What is rational for individual enterprises could spell gross irrationality at the level of the economy. Job cuts at a large number of companies,
in the wake of the slowdown, is a good example of this phenomenon. As individual companies try to cut costs and reduce the impact on their bottom lines by laying off workers, the cumulative result is to depress demand for what all companies produce in the aggregate. This accelerates the slowdown, and releases further pressure to cut costs. There must be intervention at the macro level to stop this vicious cycle.
The government has already announced two fiscal stimulus packages to boost demand. In addition, it might be a good idea to offer a purely temporary tax break for companies that do not lay off staff.
When a company lays off staff, the effect is not felt just on those laid off. The fear of further downsizing haunts the staff who remain on the rolls and dampens their enthusiasm for sizeable expenditure of any kind. Any plan to buy a home, replace a TV set or purchase a new car gets postponed. A whole lot of additional discretionary expenditure gets cut.
All of this hits demand in the economy. The laid off employees might default on repayment of home loans, mortgages might get forfeited and home prices could stay depressed or, worse, suffer expectations of further decline, triggering postponement of any decision to purchase, on the part of buyers, or build, on the part of builders. All this makes the slowdown worse.
For many companies, lay-offs are a defensive reflex action on the part of the management. Other companies in the same industry are laying off people. So if you don’t follow suit, your shareholders are likely to ask troubling questions.
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