Why Companies Slash Headcount and Not Salaries

It's been highly publicized that Wall Street is bracing for another significant round of layoffs. In fact, some banks, including Credit Suisse and Barclays Capital, have already begun to show hundreds of bankers the door. This latest round of cuts follows a similar one enacted a couple years back in the immediate aftermath of the financial crisis of 2008. And, again, as Wall Street (as well as firms outside the banking and trading world) stand on the threshold of wide-sweeping job cuts due to another dip in the economy, the question arises: why not just cut back on salaries instead of jobs?

The two-part answer is rather simple, and well known among managers nationwide, especially among those who've ridden several up-and-down business cycles.

The first part has to do with morale. That is, it has to do with keeping morale high, or, at least, preventing it from falling into the sewer. Which is typically where it ends up when a pay cut is enacted by management.

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When salaries and/or bonuses are slashed, employees, though their anxiety about losing their jobs is lessened, inevitably feel disrespected by management. And that disrespected feeling outweighs the feeling of thanks for still having a job. And in the short term, this disrespect can turn into working less efficiently, as the thinking goes: Why should I work so hard if I'm only getting paid x minus y as opposed to x?

That feeling of disrespect can also lead to the second part of the answer: retention. That is, disgruntled employees begin to look elsewhere for work.

Of course, during a significant economic downturn (like we saw in 2008 and 2009), in which many companies in an industry (and sister industries) cut back on salaries and jobs, it might be difficult for said disgruntled employees to find wealthier waters. But still, they will look wide and hard to leave. And, of course, the longer a pay cut lasts, the more liable employees are to find those wealthier waters and hit the road.

On the other hand, when managers opt to slash headcount, although they're putting people out of work, sending them to the unemployment line, many of whom depend on their paychecks to support themselves as well as families, the upside (for managers and their company) is that morale typically doesn't dip among the remaining employees once they realize their jobs are safe.

In fact, remaining employees often feel that they're the ones who made it through the tough headcount-slashing times because they are the better, more respected employees (which, of course, may or may not be the case). And, soon enough, remaining employees forget (oh how quickly they forget) about their cube partners' layoffs, and, in addition, they're nearly slap-happy not to have been hit with a pay cut.

There are some instances, though, where this might not be the case—where layoffs can result in a loss of morale.

Back in the early aughts, in the wake of 9/11, and at the outset of the war in Iraq, many investment banks made huge sweeping cuts. And the manner in which banks laid off bankers and traders, as well the additional rounds of layoffs (as opposed to just one big round), resulted in a significant loss of morale.

I recall some reports about bankers and traders being fired via voicemail and email. And other reports about employees fired in groups (as opposed to one-on-one meetings). This, along with banks saying they were done with cuts only to put several hundred more heads on the chopping block a few months later, resulted in employees losing all faith in their managers, not to mention losing all faith that they'd still have jobs come the following week.

Derek Loosvelt is the senior finance editor at Vault, where he oversees all finance-related print and online content, including the daily finance blog In the Black. He has a BS in economics from the Wharton School at the University of Pennsylvania and an MFA in creative writing from the New School. He has worked as a writer and editor for more than ten years, and his writing has appeared in various magazines and on several websites. Previously, he worked in investment banking for CIBC and Duff & Phelps.

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