Supply Chain Resilience

Concentrated capacity is a key feature of contemporary demand and supply networks. Well-designed bottlenecks enhance the speed, accuracy, and cost-efficiency of flows. But beautiful bottlenecks can become troublesome chokepoints, especially when demand is volatile or exogenous impediments emerge (e.g., natural disasters, government interventions, war…)

Here are three current examples: 1) Black Sea grain flows, 2) Gulf of Cadiz LNG flows, and 3) San Pedro Bay off Los Angeles.

The Black Sea Grain Initiative has been much more successful than I expected. Sustained demand has not surprised me. Prices have been bouncy, but comparatively higher. The level of Russian cooperation has surprised me. The risk-readiness of grain carriers has also surprised me. In recent weeks Russian cooperation has ebbed even as world demand and carrier readiness has, if anything, escalated. The outcome, according to the United Nations, is “There are currently over 150 vessels waiting around Istanbul to move and these delays have the potential to cause disruptions to the supply chain and port operations.” (See map below.)

Strong demand to build European winter inventories of natural gas resulted in higher prices that attracted more flows. Recent warm weather has reduced typical demand for autumn residential heating and a combination of an economic slowdown and high prices has reduced industrial demand for energy. LNG prices have fallen. Sooo… according to Reuters and others, “several” LNG vessels are anchored or cycling off European LNG ports. (See map below) “They are waiting for higher prices. If one single idling vessel discharges its cargo, the price will immediately collapse by affecting the other cargoes on the queue and this domino effect is so painful in terms of opportunity cost.”

Meanwhile, last week the Wall Street Journal reported, “The backup of container ships off Southern California’s coast that was at the heart of U.S. supply chain congestion during the Covid-19 pandemic has effectively disappeared.” In January there were over one-hundred vessels waiting to dock at LA or Long Beach. More recent queues are in the single digits. The Journal explains, “U.S. import volumes are declining, according to trade data analysts, and a growing share of the shipments are heading to ports on the East and Gulf coasts as importers ship away from the Southern California backup.” Reduced demand (here and here) and agile velocity

Constraints on preexisting push cause price increases. Higher prices tend to pull more flow, which will increase congestion unless a way is found around the constraints or to fix the constraints. These three examples — at least so far — suggest that when 1) demand is more need-based than want-based and 2) need-based demand can be effectually expressed (when pull can afford to pay the price), that flow will find a way to connect supply with demand. Exceptions have been seen and can easily be imagined. But the power of pull should not be under-estimated.

[Updates Below] Europe’s need to replace lost Russian energy supply has discombobulated markets, channels, and global flows. Nervous demand wants to pull more energy than long neglected and currently disrupted fossil fuel capacity can confidently — affordably — fulfill (more and more and more and more and more).

As a result of Europe’s precipitous pull on non-traditional channels (skewed by the prospect of a war-time winter) fuel prices are higher — which limits the ability of demand to pull much harder. European uncertainty regarding the ability to pull sufficient flows to fulfill minimum social and economic needs is a principal cause of global energy price volatility.

Given China’s zero-covid policies (more, and strengthened statism), Europe’s recession, and an induced counter-inflationary US economic slowdown, net global demand for energy is likely to remain off-peak for months ahead. But local shortages and price surges are also likely as mostly fixed capacity tries to adapt to (and exploit) the turmoil resulting from Russia’s invasion of Ukraine — and all its cascading consequences.

With care the behavior of this complex adaptive system can be broadly anticipated. It cannot — will not — be precisely predicted. In a personal effort to perceive emerging strategic context, I will give recurring attention to:

Frankfurt, Germany’s temperature (more and more, see below). This may be a meaningful indicator of energy demand in Europe’s densely populated industrial heartland.

Liquified Natural Gas (LNG) price futures, especially at Rotterdam (Dutch TTF, see below) and in comparison to the US Henry Hub. LNG constitutes a significant replacement proportion for lost Russian natural gas flows. Higher prices will signal supply falling below demand and/or fear of insufficient supply (more and more).

