Lessons Learned

Impact of COVID-19 on Global Supply Chains

by | Mar 18, 2020

“Regardless of the country you reside in, global leaders need to understand that their actions have an effect on all of us around the world.”
– Chris Curry, Title Logistics, Inc.

We are in the thick of a global health crisis where the human toll is nothing short of tragic. Plus, with trade shows getting cancelled, airlines losing billions, plunging stock markets, and hospitals getting slammed with increasing daily numbers of COVID-19 patients, this is a fearful and unprecedented time in our lives.

So I want to personally reach out to you and give words of encouragement that:

  1. We will get through this together.
  2. Social distancing and personal hygiene measures are the best things we can do to protect ourselves.
  3. There will be a world full of opportunities waiting for us after this is over.

Now, let’s talk about how the pandemic is impacting our global supply chains:

What’s going to happen with manufacturers of products being shipped around the world?

Global supply chains affect all industries including e-commerce, retail, pharmaceuticals, food, machinery, electronics, construction, and the list goes on. Pharmaceuticals in particular may be of immediate interest for many nations around the world as they grapple with the public health crisis.

While we are now feeling the short-term effects of disruptions in production, what are the medium- and long-term effects on global supply chains in the months and years ahead? Or is this all one big overreaction, after which everything returns to normal?

This piece is not a prediction of what will happen in the future with any level of certainty. Rather, this is a roundup of what decision-makers and supply chain experts closely involved in manufacturing and distribution are saying.

Part 1: The Dominance of China in a Pre-COVID and Pre-Trump World

For the past thirty years, China has positioned itself as the go-to manufacturing and supply chain hub for companies around the world. At any supermarket, ubiquitous ‘made in China’ labels are found on almost every product including smartphones, laptops, children’s toys, sporting goods, furniture, and industrial equipment.

How did this happen? In short, market forces made it that way. American and European businesses turned to China for cheap labor, supplies, and inexpensive manufacturing. Tim Poland, Director of Global Logistics and Distribution at DropLabs, succinctly explains our dependence on China for all kinds of manufactured goods:

“We have put so much demand, innovation, and trained expertise in China that it is an ideal place to build most anything, easily, quickly, and at incredible rates. China’s resources almost seem limitless that it’s tough to compete or match their production on many things, due in part to their artificially low monetary policy.”
– Tim Poland

Making China the world’s workshop wasn’t intentionally premeditated, but rather done out of necessity. According to David Schneider, a supply chain management consultant, this was a gradual culmination of a series of cost-cutting decisions by hundreds of thousands of companies to move manufacturing or to shift sourcing to China. As a result of similar decisions made by so many businesses over the past three decades, China’s economy grew at a rapid pace of nearly double-digits per year since the 1990s, raising hundreds of millions out of poverty.

But is China being the world’s supply chain hub sustainable in the long term? Worse yet, have we become overly reliant on China?

“Of course, we were all too reliant on China,” says Henry Fitzhugh Camp, CEO of IDEA, LLC, a logistics company for North and Central America. However, he defended the collective choice to go with China, reasoning that supply chain companies would have been blamed for poor decision-making had they used higher priced alternatives. Henry adds: “Furthermore, China is the only nation other than the U.S. that has such a rich availability of raw materials to support the wide selection of finished goods for which there is worldwide demand.”

Currently, two things are threatening China’s economic dominance: the ongoing trade war, and more recently, the COVID-19 pandemic that originated in Wuhan, China.

Part 2: How the Trade War Primed the World for a Major Reshuffling

Not long after Trump was elected President of the United States, the anti-Chinese rhetoric escalated into a tit-for-tat trade war with tariffs being imposed on products made in China and retaliatory tariffs on American-made products. Regardless of our political opinions, this trade war has been putting the global supply chain system under considerable strain.

However, some businesses actually welcome the trade war because it reduces reliance on overseas imports. Mark Horwitz, Director at RPM with a decade of experience in logistics and freight, supports the need for tariffs: “Too long have we been building China up at America’s expense. Now the reality has finally kicked in that we need to have higher tariffs and make it harder to continue to be so reliant on other countries’ imports.”

