Making & Paying for Stuff:  In a most basic sense, how much stuff everyone can have depends on how many people are making stuff times how much stuff each person can make.  And corporate profits equal the difference between the price at which that stuff can be sold and the cost to produce it. 

Productivity = ↓ | How much stuff each person can make (productivity) fell for the 3rd quarter in a row in 2Q16, dropping -0.5% QoQ (-0.4% YoY) and marking the longest streak of negative sequential growth in 37 years.   Protracted declines in productivity inevitably flow through to real earnings growth and can persist for only so long until it feeds back negatively on hiring decisions.

Input Costs > Output Prices | Payroll growth rising faster than output growth is a different way of saying that productivity is going down.  And with Unit Labor Costs rising  +2.1% YoY and growing at a premium to output prices, the cost to produce stuff continues to grow faster than the price at which that stuff can be sold.  This, as we’ve seen in recent quarters, manifests as margin compression and lower corporate profitability.  Labor market strength is paid for via lower profitability and a declining share of natinal income flowing to capital. 

Given the labor and GDP data for 2Q we knew the official productivity and cost data for the quarter were going to be underwhelming but the print reflected a worsening trend.  If productivity remains negative and aggregate wages continue to rise faster than Nominal GDP, the current expectation for mid-teens SPX earnings growth over the next year will look increasingly quixotic.

0 for 3 | Productivity ↓, Costs ↑, Margins ↓ - Productivity QoQ   YoY

0 for 3 | Productivity ↓, Costs ↑, Margins ↓ - Labor vs Output

0 for 3 | Productivity ↓, Costs ↑, Margins ↓ - Input vs Output Prices

0 for 3 | Productivity ↓, Costs ↑, Margins ↓ - Productivity vs Real Earnings

0 for 3 | Productivity ↓, Costs ↑, Margins ↓ - SPX Operating Margin

0 for 3 | Productivity ↓, Costs ↑, Margins ↓ - Labor s Share of Income

Christian B. Drake

@HedgeyeUSA