Jeffrey Pfeffer, a professor at Stanford University’s Graduate School of Business, examines the common business practice of laying off workers in an economic downturn. In this essay, originally published in Newsweek in February 2010, he considers the effects of layoffs — for both workers and businesses.

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On Sept. 12, 2001, there were no commercial flights in the United States. It was uncertain when airlines would be permitted to start flying again — or how many customers would be on them. Airlines faced not only the tragedy of 9/11 but the fact that [the] economy was entering a recession.° So almost immediately, all the U.S. airlines, save one, did what so many U.S. corporations are particularly skilled at doing: they began announcing tens of thousands of layoffs. Today the one airline that didn’t cut staff, Southwest, still has never had an involuntary layoff in its almost 40- year history. It’s now the largest domestic U.S. airline and has a market capitalization° bigger than all its domestic competitors combined. As its former head of human resources once told me: “If people are your most important assets,° why would you get rid of them?” . . .

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It’s difficult to study the causal effect of layoffs — you can’t do doubleblind,° placebo-controlled° studies as you can for drugs by randomly assigning some companies to shed workers and others not, with people unaware of what “treatment” they are receiving. Companies that downsize are undoubtedly different in many ways (the quality of their management, for one) from those that don’t. But you can attempt to control for differences in industry, size, financial condition, and past performance, and then look at a large number of studies to see if they reach the same conclusion.

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That research paints a fairly consistent picture: layoffs don’t work. And for good reason. In Responsible Restructuring, University of Colorado professor Wayne Cascio lists the direct and indirect costs of layoffs: severance pay; paying out accrued vacation and sick pay; outplacement costs; higher unemployment insurance taxes; the cost of rehiring employees when business improves; low morale and risk-averse survivors; potential lawsuits, sabotage, or even workplace violence from aggrieved employees or former employees; loss of institutional memory and knowledge; diminished trust in management; and reduced productivity. . . .

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Some managers compare layoffs to amputation: that sometimes you have to cut off a body part to save the whole. As metaphors go, this one is particularly misplaced. Layoffs are more like bloodletting, weakening the entire organism. That’s because of the vicious cycle that typically unfolds. A company cuts people. Customer service, innovation, and productivity fall in the face of a smaller and demoralized workforce. The company loses more ground, does more layoffs, and the cycle continues. That’s part of the story of now-defunct Circuit City, the electronics retailer that decided it needed to get rid of its 3,400 highest-paid (and almost certainly most effective) sales associates to cut its costs. Fewer people with fewer skills in the Circuit City stores permitted competitors such as Best Buy to gain ground, and once the death spiral started, it was hard to stop. Circuit City filed for bankruptcy in 2008 and closed its doors last March.

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Beyond the companies where layoffs take place, widespread downsizing can have a big impact on the economy — a phenomenon that John Maynard Keynes° taught us about decades ago, but one that’s almost certainly going on now. The people who lose jobs also lose incomes, so they spend less. Even workers who don’t lose their jobs but are simply fearful of layoffs are likely to cut back on spending too. With less aggregate° demand in the economy, sales fall. With smaller sales, companies lay off more people, and the cycle continues. That’s why places where it is harder to shed workers — such as (can I dare say it?) France — have held up comparatively better during the global economic meltdown. Workers there are confident that they’ll remain employed, so they needn’t pull back on spending so dramatically.

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The airline industry provides a case study of the downside of retrenchment.° After the layoffs following 9/11, airline service deteriorated and flying became a truly unpleasant experience. That carried predictable consequences: the number of “premium” passenger trips, defined as full-fare coach, first-, or business-class fares (where airlines make their biggest margins), declined by 47 percent between 2000 and 2007. According to an industry survey published in 2008, in the preceding 12 months airlines had lost $9.6 billion in revenue as people voluntarily flew less because they found the experience so noxious.° In a fixed-cost industry like airlines, that was the difference between an industrywide loss and profitability. …

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As bad as the effects of layoffs are on companies and the economy, perhaps the biggest damage is done to the people themselves. … When people lose their jobs, they get angry and depressed — not a big surprise. Angry and depressed people who believe they have been treated unfairly can lose psychological control and exact vengeance on those they deem responsible. We have all seen too-frequent cable-news coverage of the fired employee who returns to the workplace with a gun and wounds or kills people. It’s not just the occasional anecdote. Research shows that people who had no history of violent behavior were six times more likely to exhibit violent behavior after a layoff than similar people who remained employed.

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And some research has looked directly at the health consequences of losing one’s job or being unemployed on mortality. A study in New Zealand found that for people 25 to 64 years old, being unemployed increased the likelihood of committing suicide by 2.5 times. When two meat-processing plants closed in New Zealand, epidemiologists° followed what happened to their employees over an eight-year period. The odds of self-harm and the rate of admission to hospitals for mental-health problems increased significantly compared with people who remained employed. A recent National Bureau of Economic Research working paper reported that in the United States, job displacement led to a 12 to 20 percent increase in death rates during the following 20 years, implying a loss of life expectancy of 1.5 years for an employee who loses his job at the age of 40. Even in societies with strong social-welfare provisions, job loss is traumatic. A study of plant closures in Sweden reported a 44 percent increase in the mortality risk among men during the first four years following the loss of work.

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Anyone who’s suffered a layoff or watched a loved one lose a job can understand why downsizees exhibit increased rates of alcoholism, smoking, drug abuse, and depression. In economic terms, we should think of these as “externalities”,° just like air and water pollution, since many of the costs of these behaviors and ailments are borne by the larger society.

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Despite all the research suggesting downsizing hurts companies, managers everywhere continue to do it. That raises an obvious question: why? Part of the answer lies in the immense pressure corporate leaders feel — from the media, from analysts, from peers — to follow the crowd no matter what. When SAS Institute, the $2 billion software company, considered going public about a decade ago, its potential underwriter° told the company to do things that would make it look more like other software companies: pay sales people on commission, offer stock options, and cut back on the lavish benefits that landed SAS at No. 1 on Fortune’s annual Best Places to Work list. (SAS stayed private.) It’s an example of how managerial behavior can be contagious, spreading like the flu across companies. One study of downsizing over a 15-year period found a strong “adoption effect” — companies copied the behavior of other firms to which they had social ties.

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The facts seem clear. Layoffs are mostly bad for companies, harmful for the economy, and devastating for employees. This is not news, or should not be. There is substantial research literature in fields from epidemiology to organizational behavior documenting these effects. The damage from overzealous downsizing will linger even as the economy recovers — and as it does, perhaps managers will learn from their mistakes.

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