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What Economic Trends Are Shaping Startup Funding in 2022?

Revenue & Finances

Isadora Teich wrote this article

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2021 was the year of startup funding. In fact, there was so much capital flooding into them that some experts are starting to become suspicious and ask if we are in the midst of a startup bubble.

In these turbulent times, it is important to take a look at the trends which may shape startup funding.

After all, nothing happens in a vacuum. If there is suddenly an influx of capital into startups, or that capital dries up, there are likely a number of complex environmental reasons.

So, let’s take a brief look at the global economy and how that will affect startup funding going forward.

What’s Going On With The Economy Right Now?

In one word? A lot.

Due to the Coronavirus pandemic, many governments around the world have pumped cash into their national economies in various ways. In the US, the Federal Reserve has pumped trillions of dollars into the economy to keep things afloat.

China unveiled a $506 billion stimulus package. The EU released an $860 billion package called Next Generation EU. Many countries around the world are slashing interest rates and introducing pandemic relief programs.

So, in general, governments are pumping money into economies. In many countries, citizens received direct payments from the government. Where is this stimulus money going?

Consumers Are Not Spending, And It’s A Problem

The US economy depends heavily on consumer spending. In fact, about 70% of everything that happens in the US economy involves people buying stuff. This includes everything from daily necessities, to movie tickets, to services, to headlight eyelashes for their cars.

Data from Deloitte shows just how sharply the pandemic has turned the US economy on its head. In the year leading up to the pandemic, Americans spent nearly $10 trillion on things like eating out, entertainment, and shopping. However, that changed sharply in 2020.

As homes turned into offices and wider economic activity slowed, consumer spending suffered, and spending patterns suddenly changed. Travel, transportation, and restaurant spending were suddenly out of favor. Instead, people stockpiled food and other essentials, and spent more on home gyms, furnishings, and utilities.

Real personal consumption expenditure (PCE) fell in 2020 by 3.9%. People were spending less on services, travel, and leisure than ever due to fear, pandemic restrictions, and even closures. Instead, people who were able to were piling money into savings out of fear. Services took the biggest hit.

The personal savings rate ended 2020 at 14.2%, nearly double what it was in December 2019.

As medical care in the US is so costly, many people were trying to stockpile money out of fear of impending medical emergencies caused by the pandemic. Others were simply shaken by the uncertainty of it all and were inspired to prepare for the future with smart saving and investing.

Back To Startup Funding

So, what has all of this meant for startup fundraising? How has all of this led to startups amassing previously unheard-of amounts of capital in a short time in 2021?

Well, one thing the US, and many other governments have done, to keep their countries’ economies afloat is cut interest rates. This means that many traditional “safe” investments, like bonds and CDs, simply do not offer people that much interest. If you choose to do this with your money, it will not keep up with inflation. You will lose money.

This has led more everyday Americans to invest in the stock market. That’s why it has soared over the past year or so, with major indexes regularly breaking records. Many top executives seem to be of the opinion that this is coming to an end, and they have started to cash out.

Why Startups May Be A Better Option For Venture Capitalists

One approach to the stock market is that as consumers are not spending, prices will likely never recover should they ever come down. This means that large returns are no longer possible. However, as consumer prices surge, many people likely just can’t afford to buy as many things anymore.

As you can see, it’s complicated.

However, what about other asset classes?

When it comes to bonds, they do not offer massive return rates to anyone. That is not how they are designed. The Fed just announced that they will raise interest rates again in an attempt to lower surging consumer prices, however.

Crypto is another asset class that is incredibly hot and cold, and far from being a normalized investment. Real estate, while a more traditional and trusted asset class, is at a high and is likely to stay that way for some time.

For venture capitalists that want to make huge returns, startups are simply the best option right now. While this is likely to change at some point, it may remain this way going into 2022.

Startups, Especially SaaS, As An Asset Class

According to some experts, investors who want large growth simply don’t have the options that they used to. While many investors used to go into real estate or diversify internationally, these things simply don’t offer the opportunities they used to, at least right now.

As it stands, SaaS (Software As A Service) startups simply don’t need that much capital to get going, compared to many other types of assets. They can reach profitability a lot earlier on and get capital from a wide range of resources.

This is why we have seen venture capitalists pouring money into startups at earlier and earlier stages over the last year. These are the only stages where this type of company truly needs money.

According to data from financial data company Pitchbook, the median valuation of seed and early-stage startups in 2021 soared in America. In 2020, this number was $16 million. In 2021, it was $26 million. Last year, the median valuation was over double the median valuation of startups five years prior.

Final Thoughts

Some say that we are in the age of the startup bubble, and it would be almost impossible for these companies to deliver the kind of returns that venture capitalists seek.

So far, many of these hyped companies are severely underperforming. Some say that as more venture capitalists realize this, startup funding will cool down.

Others say that as general economic conditions cause other types of investments to lose viability, venture capitalists will have no choice but to keep pouring money into startups well into the future. According to Crunchbase:

2022 could be the best year for startup funding to date, in terms of total capital invested and diversity of investments. Significantly, it should be a breakout year for sheer returns, where it is likely to be the only asset class that delivers at scale.

Who exactly is right? Only time will tell.

What do you think? Comment below!

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