Bringing Production Closer to Home

How have other businesses reacted to the trade war and higher tariffs? 

We are seeing many manufacturers shifting their supply chains closer to home, especially to Central America, Southeast Asia, and to a lesser extent, Central Europe. These shifts are not only the result of more tariffs, but also what’s happening inside China.

Ethan Cunningham of RFgen Software, a supply chain management solution provider, adds that wage increases and the burgeoning middle class in China is making Chinese manufacturing more expensive. “This is prompting many businesses to go elsewhere like Thailand, Vietnam, or Malaysia, where labor is still very inexpensive. Obviously, those countries stand to benefit the most out of this trade war,” says Cunningham.

But are these shifts temporary, or are they permanent? 

Many logistics experts think there will be some long-lasting effects. The CEO at Fulfillment Bridge, Kais Khadhraoui, says: “I think the trend that started last year to shift out from China will continue and the main driver behind it will be the continuing trade war.”

New Trade Agreement in North America

Some experts would even go even further to say that manufacturing is shifting back to America. Paul Howard, a logistics consultant, is optimistic about the future for the American manufacturing sector, saying that the shift of supply chains back home will increase U.S. jobs and make the country financially stronger. Chris Curry at Title Logistics shares this optimism, citing the replacement of NAFTA with the United States-Mexico-Canada Agreement (USMCA), a new set of trade rules between Mexico, Canada, and the United States approved by all parties as of March 17, 2020:

“The U.S. is taking great measures to regain control of manufacturing. Replacing NAFTA was a great start. It was a bad deal for the U.S. and it worked very well for other countries. Many manufacturing jobs are now returning to the U.S. from Mexico and other parts of the world because it is becoming cheaper to operate under the new rules. This also has a ripple effect on the global economy.”
– Chris Curry

Plus, all these shifts were already in process even before the first COVID-19 outbreak in China just before the Lunar New Year holiday. Not even two months later, the World Health Organization (WHO) declared COVID-19 a global pandemic.

How will this pandemic affect these supply chain shifts? How will businesses around the world react?

Part 3: COVID-19 as a Catalyst for Shifts in Global Supply Chains

As the world is now locked down, many supply chain experts including Kais Khadhraoui, agree that COVID-19 is a bigger short-term impact on manufacturing and distribution than the trade war. On one hand, there was a gradual escalation of the trade war, allowing businesses enough time to find alternative solutions and reduce the impact on their revenue.

COVID-19, on the other hand, has blindsided the entire world, particularly on the supply side. In just the first two weeks of March, five continents joined in a chorus of flight bans, lockdowns, and quarantines, disrupting the daily lives of everyone. Companies are scrambling to find alternate suppliers outside of the worst-affected regions.

Supply Chain Vulnerabilities Exposed

We are now watching the COVID-19 pandemic expose hidden vulnerabilities in global supply chains. The Hubei province of China, where 20% of global manufacturing originates, grinded to a halt, causing supply chain bottlenecks around the globe.

Normally, most companies only deal with the first layer of suppliers. That first layer of suppliers buys intermediate parts and materials from their own suppliers, who also have their own suppliers—and so on. A modern end-to-end supply chain may involve hundreds of firms. If any link in the entire chain breaks, everyone both downstream and upstream would be affected, sometimes in unpredictable ways.

The real threat is that production shutdowns will reveal previously unknown choke points in global economic networks,” explains Geoffrey Gertz, a fellow in the Global Economy and Development program at the Brookings Institution. He further elaborates: “For instance, COVID-19 has already brought attention to the fact that many pharmaceutical companies are highly dependent on active ingredients produced in China.” Indeed, many supply chain solution providers including Kevin Schultz, President of 357 Logistics, are highly concerned about the dependency of pharmaceutical companies on China:

“I’m shocked that big Pharma has been allowed to charge premium prices for medicine at the retail counter only to outsource the manufacturing of medicine to a communist country outside of the developed world to save on cost. With COVID-19 and potential increasing drug shortages at hospitals in America this puts our country in an extremely vulnerable position.”
– Kevin Schultz

On top of that, not even the FDA knows the amount of drug ingredients being shipped from China—and this is in a highly regulated industry. Just what kind of vulnerabilities may be lurking underneath in industries that are less regulated than pharmaceuticals?

