Thursday BlackRock’s chairman, Larry Fink, included the following concise assessment in his annual letter:
Russia’s aggression in Ukraine and its subsequent decoupling from the global economy is going to prompt companies and governments worldwide to re-evaluate their dependencies and re-analyze their manufacturing and assembly footprints – something that Covid had already spurred many to start doing. And while dependence on Russian energy is in the spotlight, companies and governments will also be looking more broadly at their dependencies on other nations. This may lead companies to onshore or nearshore more of their operations, resulting in a faster pull back from some countries. Others – like Mexico, Brazil, the United States, or manufacturing hubs in Southeast Asia – could stand to benefit. This decoupling will inevitably create challenges for companies, including higher costs and margin pressures. While companies’ and consumers’ balance sheets are strong today, giving them more of a cushion to weather these difficulties, a large-scale reorientation of supply chains will inherently be inflationary.
Dependencies will persist, but diversification and decentralization can reduce network-wide vulnerability. Trading near-term cost reduction and flow optimization for longer-term strategic resilience will be more acceptable now that existential risks associated with over-concentration have become more viscerally experienced.
How, where, and especially how-much and how-quickly this de-concentration happens will depend on density of demand, velocity of demand, distances between demand and supply, perceived geopolitical risk, access to capital, comparative friction of flows between nations involved, and perceived host-nation regulatory/ confiscatory risk. Price competition, related opportunism, and innovation will continue to stir the pot.
Where Larry Fink and his peers decide to invest — and even more pointedly: not invest — in these demand and supply networks will do a great deal to determine pace and places.
A few hours after writing what’s above I read online at the Wall Street Journal a piece about supply chains become more web-like. Very complementary to what Larry Fink and I are saying. [March 27 Update] More weekend catch-up reading: Exposing Capitalism’s Great Illusion at Bloomberg. This is a helpful, important exploration of a century-plus adventure in economic integration and disintegration. Which way are we leaning today? Tomorrow?