The Trump/Sanders Hole

Macro man recently posted a series of charts on corporate profits and pointed to some possible evidence of mean reversion. That got me thinking about something I looked at a few years ago, namely the comparison of corporate profits and employee compensation, both as a percentage of GDP. In 1999 Warren Buffet made some comments about the unsustainability of corporate profits above 6% for very long, and indeed a story in Business Insider revisited these comments late last year. Since the mid-oughts, aside from a brief, though dramatic, dip during the financial crisis profits have been hovering at a higher plateau than the rest of the series going back as far as the BEA data. At the same time employee compensation has been continuing its downward trend which started in the mid-1970s. The result has been a historic divergence, creating what I will dub the "Trump/Sanders Hole":

(Click to Enlarge)

My theory is that the rise of Donald Trump and Bernie Sanders has almost everything to do with the combination of the stagnation of the middle class, which has been going on since the 80s (see census data on real median household income), with an increase in corporate profits, which accrue to shareholders, most of whom were already wealthy. In other words, "it's the economy, stupid".

Both Trump and Sanders are running on the anger of individuals who feel they aren't getting their fair share, it's just that if you're conservative then you are all about The Donald, whereas if you're liberal then you are likely feeling the Bern.

Getting back to unsustainability, this dynamic is already starting to resolve itself with the passing of some minimum wage laws in Seattle, New York, and California. More thorough analysis could determine how much convergence that will generate, and more policy is likely needed. As for a trade, this is probably bad for profits in the short term, which is negative for the S&P. Of course, while the first order effect of higher wages is bad, the higher wages are paid to people who will spend the money and generate revenues for some of those same corporations. But who can say which ones and maybe they'll first pay down debt with the extra cash? So it's probably ambiguous. My priors tell me, though, that convergence is growth-positive in the long run, if only because of the resulting political stability.