A new look at how corporations impact the economy and households

New McKinsey report breaks down large firms in OECD countries three large takeaways, first their impact on GDP, “…The business sector overall contributes 72 percent of GDP in the OECD, and corporations with more than $1 billion in revenue account for an increasingly large share of that.Measured in real GDP per capita, the contribution of the business sector— defined as for-profit companies of all types including corporations, partnerships, and sole proprietorships—has tripled since 1960 on average in major OECD economies, in proportion with those economies’ overall growth. Companies underpin 85 percent of technology investment and 85 percent of labor productivity growth since 1995, a larger proportion than their GDP contribution. The size of the business sector varies only modestly within each of the major economies, and its share has remained steady for the past 60 years. However, this steadiness masks significant underlying shifts, notably the growth of corporations with more than $1 billion in revenue, which increased their global value added by 60 percent relative to their home countries’ GDP since 1995….”
Their breakdown of how value flows from large firms to households largely via labor income and consumer surplus, “…Economic value flows from companies to households via eight pathways, ofwhich labor income and consumer surplus are the largest direct pathways. Our mapping work identifies eight pathways through which economic value from corporations flows to households and the economy. Five are directly measurable monetary flows: labor income, capital income, taxes, investment in capital assets, and payments to suppliers. The money flowing through the supplier and investment pathways passes through other companies to reach households and the economy. The sixth is consumer surplus (the difference between what consumers are prepared to pay and what they do pay), which we estimate. The final two pathways are negative and positive spillovers, which we do not assess comprehensively beyond the examples of environmental impact and contributions to total factor productivity growth (unaccounted for in additional labor or capital input). Based on our data set of about 5,000 corporations with more than $1 billion in revenue,we find that labor income is the largest direct measured pathway, with wages and benefits accounting for $0.25 flowing to households for each dollar of revenue. Just over half of every dollar, $0.58, goes to suppliers (themselves companies large and small), reflecting the role suppliers play in enabling corporations to create and deliver their products and services. The other significant pathway is consumer surplus, which we estimate to be about $0.40 per dollar of revenue….”
How the pathways have changed overtime, “…The size of the pathways has changed over the past 25 years, with capital income growing while labor income and supplier payments have declined. Between the periods 1994-96 and 2016-18, the biggest change has been a two-thirds increase in the capital income pathway, from $0.04 to $0.07 per revenue dollar. Applied to the $40 trillion in revenue represented by our large company data set, this $0.03 difference amounts to an increase in capital income of over $1 trillion. The labor income pathway shrank by $0.02, or 6 percent, as labor per dollar of revenue fell by 15 percent and wages grew only 11 percent. Productivity gains amounted to 25 percent in real terms, significantly more than wage growth, as gains from labor productivity went predominantly to capital income. Investment in intangible assets tripled as a proportion of revenue in this period, while investment in tangible assets dropped by half. Supplier payments fell by $0.02, or 4 percent. The decline was especially steep for suppliers that were small and midsize enterprises, which saw a 10 percent drop in share of payments to suppliers in the United States, with similar patterns in other countries. The share going to domestic suppliers in each country also fell; about half of the decrease in supplier payments moved to foreign OECD suppliers and the other half to non-OECD suppliers. The tax pathway held steady overall as decreases in corporate taxes, especially in the United Kingdom and the United States, were offset by slight increases in production taxes, especially in Japan, and in corporate income tax in France….Decline in the share of the labor income pathway. Labor income from the corporations with annual revenue above $1 billion grew from just under $4 trillion to almost $10 trillion over the past 25 years (in 2018 dollars). However, this represents a lower share of the value that these companies add to the economy, as the labor portion of household income attributable to these corporations declined from 67 percent to 59 percent of the total.That difference is the equivalent of $1.2 trillion. This represents a steeper overall decline than domestic economies in the OECD generally. Japan saw the biggest decrease at more than ten percentage points, followed by Germany (five), the United States (four), and France (three). The United Kingdom saw a rise of four percentage points. A declining labor share puts pressure on incomes of lower-income households, who rely predominantly on income from wages for their livelihoods…. 5. Two diverging trends in the consumer surplus. On one hand, consumers in all household income segments have benefited substantially from the consumer surplus generated by large corporations, especially that from Technologists and Makers. The gains to consumers in OECD countries from these two company archetypes in our data set over the past 25 years amount to about $8 trillion in consumer surplus, compared with a scenario under which their prices of products and services stayed constant. On the other hand, price increases by Experts and Discoverers in our data set, especially for health and education services, correspond to more than $2 trillion in lost consumer surplus. This puts some of these essential services out of the reach of low-income households, at a time when the need for them has risen…”

McKinsey’s description

Approach 2: (Require time series variation in prices)

1. Assume price decrease is pure gain for consumers + additional gains because of more sales e.g. price falls from 5 to 4; assume consumers capture that whole dollar of value plus assume expanded sales because the price is now lower.
2. Use “hedonic price deflators” to adjust products for quality changes (really feature changes).
3. Bottom line - Consumer Surplus = (-1) * change in price * total quantity at new prices * quality adjustment …”

Ben Comment on McKinsey’s consumer surplus calculation: “A little bit of a black box but we can make some headway: Approach 1:

1. Assume firms and consumers split value equally
2. Look at firm's/industry’s value added and assume that this is the firm’s/industry’s portion of value (so consumer gets the same amount)
3. Adjust value added (therefore consumer surplus) “based on evidence of markups above factor costs.” Factor costs are estimated as the WACC (within firms or across industries).
4. Bottom line - looks like Consumer Surplus = price - WACC

So FRED uses the Penn World Tables For theirLabor Share,in 2019 US was.597 (in GDP at Current National Prices), in 2007 it stood at.604, down from.64 in 2001. McKinsey’s labor share number mirror that (This is from a2019McKinsey Note), not that 57% is likely lower than the 60% in the current report as the later looks only at large firms that are presumably more efficient than the broader economy.