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> As new investments contract, demand shrinks for services across the industry. As demand shrinks, fewer employees are needed and companies need to reduce headc

> As new investments contract, demand shrinks for services across the industry. As demand shrinks, fewer employees are needed and companies need to reduce headcount to avoid overspending relative to revenues. As someone who has only taken Econ 101 in college, can you explain 1) why the demand shrinks when there's not enough new investments? Shouldn't demand at least be the same overall (I mean I can see that fewer new houses are built, so the demand for timber might shrink. But that only explains the housing sector. I'd imagine the demand might stay constant for some industry such as transportation)? 2) Related to #2, if demand does not shrink by much, shouldn't the same number of workers be kept employed to fulfill the demand for goods? If it's true that the contraction of new investments causes shrinkage of demand, it means the economy is heavily reliant on industries/sectors which relies on new investments (aka growth)? Thank you in advance for elaborating your answer!

s1artibartfast 4y ago
To put it simply, a portion of demand today is speculative and based on the expectation of greater demand in the future. for example, you might buy 2x the material and labor you need for today's demand, because you need them to meet tomorrows higher demand.
opportune 4y ago
New investment is things like making buildings, investing in VC, making new machines for manufacturing. Those are funded by cash or loans. When interest rates rise more cash goes to seeking interest and less toward these physical investments, and less money is created de novo from loans to fund these things. It’s worth keeping in mind that money spent on new buildings and machines goes to wages of employees building them, which then goes to rents and food, and elsewhere throughout the economy. For 2, yes and no. A lot of workers are employed doing things with low or speculative marginal ROI (example: Coca Cola starts funding R&D into a new line of beverages) because the cost of capital (taking a loan against cash flow or spending earnings on reinvestment instead of returning it to shareholders) is low. Increasing interest rates increases the cost of capital, the risk feee opportunity cost of spending money on more speculative pursuits like R&D. So now Coca Cola might instead choose to return that money to shareholders or not take out financing to start operations like that
amf12 4y ago
> why the demand shrinks when there's not enough new investments? The way I understand it: when interest rates increase, the ROI for any investment goes down, which makes many new investments risky or worthless. Thus investments in new projects go down, which reduces the demand. The investment could be a new shop, raw materials for new buildings, software projects, etc. When it's said the "demand" decreases, its not the want that goes away but the ability of people to realize the want that goes away. > if demand does not shrink by much, shouldn't the same number of workers be kept employed to fulfill the demand for goods? Depends. If the cost of doing business rises, the profit decreases. To maintain value, there could be a decrease in headcount increase or layoffs. > it means the economy is heavily reliant on industries/sectors which relies on new investments (aka growth) I think (and someone who is more aware can correct me), it boils down to the ROI. Why would any business investment in something with risk when the ROI doesn't make it worth it. If the risk-free interest rate 5%, any investment with a ROI of say 7% or below (higher for riskier investments) are out of the question. Any entity could make money by saving at the risk free rate.
rchaud 4y ago
Some of these questions won't be answered in Economics class, but may be in Management Science class (that's what they called in back in my day). Regarding your #2: Companies cannot adjust headcount in real-time. Economics is a 'social science' as a result; you cannot create experiments in controlled environments with randomly selected populations like you can with the natural sciences. Experiments of this kind happen do happen, but for small-scale things like behavioural finance among neighborhoods, rather than between billion-dollar companies. Layoffs are a human decision. As such, the logic behind them, and the timing of them, can't fully be explained by economic theory. One reason why workers are sacked even when demand remains the same, can simply be because there is a surplus of labour available at that time, and the company is betting that they can fire them and rehire at lower wages. Another reason is simply 'fitting in' with what everyone else is doing to meet Wall St expectations (or VC expectations). Look at the job cuts today: Stripe 14%, Lyft 13%, Mollie 15%. Why are they all the same? Because they are all in the 'tech' industry and valued by the same set of metrics.
drc500free 4y ago
Tech jobs are somewhat decoupled from true demand. They are usually inherently an indirect investment, not a direct cost. But when they and their activities go away, you lose the B2B demand that they had to accomplish their jobs and the B2C demand they had from spending their salaries. For example, my last 3 product jobs have been a business travel offering, an HR learning management tool, and a Predictive analytics tool for data scientists working in marketing. A lot of the users who paid the bills were some form of tech worker that were executing on projects that were future investments. Investors have been handed a truly mind-boggling amount of cash since 2008, but there hasn't been a lot of stimulus to the actual day-to-day economy. Valuations had to go up to accommodate this cash, and without a corresponding increase in consumer spending there's really only one lever in the financial model that drastically impacts valuation without seriously changing the core business: year-on-year growth. Most growth stories are laughably improbable, and the investors need plausibility to play the game. Fundraising turned into a story-telling competition of who could spin the most plausible growth story that is hard to verify and hasn't been disproved. That story is some form of "we will completely dominate market X, by building software that enables hyper-scaling with minimal unit costs, and that also includes AI/ML/Optimization (to be developed) that solves the inherently hard problems in this industry." That story is used for both VC-style external fundraising and internal project pitches, and it has crowded out most other approaches. A side-effect of that story has been a massive bubble in the jobs that can deliver on it - software engineers, designers, data scientists, product managers, etc. The game at most firms has been to keep kicking the outcomes down the road and claim that the hockey stick growth is right around the corner. That worked until interest rates went up and far-future cash became much less valuable. The CFO and the Fund now need to show results in the very near term, and the knives are being sharpened for departments and companies who can't deliver on that. Those departments and companies remove demand when they fold, and there isn't a clear immediate activity that returns quick cash to replace them.

