Three strategic ways to grant supply chains resilience

Relevance: Building supply chain resilience

Synopsis: Companies need to ensure resilience of their input supply chains to protect themselves from any turbulence during global shocks like COVID and natural calamities hitting the clusters of input suppliers.

Background

Automobile and electronics makers worldwide have had to reduce output because a severe drought in Taiwan hit the island’s production of semiconductors. This and other global supply-chain disruptions, many of them caused by the covid pandemic, have prompted advanced economies to take steps to mitigate the potential impact.

• The current global semiconductor shortage also illustrates how geographic clustering of input suppliers can cause supply-chain disruptions on a global scale.

Before moving forward, lets understand the meaning of the term – ‘supply chain’.

What is a supply chain?

The supply chain includes all the activities, people, organizations, information, and resources required to move a product from inception to the customer. For eg: This is how a supply chain in consumer goods space would look like –

• Raw materials -> Production -> Packaging -> Shipping -> Warehousing -> Delivery -> Retailing.

Each stage of a supply chain is essentially a different industry, for example, raw material extraction and manufacturing.

Hence, supply chain is an entire system of producing and delivering a product or service, from the very beginning stage of sourcing the raw materials to the final delivery of the product or service to end-users.

Impact of supply-chain bottlenecks

Supply-chain bottlenecks can have a significant economic effect. For eg:

• Germany: Germany, for example, imports 8% of its intermediate products from low-wage countries. Problems with input deliveries recently led Germany’s Ifo Institute to lower its forecast for German gross domestic product (GDP) growth this year by almost half a percentage point to 3.3%.
• USA: The US relies on low-wage countries for 4.6% of its inputs. In June, a task force presented its assessment of America’s supply-chain vulnerabilities across four key products: semiconductors and advanced packaging, large batteries of the sort used in electric vehicles (EVs), critical minerals and materials, and pharmaceuticals.

The question is – Do firms really need state help to protect themselves from supply-chain troubles?

Ways to strengthen supply-chain resilience

There are three ways advanced-economy firms can make their input supplies more resilient, and only one of them requires government involvement.

1]. Re-shoring production from developing countries: One option is to re-shore production from developing countries. COVID-crisis, by increasing the relative costs of supply chains, has accelerated a re-shoring trend that began with the 2008-09 global financial crisis. Supply chains have become more expensive. The price of containers used to ship goods from Asia to the West have risen eightfold.

• Re-shoring means to transfer a business operation that was moved overseas back to the country from which it was originally relocated.

2]. Creation of large inventories: A second way for firms to insure against supply-chain shocks is to create large inventories.

3]. Diversification of input sources: Companies can dual-source or even triple-source inputs, relying on suppliers from different continents to counter the risk. But this diversification strategy has its limits. For example, a highly specialized supplier that invests in research and development for a specific input is not easily replaceable.

• Heavy regional concentrations of suppliers also make diversification difficult. Most producers of chips, battery cells, rare earth materials and pharma ingredients are based in Asia.

Government’s role

Governments can play a useful role by helping provide firms with more potential alternative suppliers.

It can provide incentives to firms to move into sectors with high vulnerability to supply disruptions.

Doing this the governments in the EU and US can ensure that a sufficient number of suppliers are available in both Europe and North America to hedge against the risk of disruption.

Way forward

The world has recently experienced a cascade of supply-chain disruptions, and will likely suffer from more global pandemics and extreme weather in the future.

Business leaders and policymakers must think about how to minimize the effects of such shocks on production networks and the global economy and when government should step in.