After Big Short-term Hit, Long-term Remains Uncertain

There are a few different schools of thought as to how the pandemic will impact the global supply chains: one predicts that China will fall hard from economic dominance, and the other predicts that things will return to ‘more or less’ normal after the pandemic is contained.

Between the trade war and COVID-19, it is tempting to write China off and predict a post-pandemic world with realigned economic power axes. However, doing so may be premature at this time.

While it is possible that China may become less dominant as importers seek other options, many experts agree that China will remain a top exporter for many goods for years to come. It could even be argued that China’s production output drives the world’s economy. When China’s production grinded to a halt during the COVID-19 outbreak, the resulting supply shortages heavily impacted the global economy. As Curry explains: “Their entire manufacturing infrastructure is predicated upon when the workers decide to come back to work. If they’re not back in a timely manner, it throws the global economy out of whack.”

However, it might have been a stroke of luck that the outbreak happened during the Lunar New Year. Chinese factories usually slow or stop production just before and during the holiday festivities, and businesses around the world have already taken this seasonality into account. The outbreak in China merely delayed the post-holiday ramp up into full production. “Had COVID-19 hit mid-year and not at a planned shutdown time, the supply chain effects and economic impact would have been far worse,” says Poland.

David Schneider also maintains that COVID-19 will prove to be a blip that hits hard and deep, but one that lasts a short time. According to him, there are much larger supply chain shifts in the energy industry happening over longer time frames than either the trade war or the pandemic:

“Oil and gas are significant disruptors. In the past 12 years, the U.S. oil and gas industry turned over the geopolitics of energy. OPEC fights to contain production while continuing to pump enough to undermine the price of crude. Just look at the 20-year Natural Gas chart and the number of gasification plants that are now liquefaction plants. China does not have the resources and they have to develop in other countries.”
– David Schneider

Insights From the Thailand Floods and Fukushima Disaster in 2011

Businesses dependent on a single geographic region are often unable to swap suppliers in the flick of a switch. While smart supply chain managers know that they have to diversify their sources, they could not obtain suppliers outside of a single geographic region. “Look at what the floods in Thailand in 2011 did to the hard drive industry. What were the manufacturers to do? Suddenly switch to suppliers in the UK, Germany, or the U.S.?” says Schneider.

Interestingly, the Fukushima earthquake and tsunami that happened during the same year also gives us additional insight into what exactly happens during and after a major supply chain disruption. Contrary to what many experts say about America regaining control of manufacturing, Elisabeth Braw of Foreign Policy contends that in the short term, the pandemic won’t help bring manufacturing jobs back to the U.S., citing Fukushima as a case example:

“On the contrary, it’s likely to cause reduced manufacturing in North America and other Western countries as failing arrivals of Chinese-made components cause production delays. That’s exactly what happened in 2011, when a devastating tsunami and earthquake hit Japan’s Fukushima region. Japanese high-tech firms are part of many companies’ global supply chains—and executives soon discovered just how vital that Japanese cog was.”
– Elisabeth Braw

Although many executives haven’t learned from Fukushima, using suppliers in only one region or country increases the risk of disruptions by earthquakes, trade wars, and now a global pandemic. For instance, as a result of the Fukushima disaster in 2011, Apple consumers had to wait six extra weeks to get the iPad 2s they had ordered.

Part 4: Three Steps to Reduce Future Supply Chain Risk

As someone who creates and executes content marketing strategies for clients who manage their supply chains or provide cloud solutions for supply chain managers: I personally believe that COVID-19 is a wakeup call to the entire world in terms of both pandemic preparedness and supply chain diversification.