Diesel price futures, especially comparing Amsterdam-Rotterdam-Antwerp (ARA, see below) to New York Harbor ULSD. Even if LNG flows mostly match lost natural gas flows, there are myriad potential energy gaps. Diesel is a flexible gap-filler. But low diesel inventories and limited production capacity may be unable to close some crucial gaps (more and more).

Taken together these sources may provide early warning signals in terms of shifting directional balances between global demand and supply (admittedly with a trans-Atlantic bias).

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October 25 Update: Nice summary of immediate petroleum market realities from Bloomberg. Below is an Infographic from S&P Global that clearly complements the situational assessment I offered on Monday morning.

October 26 Update: Very helpful summary by S&P Global of the significant shifts in global demand for LNG as a result of Europe’s need to replace Russia’s pre-war supply of natural gas.

November 4 Update: Warm temperatures, less-heated economic behavior, full storage tanks, and better-than-expected supply have continued to suppress Europe’s immediate thirst for LNG. More than thirty LNG vessels are cycling off Europe waiting for prices to increase — some are even giving up and heading toward Suez searching for better markets farther east. EU access to LNG-alternatives — such as here and here — are watched almost as closely as the weather.

[Update Below] According to the Federal Reserve, Americans continue to purchase food-at-home well above pre-pandemic patterns. In August 2019 US consumers expended $999.1 billion on groceries and related. This August we spent $1028.5 billion. (These are each chained 2012 dollars, see chart below). For further comparison, in August 2012 we spent $845.7 billion. The US population increased about seven percent over these ten years.

This higher demand has persisted even after we returned to restaurants and other food-away-from-home services in Spring 2021. In August 2019 Americans spent $65,191 million at food services and drinking places. This August we spent $86,760 million (not inflation adjusted, here you can see comparable grocery retail sales). Our personal savings rate in August 2022 was less than half that in August 2019.

Another angle on food consumption is offered by the research and consulting firm IRI which finds current cash-basis demand in early October 2022 to be at least seven percent above October 2021 — thirteen percent higher in the “general food” category. As a result, after several weeks of improved demand-supply equilibrium, stock-outs are, again, beginning to proliferate and deepen.

There has been a softening of inflation-adjusted grocery expenditures since January (again, see the chart below). This is probably the result of historically very high food inflation plus reduced cash reserves. But especially given the persistent disincentive of inflation, for food demand to still be at least three percent above pre-pandemic trend has material implications for production and distribution capacity — and therefore flow.

In June I offered the following:

I hypothesize that between May and September we will see food-at-home real consumption gradually decline by another seven to ten percent and then flatten or incrementally increase. I hypothesize that durable goods and services will begin to show slopes similar to 2022 food consumption. I also hypothesize a more rapid rate-of-change than that for food between last November and April. 

With two months of data left to ingest, we have barely seen a one-percent decline in food-at-home consumption. Durable goods spending has been stable. Real services spending has continued to incrementally increase. Given my perception of actual need and inflationary disincentives interacting with economic and geo-political risk, I expected much more consumer restraint to emerge by now. If anything the opposite is true (more and more).

From May 2021 until August 2022 US wage growth was not only consistently higher but the rate of growth was increasing too. Last month’s wages (September) were still growing, but at a slightly slower rate. So — maybe — with more nominal cash flow many American consumers have chosen to avail themselves of “retail therapy” and comfort food to manage accumulating stress. This is not a satisfactory explanation, but it is the best I have right now.

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October 29 Update: Based on September’s real Personal Consumption Expenditures (see chart below), since the end of April constant dollar (inflation adjusted) expenditures on food-at-home have declined from $1,036.4 billion to $1,022.4 billion — or 1.4 percent. Real durable goods spending in September was basically flat. Expenditures on services, even in the most discretionary categories, seem very stubborn — much more stubborn than I expected.