As the flood slowly subsides

Contemporary high volume, high velocity supply chains organize around demand. The United States combines significant population with well above-average wealth. US demand motivates supply, both foreign and domestic.

Since December 2020 suppliers of US demand have been highly motivated. For example since last Christmas, US retail sales have increased from about $485 billion per month to over $565 billion (retail sales for November 2021 will be released later this week). This roughly 15 percent increase is the sharpest surge in the history of the measure.

In some product categories this increase has been razor sharp. Due to pandemic constraints, demand for many services (e.g., travel and eating-out) experienced stark declines. This reduced spending resulted in a personal saving rate of over 33 percent in April 2020, remaining significantly elevated until quite recently. With more cash on hand and pandemic constraints persisting, over the last twelve months US demand shifted from less tangible to more tangible products. For example, between February 2020 and October 2021, durable good purchases increased by nearly one-quarter.

Supplying this sort of swift increase and swerve in demand is not easy. Flows have experienced considerable friction and volatility. For example, according to the Logistics Managers’ Index, “In October, upstream respondents reported rates of growth 10.3 points higher than their downstream respondents. In November this flipped, and upstream respondents reported inventory growth was 10.9 points lower than downstream respondents. The shortages of retail goods this holiday season have not been as severe as they were predicted to be. This seems to have been largely achieved by firms spending heavily on warehousing and transportation to get goods downstream.”

Supply capacity for both warehousing and transportation is limited. There was certainly not a quarter-more capacity of either idly standing by (including, of course, each function’s work-force). As a result, prices for available warehousing and transportation have increased. Demand is mostly being fulfilled, but at higher costs… and with some delays and, almost certainly, with some shedding of low-margin places and people.

Given the competitive context, not all additional costs are being passed along. Several of the largest retailers are attempting to minimize price increases in an effort to protect and expand market share. But some increased costs are percolating through to retail prices, especially for fuel and food. From November 2020 to November 2021 the Consumer Price Index increased 6.8 percent, the largest increase since 1982. Part of this elevation reflects a one-third increase in the 2020-2021 energy index (2020 gasoline prices were unusually low). Year-Over-Year food prices in November were up 6.4 percent. In November apparel showed a YOY increase of 5.0 percent.

Financial and operational data confirm the challenge involved in preexisting supply matching surging demand (especially when complicated by pandemic-related problems). But flow has adapted and push is mostly fulfilling pull in most places for most Americans… who even now have slightly more money than usual to express their demand. Some have even begun to worry about excess inventories becoming a problem in the New Year.

Demand exploded. Flow adapted. To what extent has supply capacity changed?

My best answer is: I don’t know. The data with which I am familiar only offer tantalizing inferences. But my working hypothesis is: not much. At least not yet — and for most product categories significant capacity expansion strikes me as unlikely.

Not yet because the demand surge was so sudden. New warehouses do not materialize out of desert air. Because of structural changes in how high volume, high velocity flows are fulfilled, I expect a continued expansion in US warehouse capacity. But this is mostly due to swerving demand instead of surging demand. I do not expect recent increases in demand to survive far into 2022. I do expect the swerve, in terms of how and where demand is expressed, to persist.

Unlikely because transportation capacity is time-consuming and expensive to increase. Most maritime and air cargo players seem to perceive (accurately, I think) that the 2021 surge in US demand is unsustainable. Investments being made in future capacity are more about enhanced efficiency to serve incremental growth, rather than pedal-to-the-metal to close gaps in current flows. The trucking industry is working hard to avoid real reductions in capacity compared to increasing demand. The slow-down in demand that I expect will more closely match current trucking capacity (even as the demand slow-down could kill-off some trucking firms that have over-extended to serve recent demand surges).

Some data and analyses suggest that recent increases in energy prices reflect diminishing fossil-fuels capacity and very real costs involved in the treacherous transition to a post-fossil fuels future. So, there is both loss and gain in energy supply capacity and the net result will probably not be well-assured until the end of this decade (at least).

There are exceptions to my mostly-more-of-the-same prognosis. Significant new investments are being made in production capacity for semiconductors. As with warehouses, this expanded capacity reflects a fundamental shift in how global consumers behave and what they expect from the products they purchase. These behaviors and expectations justify the sort of large, long-term investments needed to expand this expensive supply capacity.

As plenty of other posts to this blog suggest, we are not yet operating in a post-pandemic context. But when such a day does come, it seems to me demand will look much more like 2019 than most of 2021. Our current flow capacity is much better suited for 2019 than 2021. Far upstream there are plenty of changes underway, but most of these are right-sized to a scope of demand that is much more pre-pandemic than mid-pandemic. So, as the flood of demand subsides, so will the turbidity we have seen in flows and that strange sucking (or is it squeezing?) sound from farther upstream.


I will readily confess that this is the same argument I have tried to make for many months. There is not much evidence that this supply chain guy has persuaded many. Maybe a big-time financial analyst will do better. Please listen to at least the first 90 seconds of Michael Collins (PGIM) explain. Sound familiar?

December 18 Addendum: Another very similar explanation courtesy of the Wall Street Journal and Phil Levy, Chief Economist at Flexport.

January 11 Addendum: Yet another demand-focused distribution-strained explanation from Karl W. Smith with Bloomberg.

Okay, I will stop tracking these convergent analyses… I recognize this is a bit of a defensive reaction on my part. But c’mon folks.