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Kalecki equation for judging economic health

Hey everyone,

Inspired by some posts in this website, I've been reading on the Kalecki profits equation and I've found it to be quite interesting, particularly the paper by the Levy Institute on where profits come from (https://www.levyforecast.com/assets/Profits.pdf).

For those unaware, the equation reads something like:

Profits = Net Investment + Government Deficit + External Surplus + Dividends - Household Savings

This equation allows for some interesting conclusions, namely the fact in a world of firms and workers, workers do not have to run a deficit (spending more than their wages) for corporations to have profits (earning more than the wages they pay) since investment adds to profits but is not an expenditure, thereby allowing for both firms and workers to run "surpluses". Another interesting conclusion, in line with Cullen's S = S +(S-I) identity, is that in aggregate terms saving = investment, since the S-I portion is derived from changes in net financial worth which is 0 at a global level, since all financial assets have a corresponding liability.

Either way, I was wondering how I could start using the equation as an economic diagnostic tool, to understand 1) how profits are likely to evolve given the multiple drivers but mostly 2) how one could use the equations and the values for each component to assess the health of an economy and the sustainability of its current profit levels.

Therefore, for those of you who use the equation as a tool, what do you usually look at to find macroeconomic imbalances and assess the sustainability and health of the economy and current profitability levels? What different combinations of values in each of the equation's components would generally classify economic health as "good" or "poor"?

Thank you.

Steve Keen listed two indicators he used to predict economic trouble ahead of the 2008 financial crisis: sectoral imbalances and the ratio of private sector debt to GDP (page 245 - 247): https://www.researchgate.net/publication/264701784_Predicting_the_'Global_Financial_Crisis'_Post-Keynesian_Macroeconomics

 

I think the equation is S = I + (S-I).  https://www.pragcap.com/yes-government-deficits-equal-private-surpluses/

 

Small gripes about the above profits equation:

Small gripe 1: I'm not sure where if at all this equation accounts for business debt.  If the business sector goes into debt to pay out dividends it seems like this equation only captures the dividends and not the debt liability.

Small gripe 2: it seems like when this equation says "household savings" what it means more precisely is "household savings not including dividends".  If both wages and dividends are income to households it is a little strange that one income increases business profits whereas the other does not.

 

Hi @MFTG,

This indicator is very very hard to put to practical use. The reason is because the relationship between the different variables is virtually impossible to predict. For instance, we can pinpoint the deficit for the foreseeable future, but we have no idea how household savings responds. And that's not even touching on the other sector responses. What's happening in China that might impact this? Or Europe? What about businesses? Which sectors? Etc etc.

I've had some success using this indicator by assuming household savings would remain low in the USA, but I admit that it's a very vague guess. It won't give you anything close to precise predictions. But it's still a reasonably good estimate for why the stock market is responding the way it is. It expects profits to recover in large part because of the huge deficit....Not sure that's right, but it makes sense, which isn't something you'll hear from most other people.

"Pragmatic Capitalism is the best website on the Internet. Just trust me. Please?" - Cullen Roche