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Factorless Income and Some Skepticism on the Case for Rising Markups

By May 17, 2018No Comments
Pro-Market Blog | May 17, 2018

If imputed payments to labor and capital don’t add up to GDP, what should be done with the residual? New research from Chicago Booth and the University of Minnesota discusses several alternatives and articulates some puzzles that arise if one simply interprets the residual as “economic profits.”

Macroeconomic models often assume perfectly competitive markets, whereby all income in an economy is accounted for by rental payments to capital and labor. If revenues significantly exceeded average costs, the argument goes, new firms would enter and compete away that profit margin. It is not so easy to verify this. Though “accounting profits” are observable on firms’ income statements, we care about “economic profits” in thinking about competition. Economic profits differ from accounting profits because they take into account implicit costs paid to equity and debt investors in order for firms to be able to finance their capital. One way to impute these costs is with a formula that economists call the user cost of capital, which takes into account the various opportunity costs of using capital in the production process.

It turns out that adding together these imputed capital costs and reported compensation to labor does not exhaust total income, or GDP, in the US economy. Rather, there is a large and time-varying residual that we refer to as factorless income, since it isn’t immediately attributable to capital or labor, the factors of production. In our paper “Accounting for Factorless Income,” we highlight three possible interpretations of factorless income, discuss the evidence for and against each one, and elaborate on the resulting implications for our understanding of macroeconomic dynamics during the past half-century.


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