Amidst the recent resurgence of inflation, this paper investigates the interplay of corporate profits and income distribution in shaping inflation and aggregate demand within the New Keynesian framework. We derive a novel analytical condition for profits to be procyclical and inflationary. Furthermore, we show that the cyclicality of profits is a key determinant of the propagation properties of these models under household heterogeneity, but there is a catch: for aggregate-demand fluctuations and inflation to be amplified by heterogeneity, profits have to be countercyclical—an implication that is at odds with the data. Adding physical capital investment to the model can resolve this conundrum, generating aggregate-demand amplification even under procyclical profits. However, the amplification works through an investment channel and not through profits, inconsistent with the narrative attributing elevated inflation to corporate greed.

Aggregate corporate profits are highly volatile and procyclical. Most dynamic general equilibrium models of the business cycle cannot deliver these basic features of the data. We develop a model of the U.S. economy in which firms expend resources to create intangible capital (IC), which is an additional input in their production technology. In keeping with the data, the model delivers profits that are many times more volatile than output. An estimated version of the model implies that IC investments are large and pro-cyclical. IC acts as a propaga- tion mechanism, generating inertial responses to shocks. Overall, the model fits the aggregate data much better than a model without IC. Business Cycles; Profits; Bayesian Estimation; Intangible Capital

the fall in household income. Corporate tax is generally based on profits, rather than revenue. In a recession profits tend to fall much faster than revenue In macroeconomics, automatic stabilizers are features of the structure of modern government budgets, particularly income taxes and welfare spending, that act to reduce fluctuations in real GDP. The size of the government budget deficit tends to increase when a country enters a recession, which tends to keep national income higher by maintaining aggregate demand. There may also be a multiplier effe Income taxes are generally at least somewhat progressive. This means that as household incomes fall during a recession, households pay lower rates on their incomes as income tax. Therefore, income tax revenue tends to fall faster than the fall in household income. Corporate tax is generally based on profits, rather than revenue. In a recession profits tend to fall much faster than revenue. Therefore, a company pays much less tax while having slightly less economic activity. Sales tax depends on the dollar volume of sales, which tends to fall during recessions. If national income rises, by contrast, then tax revenues will rise. During an economic boom, tax revenue is higher and in a recession tax revenue is lower, not only in absolute terms but as a proportion of national income. Some other forms of taxation do not exhibit these effects, if they bear no relation to income (e.g. property taxes, tariffs, or capitation taxes). Additionally, imports often tend to decrease in a recession, meaning more of the national income is spent at home rather than abroad. This also helps stabilize the economy.