We are in the middle of a global case study that will provide insight into which countries, which government authorities, and which multinational operations either fare reasonably well during a global pandemic, or succumb—and why.

It’s important to note that the COVID-19 pandemic still has not peaked at time of writing, and the true economic impacts have yet to arrive. In the supply chain industry, many feel the brunt will be felt in the next two quarters of this year. However, Henry Fitzhugh Camp already sees a light at the end of the tunnel for those who can move quickly. “The impending supply chain disruption should hit the U.S. hard by September and October. However, it is perhaps the biggest opportunity in our lifetimes for nimble domestic manufacturers to capitalize on,” says Henry.

Indeed, the COVID-19 pandemic is being a catalyst for companies to make strategic long-term changes to their supply chains. Here are a few ways they are doing this:

1. Increase Supply Chain Visibility and Traceability

Many companies lack full supply chain visibility, particularly for the parts that get supplied to their direct suppliers. As mentioned above, they often have no knowledge of the second or third tier suppliers that their direct suppliers use. As part of their risk mitigation strategy, they need to map out not only their immediate suppliers, but also their suppliers’ suppliers, and so on, through all the layers from end to end.

Ethan Cunningham of RFgen Software adds that these disruptions today will generate a greater need for reducing costs, increasing efficiency, and improving productivity within an existing infrastructure. Improved visibility and traceability will help to scale future operations to generate growth while shortening delivery times.

2. Develop a Continuity Plan to Mitigate Future Disruptions

The opportunity has never been greater for both governments and businesses to proactively identify potential supply chain bottlenecks, lessen their vulnerabilities, and introduce redundancies where necessary. This is the next step towards a long-term solution: finding alternative viable suppliers in the move towards diversification.

E-commerce is likely to do well as long as they focus on quality while keeping landed costs down. The real trick is carefully finding proven suppliers and partners that allow them to scale to higher volumes while maintaining the highest quality possible. Tim Poland at DropLabs explains: “Every market has unique capacities, skill sets, and challenges, thus it’s important to source carefully and build relations with proven partners.”

3. Diversify Supply Chains While Keeping Landed Costs Low

The silver lining to this unprecedented worldwide disruption is that supply chain shocks can lead to uncovering better alternatives that have not been considered before. Businesses should also move quickly to diversify their supply chains, even if it costs more in the short term. Having additional suppliers in different countries ensures that if one chain gets disrupted, production and business stability will continue through other chains.

The lessons learned from the pandemic is likely to result in more resilient supply chains and this has already been underway as a result of the trade war. For example, David Schneider noted that his clients shifted their supply chains nearshore to reduce landed costs and improve their cash flows.

At Fulfillment Bridge, Kais Khadhraoui explains their strategy: “We are focusing on decentralizing e-commerce fulfillment by leveraging a global warehousing network. This served us well during the first wave of tariffs in 2019. We managed to switch to cross-border fulfillment and saved 25% on landed costs across the board.”

Finally, Khadhraoui also mentioned that the Africa free trade zone agreement launched in late 2019 could be something to watch. If it overcomes certain hurdles, Africa could potentially open up the largest free trade zone market with 1.2 billion consumers, and that would promote local African businesses and reduce Chinese exports into Africa.

Summary

In retrospect, the trade war might have been beneficial for companies that took the time to shift supply chains out of China closer to home before the COVID-19 pandemic broke out. Many businesses, particularly e-commerce, have discovered that their landing costs are even lower if they sourced from the U.S. or Central America than if they did from China. 

Once the pandemic spread to five continents and the shutdowns began, many other companies have been scrambling to find alternate suppliers to maintain normal production levels, thereby exposing bottlenecks in global supply chains. 

After significant short-term pain, we should be able to boost visibility, build resiliency and redundancy into our supply chains to mitigate future disruptions whether they are caused by geopolitical changes, natural disasters, or global pandemics. To stay competitive in a post-pandemic world, however, the time to start diversifying your supply chains is now.