When global turmoil meets economic theory

Starting from the tariffs of US President Donald Trump in April, the crisis exploded after the crisis, followed by a more strict US visa and immigration norms, the conflict of India-Pakistan in May, and Israel-Iranian face in June. Conclusion? Uncertainty that brings risks for corporate profitability through economic growth and expansion.

So, what is the connection between corporate profit and economy? Let’s find out what the economy says.

The profits of the institutional sector are derived from the interaction of four macroeconomic factors: Investment, government expenditures, household savings and current account balance. The relationship that connects the corporate profit to these macroeconomic variables is known as Levy-Kalecki identity.

This identity sees profitability in the corporate world with a macroeconomic lens, which offers a way to understand how institutional profits will act during the economic uncertainty.

The basic justification is simple:

• Investment: Companies create new income and snowfalls when they buy fixed assets and inventory. Therefore, higher private corporate investment is associated with higher corporate profitability (India saw it in the explosion of 2003-2007).
• Government expenditures: The purchase of goods and services from enterprises has a direct positive impact on profit.
• Household savings/expenditures: While government expenditures flow to common citizens, some or all of them are likely to be used to purchase goods and services for households, so it increases indirectly increasing institutional profits. However, household savings have an opposite effect, because savings represent a portion of household income that is not spent on purchasing goods and services.
• Current Account Balance: When we carry out an existing account deficit, there is a clear fund output to the rest of the world, which implies that these funds are not available for spending in India. Therefore, existing account deficits also have a negative effect on institutional profits.

Macroeconomic factors affect institutional profits in theory in theory. Now let’s see how it really is played.

Stacking Levy-Kalecki macroeconomic variables between 2014-2024 shows that private investment has decreased and the government has made most of the heavy lifting on this front. An example is 2020-21: When Pandemik private investment and household expenditures were cut, the government came to save expenditures.

However, these dynamics have changed now. New developments threaten institutional profitability on at least three fronts.

• First, the government’s determination to stay on the path of financial prudence means that the expenditure pillow may not exist to the same extent in the coming years. Effect? The theory says corporate profits will suffer.
• Secondly, household debt is already increasing. If the dominant uncertainty leads to work losses, it is likely that households will reduce optional expenditures. In other words, the household savings rate can return after three years downward trend. Effect? The theory says that corporate profits will suffer again.
• Third, if the voltages in West Asia increase crude oil prices, the current account deficit may increase (like inflation, reduces the ability of households to spend more). Effect? The theory says that corporate profits will suffer again.

Therefore, in summary, what we see now is a combination of macroeconomic factors that can be harmful to the profits of Indian companies.

So, where will the corporate profits come from? The only option is to increase private investments, which has been difficult for years.

The Indian Reserve Bank (RBI) ended its policy rate to reduce capital costs this year by reducing 100 basis points and pumping plenty of liquidity to the market. However, investment intentions turn into real capital expenditures only when companies are reasonable for future demand.

And the real problem lies here: both internal and export demand faces the head winds of uncertainty. Urban consumer confidence is stagnant and rural confidence only shows a modest increase. China has a high risk of pouring cheap goods into India. Export growth is threatened with increasing tariffs and trade protectionism. Under these conditions, it is difficult to expect an increase in private investments.

This makes us a chicken and egg: private investment follows the growth and this time the growth may need investment to increase.

At this point, the only thing we know is that companies will be careful about investment until the global situation is clearer. Therefore, although our economic foundations are better than it has been better than it has been better, any explosion expectation of corporate profitability will remain hostage at geopolitical risk.