Only companies able to exploit market power have been able to increase profit margins since the start of the Ukraine war, according to a Bank of England study that found no widespread evidence of businesses gouging their customers.
The report published on Threadneedle Street’s Bank Underground blog said excess profits were confined to certain sectors of the UK economy such as energy and retail. It added that across the economy as a whole profits had fallen because businesses were facing higher costs.
The study marked the Bank’s first in-depth contribution to the “greedflation” debate – the idea companies are using the cloak of the rapidly rising cost of living to widen their profit margins.
Its authors, the Bank economists Sophie Piton, Ivan Yotzov and Ed Manuel, said some measures had shown increasing profits in the 18 months since Russia invaded Ukraine but these tended to conflate firms operating under market conditions with the public sector. These measures also omitted important corporate costs.
The authors said: “We construct an alternative measure of corporate profits to capture UK firm earnings in excess of all production costs. This measure has been declining since the start of 2022, consistent with evidence from historical energy shocks.
“This decline has not been uniform across firms, however: firms with higher market power have been better able to increase their margins; others have experienced large declines.”
Other studies, including one from the European Central Bank, have shown a widening of profit margins putting upward pressure on inflation, but the Bank of England economists said this had focused on the whole economy and included the self-employed and non-market sectors.
The Bank Underground blog said profits were what a firm earned in excess of all its production costs and that any measure of excess profits needed to take into account the cost of holding and replacing capital as well as wage bills.
Using this yardstick, the Bank economists said excess profits increased in 2021 during the rapid post-lockdown recovery in demand, consistent with markups increasing during the Covid recovery period.
“They started to decline, however, in 2022, when the Ukraine war started. This fall in excess profits partly reflects higher capital costs for firms who are now experiencing higher interest payments to service their debt (due to rising interest rates since start-2022).”
While admitting that it lacked “granular data” on companies’ markups since the higher energy prices aggravated by the start of the Russia-Ukraine war, the study said the latest energy shock had a similar impact to those dating back to the early 1970s.
“The excess profit share and mark-ups decrease across all energy shocks, including that in 2022,” said the authors.
But the study stressed the aggregate fall masked significant differences across sectors, with markups rising “significantly in the mining and quarrying sector (driven by oil and gas extraction firms), as well as in some other sectors (eg wholesale and retail)”.
It also found profits were more negatively affected for companies in energy intensive industries, and less negatively affected for those with fewer competitors.
