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Valuation, investment and the pure profit share

  • Pierre Lafourcade
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    This paper explores some implications for valuation and investment of challenging the standard assumption that there are no aggregate pure profits in the US economy. First, it highlights the theoretical importance of monopoly rents for fluctuations in average Q. A series for such rents is then computed by assuming that production is Cobb-Douglas, as fluctuations in the output share of pure profits may be inferred from variations in the labor share. Consequently, the paper focuses on the correlation between a measure of rents and observable average Q. It also reassesses the empirical disconnection between investment and a measure of marginal q purged of monopoly rents. The paper finds that the existence of pure profits as constructed from unit labor costs only accounts for about 5% of fluctuations in observed Q, and alters only minimally the empirical relationship between q and investment.

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    Paper provided by Board of Governors of the Federal Reserve System (U.S.) in its series Finance and Economics Discussion Series with number 2004-08.

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    Date of creation: 2004
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    Handle: RePEc:fip:fedgfe:2004-08
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    1. Andrew B. Abel & Olivier J. Blanchard, 1983. "The Present Value of Profits and Cyclical Movements in Investment," NBER Working Papers 1122, National Bureau of Economic Research, Inc.
    2. Robert E. Hall, 1999. "The Stock Market and Capital Accumulation," NBER Working Papers 7180, National Bureau of Economic Research, Inc.
    3. John H. Cochrane, 1997. "Where is the market going? Uncertain facts and novel theories," Economic Perspectives, Federal Reserve Bank of Chicago, issue Nov, pages 3-37.
    4. Hayashi, Fumio, 1982. "Tobin's Marginal q and Average q: A Neoclassical Interpretation," Econometrica, Econometric Society, vol. 50(1), pages 213-24, January.
    5. Rotemberg, Julio J & Woodford, Michael, 1996. "Real-Business-Cycle Models and the Forecastable Movements in Output, Hours, and Consumption," American Economic Review, American Economic Association, vol. 86(1), pages 71-89, March.
    6. Ricardo J. Caballero, 1997. "Aggregate Investment," NBER Working Papers 6264, National Bureau of Economic Research, Inc.
    7. Kocherlakota, N., 1995. "The Equity Premium: It's Still a Puzzle," Working Papers 95-05, University of Iowa, Department of Economics.
    8. Blanchard, O. & Rhee, C. & Summers, L., 1990. "The Stock Market, Profit And Investment," RCER Working Papers 233, University of Rochester - Center for Economic Research (RCER).
    9. Andrew B. Abel, 1998. "Risk Premia and Term Premia in General Equilibrium," NBER Working Papers 6683, National Bureau of Economic Research, Inc.
    10. Steve Bond & Jason Cummins, 2001. "Noisy share prices and the Q model of investment," IFS Working Papers W01/22, Institute for Fiscal Studies.
    11. John Y. Campbell & Robert J. Shiller, 1988. "Stock Prices, Earnings and Expected Dividends," NBER Working Papers 2511, National Bureau of Economic Research, Inc.
    12. Julio J. Rotemberg & Michael Woodford, 1993. "Dynamic General Equilibrium Models with Imperfectly Competitive Product Markets," NBER Working Papers 4502, National Bureau of Economic Research, Inc.
    13. Robertson, Donald & Wright, Stephen, 1998. "The Good News and the Bad News about Long-run Stock Market Returns," Cambridge Working Papers in Economics 9822, Faculty of Economics, University of Cambridge.
    14. Steven M. Fazzari & R. Glenn Hubbard & BRUCE C. PETERSEN, 1988. "Financing Constraints and Corporate Investment," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 19(1), pages 141-206.
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