitability demonstrated by ONS data provide little evidence of profiteering, adds further fuel to the discourse. The Bank has consistently urged wage restraint among workers and downplayed the necessity of intervening to curtail price hikes.

On the opposing end of the spectrum, an increasing number of academics, think tanks, and unions voice dissent. The TUC's General Secretary, Paul Novak, expressed astonishment at the ONS statistics, arguing that they underscore a prevailing sense of entitlement among major corporations, which he attributes to higher prices.

Sharon Graham, the head of the Unite union, a key advocate for researching corporate profits in the UK, accused companies of exploiting the crisis. In contrast, Philip King, a former government adviser and former Small Business Commissioner, suggested that many small and medium-sized enterprises might find the situation less alarming. King noted that the data indicates companies are maintaining profitability even amid challenging trading conditions, attributing blame to larger businesses. He noted their greater flexibility in raising prices and cutting costs.

Leading entities such as the International Monetary Fund (IMF), the Organisation for Economic Co-operation and Development (OECD), and numerous prominent academics argue that stable profit margins reflect businesses outperforming other participants in the economy, especially workers.

An OECD report from the previous month revealed that average profit margins in the UK had surged by nearly a quarter between late 2019 and early 2023. Stefano Scarpetta, an OECD director, noted the unconventional nature of profit growth during a period of economic slowdown.

George Dibb, an economist at the IPPR think tank, contested the Bank of England's assertion that consistent profit margins lack significance.

A more in-depth examination of the headline average reveals a slightly more complex situation. Overall, the net rate of return for all non-financial businesses, excluding banks and insurance companies but including North Sea oil and gas firms, rose from 9.8% in Q4 2022 to 9.9% in Q1. This suggests that profit margins remained stable, despite challenging circumstances characterized by rising living costs and reduced disposable incomes.

However, when excluding North Sea oil and gas firms, which experienced a profitability dip in Q1 due to falling energy prices, the level of profitability for most companies surged from 9.6% in Q4 2022 to 10.6% in Q1 2023.

Richard Murphy, a professor of accounting at the University of Sheffield, argued that modest wage increases in sectors beyond financial services imply that larger companies are likely performing significantly better than smaller counterparts. He highlighted the contribution of small and medium-sized firms to half of all UK company profits, with the remainder generated by a relatively small number of larger enterprises.

Anticipated interest rate hikes in the upcoming month, coupled with the Bank's probable rationale of rapidly increasing wages rather than surging profits, are poised to intensify this contentious debate.