Marta Lavandier/AP Photo
A large container ship arrives at PortMiami, January 21, 2022, in Miami Beach, Florida.
The inflation rate continued its climb in March, according to statistics released on Tuesday. Topline inflation is now at an annual rate of 8.5 percent, the highest since 1981, bolstered largely by the war in Ukraine and the effect on oil and food production and distribution. However, core items (that is, leaving out food and energy) rose by a more moderate rate of 6.5 percent, the slowest increase since last September. This has given some hope for a break in the inflation spike, despite non-core items spinning upward.
This dichotomy, with indicators moving in both directions at once, is reflected across the economy right now. You can build a credible case that an imminent collapse is coming to the freight industry, thanks to a consumer goods spending slowdown that could trigger a recession. Or you could just as credibly say that there’s another imminent goods shortage on the horizon, masked by a temporary bump in inventory but set to strike the U.S. due to a massive logistical backup in China, as it battles its worst coronavirus outbreak yet.
But whichever one of these options comes to pass, the failure to protect the supply chain will be the ultimate culprit, and consumers rather than the elites who built the world’s commercial system will bear the brunt of the pain.
For the past few weeks, Craig Fuller, the CEO of supply chain analyst FreightWaves, has been predicting an accelerating freight recession. His data does show rapidly declining demand for trucking shipments, despite the spring typically being a busy month for carriers. “The only market this reminds me of is right after September 11th,” one large trucking company owner told Fuller.
To understand how we could go from record prices to a collapse in such a hurry, you need to understand something called the bullwhip effect. In layman’s terms, when there is high demand, retailers will over-order products to ensure that they have a reliable supply. That moves up the chain, to the wholesalers and the manufacturers. Once those orders come back through (like a bullwhip cracking back), demand may not be so high anymore, and retailers are stuck holding onto too many goods. They no longer need freight services to deliver, so there’s a crash in that market. Indeed, we’re seeing some retailers warn about crashing demand.
It’s important to understand how the particular post-pandemic challenges exacerbated this dynamic. Not only did you have high demand for goods, but you had uncertainty around shipments because of the supply dysfunction. In this environment, retailers were massively over-ordering to try to get any supplies through the system. As we described back in January, that means the slightest economic downturn would flip the shortages into a glut, as retailers would be stuck with inventory that they couldn’t sell. When a supply chain is that broken and unreliable, it forces retailers to take gambles on hoarding goods, hoping that the consumer will keep snapping them up.
Naturally, public policy, here and abroad, has been creating the downturn that retailers hoped wouldn’t happen. The Federal Reserve announced an interest rate path that has set expectations that are unfavorable for investment. Mortgage levels are already up, and this is probably why construction freight is softening, as demand deflates in the housing market. Meanwhile, Congress allowed the enhanced Child Tax Credit to expire, harming the financial picture for millions of families. And Russia’s invasion of Ukraine caused ripple effects on energy and food prices that ensured no letup on inflation, and continued declines in real wages.
So that all cracked the bullwhip harder. Piling inventories have spiked the already high cost of warehouse space, which is great for warehouse stocks but bad for anyone paying the exorbitant rates to store goods. And if a recession does hit alongside Fed efforts to slow down the economy, the effect will be far greater due to these stranded inventories. More businesses than normal have this glut, meaning more bankruptcies and fire sales.
That’s the bleak scenario: a deliberately cratering economy made more intense by supply chain uncertainty. But it’s also a story about the supply chain debacle of the past two years finally easing, as demand gets to a more sustainable level. However, another set of data portends a completely different picture.
That’s the bleak scenario: a deliberately cratering economy made more intense by supply chain uncertainty.
Most of Fuller’s data focuses on freight trucking. On ocean shipping, the picture is much more mixed, though that could be because it’s one more step removed from the consumer. Also in FreightWaves, Greg Miller notes that while West Coast ports have seen lower demand, with vessels off the coast of the Ports of Los Angeles and Long Beach reduced to around 40 from over 100, East Coast ports are starting to see an uptick in congestion, as shippers recalibrate away from the existing delays and a potential longshoreman strike. Shipping prices have similarly lowered on the West Coast and risen in the East. So is the snarl being unwound, or just transferred?
Add to this the indicators that any port easing is just the calm before a storm. Port congestion in China, particularly at the ports of Shanghai and Ningbo, is at astronomical levels. The Communist Party has shut down the city of Shanghai due to a COVID outbreak, and while the port is still open, the lockdown and testing has created a severe shortage of labor and trucks to clear out import shipments clogging up the docks. As a result, there are 477 cargo ships sitting off the Chinese coast as of this week. The Shanghai port cannot handle any more refrigerated containers because there are literally no available power outlets.
This has contributed to the humanitarian crisis in Shanghai, as the city struggles to feed its citizens. But it also suggests a much bigger supply snarl to come. Goods aren’t moving across the ocean, which means that retailers will have to work off existing inventories for basic supplies. They won’t last forever.
In other words, so long as the COVID risk worsens in China, the world’s largest manufacturing hub, we could be seeing a bullwhip effect followed by a second bullwhip in the opposite direction, where inventory glut turns back to shortage in a couple of months. As I’ve said previously, the supply chain is an agglomeration of a thousand moving parts that have to work in concert. Any disruption in a major part of that chain causes an unfolding cascade, with equipment not positioned properly and shippers left waiting for containers and trucks and whatever else they need.
More shortages from a second bullwhip would trigger another round of freight rate hikes, probably leading to more inflation. A depressed economy where reduced demand and more unemployment eases the supply chain and consumer prices is a bad way to bring down inflation, no question. But the second bullwhip scenario would be worse: You’d have the same problems with recession and unemployment but prices would still be high. Rising prices and rising unemployment is known as stagflation, and it’s just brutal for people who live through it.
Let’s be very clear: The unstable supply chain is the key driver of both the bullwhip scenario, and the potential resumption of shortages. We remain reliant on concentrated production hubs, like eastern China, for our goods. And the uncertainty about receiving shipments led to the over-ordering that enlarged the bullwhip.
The lack of resiliency in our supply chain has introduced hidden risk that has spilled to the surface over the past couple of years. If this experience doesn’t lead to a rethink about what we’ve sacrificed and risked in the name of globalization, I don’t know what will.
