The Federal Reserve wanted to cool off an overheating economy, but did it accidentally set us on course for an economic ice age? Nasdaq losses since the start of the year are now nearing 28%. The price of bitcoin plunged more than 20% in the past five days, slicing the cryptocurrency’s value to half its all-time high.
The financial turmoil has already started to translate into layoffs. Startups that found success thanks to the pandemic, like Cameo and Mural, began to lay off employees in the past week. Meta and Uber are scaling back spending as inflation rates soar, and share prices for companies like Peloton, Lyft, Netflix, Amazon and others are all down this year.
“Investor sentiment in Silicon Valley is the most negative since the dot-com crash,” David Sacks, a co-founder and partner of Craft Ventures, tweeted last week.
Perhaps scariest of all: Nobody knows how much worse things will get. Even after consecutive weeks of losses, the S&P 500 and Nasdaq are standing at multiples of prices from a few years ago. Inflation could also linger, which would send the U.S. into a cycle of stagnation that can’t easily be escaped.
Here’s everything you should know about rising inflation rates, the pandemic’s lingering effects on tech and how it’ll affect the labor market for large tech companies as well as startups.
Why did the Fed raise rates?
Central banks generally aim to keep inflation rates around 2%. Inflation in the U.S. has been hovering around a dizzying 8.5%, representing a four-decade high.
Beyond that, there have been plenty of signs of an overheated economy: Job openings reached new records in March; the home-price-to-income ratio hit absurd new highs; and people on the internet are paying $50,000 for monkey illustrations.
“Inflation is much too high,” Federal Reserve Chairman Jerome Powell said in a press conference earlier this month. “We are moving expeditiously to bring it back down. We have both the tools we need and the resolve that it will take to restore price stability on behalf of American families and businesses.”
The Federal Reserve turned to interest rate hikes and asset reductions to get the job done.
Last week, it raised benchmark federal fund rates to a target between 0.75 and 1%. That represents a 0.5% hike, which is larger than any increase attempted since 2000 (and tech veterans can remind you how that went). The Federal Reserve also signaled its intention to significantly reduce the $9 trillion in assets on its balance sheets. It accumulated the bulk of those assets in the form of government debt or mortgages, often as a means of stimulating the economy in hopes of avoiding a more serious recession.
With all of these policies, the Federal Reserve is attempting to find a middle ground of monetary policy that cools off the economy without putting it in a deep freeze. Stock prices are supposed to dip in response to interest rate hikes, but we don’t know how much worse things will get before tickers turn green again.
You could argue that we aren’t entering a recession so much as undergoing a correction. If you invested in Nasdaq at the start of 2019, you’d still have a return of around 80%, even after the recent streak of losses.
The bigger concern is that we’re entering a period of stagflation. Inflation might not even go down. If that happens while the economy still reels from the Federal Reserve policy changes, then we’re entering particularly dangerous territory. Investors will turn to cash because there are no attractive investments, yet that cash will lose much of its value over time due to inflation.
How is the pandemic still affecting tech?
At the beginning of the COVID-19 pandemic, people relied on tech more than ever to push them through the crisis, which sent stocks for streaming services, ecommerce companies and remote work software providers soaring.
Those companies can’t maintain the same success they found during the height of the pandemic. Peloton, for example, got wildly popular between 2019 and 2020 and is now struggling to find its footing. Netflix overestimated its near-term growth potential after welcoming a wave of new subscribers at the start of 2020. Shopify, Etsy and other ecommerce platforms are feeling the effects of people heading back to stores. Stock prices have fallen dramatically for tech companies that had hired in droves during the pandemic.
The lifting of COVID-19 restrictions has hurt some companies, but pandemic-related lockdowns in China are affecting others. Apple said lockdowns in the country are bound to continue hitting sales, while EV companies including Tesla are struggling to maintain production in the country. Lyft said it plans to increase spending to lure back drivers wary of returning because of the virus.
How is this affecting the labor market for large tech companies?
Buoyed by increased stock prices, the race to find top tech talent took off over the past couple of years. Even in recent months, unemployment rates for tech work fell and the job market for IT-related positions skyrocketed. Now, recent hiring pauses and slowdowns at Uber and Meta raise worries that tech jobs will become harder to get.
But Stephen Levy, director and senior economist at the Center for Continuing Study of the California Economy, said a pause in hiring doesn’t necessarily mean the labor market is on hold. The number of computer occupations, including web developers, software engineers and other tech roles, is expected to continue growing in the next decade, according to the U.S. Bureau of Labor Statistics. Large tech companies like Google and Meta are expanding their office footprints.
Hitting the brakes on hiring at a time of uncertainty — when inflation rates are high and the war in Ukraine is continuing to hit revenue — “doesn’t mean a whole lot,” Levy said.
“There is no decline in tech employment; there is only expansion followed by expansion,” he said. “The pauses may be true, but they are not reflective of the whole sector.”
What about startups?
VC investing has already contracted, but we don’t know how much worse things will get from here. In Q1 2022, VCs invested $70.7 billion in U.S.-based companies, according to PitchBook. That represented a 35% decline from the previous quarter. Early- and late-stage deals took the largest hit in terms of deal value, but deal volume rose for both.
But VC operates on a different cycle than public stock markets, and 2021 saw a record $120 billion raised, according to PitchBook. That money will get doled out over the next decade, providing a cushion to short-term fluctuations.
When it comes to startup deaths and downsizings, it's difficult to extract trends from a few notable stories. The fintech player Fast closed its doors because it couldn’t secure VC funding, but the company had under a million dollars in revenue despite having a monthly burn rate as high as $10 million. Better.com is another late-stage startup that went through an intense round of layoffs, but again, it probably had a lot to do with the specifics of that company rather than the broader VC market.
The funding outlook is ambiguous, according to Will Price, a founder and general partner at tech investment company Next Frontier Capital. “People are going to assume the worst and start kind of pulling back on spending,” Price told Protocol.
Price also said startup acquisitions could eventually ramp up, but only after valuations drop a lot more.