s1artibartfast 4y ago

To put it simply, a portion of demand today is speculative and based on the expectation of greater demand in the future. for example, you might buy 2x the material and labor you need for today's demand, because you need them to meet tomorrows higher demand.

opportune 4y ago

New investment is things like making buildings, investing in VC, making new machines for manufacturing. Those are funded by cash or loans. When interest rates rise more cash goes to seeking interest and less toward these physical investments, and less money is created de novo from loans to fund these things. It’s worth keeping in mind that money spent on new buildings and machines goes to wages of employees building them, which then goes to rents and food, and elsewhere throughout the economy. For 2, yes and no. A lot of workers are employed doing things with low or speculative marginal ROI (example: Coca Cola starts funding R&D into a new line of beverages) because the cost of capital (taking a loan against cash flow or spending earnings on reinvestment instead of returning it to shareholders) is low. Increasing interest rates increases the cost of capital, the risk feee opportunity cost of spending money on more speculative pursuits like R&D. So now Coca Cola might instead choose to return that money to shareholders or not take out financing to start operations like that

amf12 4y ago

> why the demand shrinks when there's not enough new investments? The way I understand it: when interest rates increase, the ROI for any investment goes down, which makes many new investments risky or worthless. Thus investments in new projects go down, which reduces the demand. The investment could be a new shop, raw materials for new buildings, software projects, etc. When it's said the "demand" decreases, its not the want that goes away but the ability of people to realize the want that goes away. > if demand does not shrink by much, shouldn't the same number of workers be kept employed to fulfill the demand for goods? Depends. If the cost of doing business rises, the profit decreases. To maintain value, there could be a decrease in headcount increase or layoffs. > it means the economy is heavily reliant on industries/sectors which relies on new investments (aka growth) I think (and someone who is more aware can correct me), it boils down to the ROI. Why would any business investment in something with risk when the ROI doesn't make it worth it. If the risk-free interest rate 5%, any investment with a ROI of say 7% or below (higher for riskier investments) are out of the question. Any entity could make money by saving at the risk free rate.

rchaud 4y ago

Some of these questions won't be answered in Economics class, but may be in Management Science class (that's what they called in back in my day). Regarding your #2: Companies cannot adjust headcount in real-time. Economics is a 'social science' as a result; you cannot create experiments in controlled environments with randomly selected populations like you can with the natural sciences. Experiments of this kind happen do happen, but for small-scale things like behavioural finance among neighborhoods, rather than between billion-dollar companies. Layoffs are a human decision. As such, the logic behind them, and the timing of them, can't fully be explained by economic theory. One reason why workers are sacked even when demand remains the same, can simply be because there is a surplus of labour available at that time, and the company is betting that they can fire them and rehire at lower wages. Another reason is simply 'fitting in' with what everyone else is doing to meet Wall St expectations (or VC expectations). Look at the job cuts today: Stripe 14%, Lyft 13%, Mollie 15%. Why are they all the same? Because they are all in the 'tech' industry and valued by the same set of metrics.

drc500free 4y ago

Tech jobs are somewhat decoupled from true demand. They are usually inherently an indirect investment, not a direct cost. But when they and their activities go away, you lose the B2B demand that they had to accomplish their jobs and the B2C demand they had from spending their salaries. For example, my last 3 product jobs have been a business travel offering, an HR learning management tool, and a Predictive analytics tool for data scientists working in marketing. A lot of the users who paid the bills were some form of tech worker that were executing on projects that were future investments. Investors have been handed a truly mind-boggling amount of cash since 2008, but there hasn't been a lot of stimulus to the actual day-to-day economy. Valuations had to go up to accommodate this cash, and without a corresponding increase in consumer spending there's really only one lever in the financial model that drastically impacts valuation without seriously changing the core business: year-on-year growth. Most growth stories are laughably improbable, and the investors need plausibility to play the game. Fundraising turned into a story-telling competition of who could spin the most plausible growth story that is hard to verify and hasn't been disproved. That story is some form of "we will completely dominate market X, by building software that enables hyper-scaling with minimal unit costs, and that also includes AI/ML/Optimization (to be developed) that solves the inherently hard problems in this industry." That story is used for both VC-style external fundraising and internal project pitches, and it has crowded out most other approaches. A side-effect of that story has been a massive bubble in the jobs that can deliver on it - software engineers, designers, data scientists, product managers, etc. The game at most firms has been to keep kicking the outcomes down the road and claim that the hockey stick growth is right around the corner. That worked until interest rates went up and far-future cash became much less valuable. The CFO and the Fund now need to show results in the very near term, and the knives are being sharpened for departments and companies who can't deliver on that. Those departments and companies remove demand when they fold, and there isn't a clear immediate activity that returns quick cash to replace them.