Tuesday, June 17, 2008

Higher Costs Squeezing Profits

Interesting Bloomberg news story about stock market earnings which makes two points. First, the U.S. stock market is still very expensive as the decline in stock prices have been more than compensated by an even bigger decline in earnings. By contrast, in many other countries, including Sweden, the decline in earnings have been smaller than the decline in prices. Combined with the fact that U.S. stocks were more expensive to begin, this means that U.S. stocks should be avoided in favor of stocks in other countries.

The other point the article makes is that part of the reason for the profit squeeze is that input costs have risen more than selling prices, squeezing margins. Falling margins imply that underlying inflationary pressures are stronger than what finished products would suggest, and implies that companies will henceforth be more reluctant to accept further margin reductions and more willing to pass on cost increases in the form of higher selling prices.


Anonymous Justin Rietz said...

I think it is important to differentiate between price increases caused by inflation and those caused by changes in supply and/or demand, i.e. changes in the relative price of goods.

(Note that with inflation, the price of all goods may go up, so when I say a relative price increase/decrease what I mean is the price differential.)

Inflation - at least if it doesn't turn into hyperinflation - will in the long run have less of an impact on business sustainability than changes in relative prices. Changes in the relative price of inputs will make it difficult for some business to survive, as their products may rely upon inputs that they can no longer afford given the level of demand for the company's products. In other cases, some businesses will be able to lower the relative price of their goods for sale due to a relative price decrease in inputs.

In addition, central banks may be able to fight inflation, but not the relative change in the price of goods which is important for policy reasons.

8:19 PM  
Blogger stefankarlsson said...

Justin-you assume that relative price changes are unrelated to monetary inflation, which is not true. Monetary inflation will both cause general price inflation and relative price changes. Specifically, it will particularly in the short term affect flexible prices like oil more than relatively sticky prices, like many consumer goods and services.

7:14 AM  

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