How to Fix Global Supply Chains for Good

The difficulties plaguing global supply chains have captured the world’s attention in recent weeks, illustrated in the media by pictures of empty store shelves and cargo ships waiting at sea. The Joe Biden administration has taken some steps to tackle the immediate challenge, opening the Port of Los Angeles to 24/7 operations and enlisting the help of private companies to move goods, for example. However, these supply chain issues will likely persist for the next six months to a year, possibly even longer.

Some of these challenges reflect the unbalanced nature of consumer demand—heavily skewed toward goods and away from services—a notable feature of the postpandemic reopening. Another chief factor is the dramatic decline in workforce participation. Federal Reserve Chairman Jerome Powell suggested in a recent press conference that this will right itself eventually “with further progress on containing the virus” [PDF], as workers will be less fearful of returning to work. There are some signs that the supply chain bottlenecks are easing up a bit.

However, even if the current crisis is resolved over the next year or so, there are systemic issues that should be addressed so that global supply chains will be more resilient to future shocks. Some of these problems are unique to the United States, while others are present around the world.

Transportation Troubles

Labor shortages in the transportation and warehousing sectors have been among the most significant contributors to the strains in supply chains in the United States and other countries, as cargo unloaded at ports is unable to reach their destinations on time. Though the pandemic has led to labor shortages in many sectors, truck-driver shortages were an issue even before the pandemic. However, in the United States, the problem is not a lack of licensed truck drivers. Many of these drivers simply prefer jobs at factories, construction sites, and warehouses that offer similar wages without the long hours and harsh working conditions. As a result, retention is a massive problem in the trucking job market, which averaged a staggering annual turnover rate of 94 percent between 1995 and 2017. Higher wages could help to address the problem; trucking companies have indeed been raising wages recently to deal with the backlog at ports, and, in turn, the number of working truckers has gone up. But there is still an estimated shortfall of around eighty thousand drivers. This is partly because wages have been rising in other sectors as well, making the increased trucking wages less attractive.

Wages are just part of the story. Working conditions for truck drivers should be improved by investing in infrastructure. Currently, drivers wait in line for hours without bathroom breaks at ports that have not been upgraded for decades. They can also spend hours looking for overnight parking, which increases both hardship on the job and inefficiency, as this time is better spent on the road and delivering goods. The bipartisan infrastructure bill recently signed into law addresses some of these issues. It includes $17 billion for upgrading the nation’s ports and $110 billion for upgrading roads, bridges, and highways. However, it does not include funding for truck parking, a major demand of the industry. These and other investments in infrastructure, along with more competitive wages, would not only help eliminate the driver shortage, but also make trucking more efficient. Congress and industry leaders should take similar steps for other transportation industries, such as shipping, whose workers also face poor working conditions.

Rethinking Just-in-Time Manufacturing

Just-in-time or “lean” manufacturing was popularized by the Japanese automaker Toyota in the 1970s. It involved ordering just enough components at just the right time for production. This cut down on the costs of excess inventory and warehousing—and raised profits. As Toyota gained an edge over its American competitors, this mode of manufacturing was embraced not just by automakers, but by a range of companies. Today, it is the dominant mode of manufacturing worldwide. However, there is no room for error; a single delay jeopardizes the whole process.

This has proven to be a risky strategy, as there are always factors outside the supplier’s control. What is gained in terms of supply chain efficiency and speed is lost in resiliency. The pandemic is only the latest example. Supply chain disruptions due to natural disasters, such as earthquakes, floods, and hurricanes, cost billions of dollars in lost output and revenue. Such events are likely to increase in frequency in the years to come due to climate change. Disruptions caused by the pandemic and natural disasters would have been challenging under any circumstance but they were certainly made worse by the world’s increased reliance on just-in-time manufacturing. Even after the current crisis passes, companies should rethink this model and keep stockpiles to increase resiliency, even if it is at the cost of short-term profits.

Time to Diversify

The pandemic also placed renewed focus on the hot-button issue of diversifying U.S. supply chains and reducing reliance on China, which has been the “factory of the world” for decades. This issue was already under discussion prior to the pandemic and was one of the motivations for President Donald Trump’s trade war with Beijing. When COVID-19 first emerged in China, the country’s factories shut down, causing massive supply chain disruptions for companies dependent on Chinese production. Though the virus eventually spread to the rest of the world, forcing factories everywhere to halt operations, the initial months of the pandemic were still a reminder of the risks of overdependence on one country or region. The next crisis could be China-specific; for instance, the country is currently struggling with power generation, forcing some factory closures. Rising geopolitical tensions between the United States and China could also make continued reliance on China risky. For these reasons, many observers are starting to conclude that rerouting some supply chains would mitigate future risks.

The United States should be realistic about its ability to reshore manufacturing to ensure supply chain resilience. This can likely only be done for technologically advanced, research-intensive production such as semiconductor and battery manufacturing. The United States probably cannot compete in more labor-intensive manufacturing due to its higher labor costs. Other developed countries facing the same challenge have devised national policies to reroute some of their production to lower-cost nations other than China. Japan, for example, is incentivizing moving production to countries such as Vietnam and Thailand. Even without a concerted national policy, companies including Apple and Samsung have begun to move some of their production outside China. The Biden administration has noted the need to reduce dependence on China and other countries for strategically significant goods, such as rare earth elements. Nearshoring to countries such as Mexico could both reduce dependence on China and shorten U.S. supply chains for a range of products.

However, even with these steps, China remains perhaps the only country with competitive labor costs, enough skilled labor, and the infrastructure to meet much of the global demand for manufactured goods. It will thus likely remain an important part of global supply chains for the foreseeable future. The goal is not to shut China out of global supply chains, but to diversify supply and reduce overreliance on any one country.

A Real, Risk-Based Understanding

In most companies, the understanding of supply chains is incomplete, often fragmented across the enterprise and viewed through a “cost” perspective. Surveys of chief procurement officers (CPOs) by KPMG, Deloitte, and the Business Continuity Institute have all shown that one-half to two-thirds of these professionals do not have full visibility of their supply chains, and they have almost no visibility into the supply chain below their company’s direct suppliers.  Even as CPOs admit they have a limited view, their risk-management colleagues understand that supply chains can be major vulnerabilities.

Given the experience of the pandemic and the recognition of the lack of visibility and the risks, it is time for data analysis to drive understanding and management of supply chain risk. Modern tools such as scenario analysis, probabilistic and stochastic modeling, and industry-wide event cataloguing can all play roles. Companies should consider adopting formal supplier risk-management policies akin to those that have been a staple for financial services firms for decades. The goal of this work is to develop not just the lowest-cost supply chain, but rather the optimum supply chain, one that is adjusted for risk and uncertainty.

The current supply chain crisis, though likely temporary, should prompt action to address some of these underlying issues that have long plagued the system. Doing so would make supply chains more resilient against the next shock.