From the violent May Day protests against capitalism at the turn of the millennium, in which participants targeted multinationals like McDonald’s, to the peaceful demonstrations outside Tesla’s London showrooms earlier this year, the UK has a long-documented history of hostility towards highly profitable firms. And it’s arguably easy to understand where the resentment comes from.
During the COVID-19 pandemic, while most of us were cooped up at home, certain organisations’ revenue soared. One study found that 21 per cent of adults believed large businesses negatively impacted Britain during the subsequent cost-of-living crisis. But are businesses really so villainous? And can firms ever make ‘too much’ profit?
A Question of Efficiency
Some argue that firms can be too profitable, particularly if they become lax.
When a business is in its infancy, there is a huge incentive to become more efficient. If smaller firms wish to maximise their profit margins and avoid the fate of 40 per cent of new businesses that failed in the last five years, they have to cut costs. Every penny saved makes a difference. The same cannot be said for the UK’s most profitable corporations. When you have firms (albeit a tiny minority) with an annual turnover of £10 million, losing a few thousand hardly matters. In theory, there is little incentive to improve efficiency or become more organised when a company is already generating high revenue.
This line of thinking, however, is not quite accurate. Yes, theoretically, the more profitable a business becomes, the less incentive it has to cut costs. But this ignores the importance of long-term gains. For many firms, choosing to reinvest a portion of their profits back into the business is a crucial part of the journey, allowing them to develop R&D and find new ways to streamline production. Assuming that firms become less efficient as they grow is a mistake. Instead, many use their profits to better their business and increase efficiency.
Power Over Prices
There is always a worry that businesses which make too much profit could inflate prices for consumers. For example, a report from the Institute for Public Policy Research found that firms with ‘excess profits’ exacerbated inflation during the cost-of-living crisis.
‘Our research finds that markets aren’t working efficiently, enabling large companies to make profits that likely amplified inflation,’ says Jung Carsten, Head of Macroeconomics at IPPR. ‘This has made the cost of living crisis worse for most people, and for many smaller firms across the economy.’
Their enormous market power meant large businesses didn’t just pass price increases to their customers; they charged them more. In doing so, they exploited consumers’ dependence on them and increased their profits at a time when other firms were struggling. Businesses with pre-existing large profits accounted for 90 per cent of nominal profit increases post-COVID, creating a vicious cycle where they became richer, and their customers, poorer.
‘Most wage earners have taken real losses while many businesses protected their profit margins or even raised them,’ Carsten explains.
But in reality, it is highly unlikely businesses could get away with such brazen behaviour again. Now, the IPPR and other think tanks are recommending greater taxation on excess profits, and we have regulations in place that prevent businesses from becoming too powerful, like the UK’s Competition and Markets Authority. The CMA has the power to fine businesses that are found guilty of exploiting consumers, meaning it is highly unlikely that firms, no matter how much profit they make, could escape punishment for artificially raising prices.
Economies of Scale
More often than not, large firms use their profits to lower their prices. They do so by achieving economies of scale. Economies of scale are the advantages a business gains by expanding and becoming more efficient. The more profits a firm makes, the larger it can grow. And, as a business grows, things become cheaper. For example, the difference in costs between running a van and a lorry is relatively minimal, yet the increase in the amount of products that can be transported and sold is exponential. The firms’ creditworthiness increases, making it cheaper to take on loans. Even its advertising costs fall.
All the while, its purchasing power rises. Imagine that you wanted to buy 30 chocolate bars at your local corner shop. How much would a single one cost you? A pound? Now imagine that you walked into Costco and bagged 30 of them for £18. The reason you can purchase the same amount of chocolate for £12 less at Costco is that it buys these bars in bulk, lowering its cost per unit, and passing that saving on to you. By earning more profit, businesses have the funds to increase production, rewarding consumers with lower prices.
Endless Potential
Ultimately, a profitable business is a successful business. They have the power to boost both local and national economies and use their profits to champion good causes — like when Nationwide ran free dementia clinics to offer its customers tailored support, or when Morrisons gave away menstrual products in discreet packaging to vulnerable women.
In times of economic hardship, it can be easy to despise organisations that seem to be financially sound when ordinary people are struggling. But profitable firms can expand, bringing new jobs, increased spending, and higher economic growth.
The real question is not so much about how much profit a firm makes, but what it decides to do with it. Do its owners reinvest in the business and local communities, or do they squander the money on themselves? The choice makes all the difference.
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