The Great Profits Deflation

When the stock market took a depressing plunge last year, investors found out that advance estimates of rapid earnings growth were often the hallmark of imaginative stock promotion and simple overoptimism. Many an earnings report turned out to be disappointing indeed. The scandals that followed such discoveries are still rocking the accounting profession and the world of corporate finance. Now the Commerce Department's Office of Business Economics has revealed that profits have been even weaker than originally announced.

Last May, on the basis of public reports by companies and some tax returns, the OBE estimated that corporate gross profits in 1970 were $81.3 billion. In July, on the basis of more up-to-date tax filings, the bureau sharply cut that estimate to $75.4 billion. The OBE also lowered its original estimate of 1969 profits from $93.7 billion to $84.2 billion. The latest revisions showed that profits were no higher in 1969 than they had been in 1966.

Why the discrepancies? Otto Eckstein, who is head of Data Resources Inc. and a member of TIME'S Board of Economists, argues that the most likely reason is that "average accounting practice may have deteriorated dramatically." He believes it is quite possible "that all the profit 'increases' between 1966 and 1969 were due to loose accounting, not to any improvement in real earnings. The stock market rose by over 30% during that period and then lost all its gain during the decline of 1969-70. Had earnings been as flat as they are now reported to have been, the stock market boom and bust would have been milder, and the economic boom would not have become so overheated."

In any event, U.S. business clearly needs to tighten its accounting methods and the Government needs to improve its statistical measures of profits. One reason: the formulation of an equitable tax base and sensible economic policy depends heavily upon reliable earnings figures.

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