Supply chain shocks and hyper-inflation

The lack of resilient supply chains in the United States (and around the world) was masked, until a global shock came among. That Covid would cause such a shock was obvious; as I noted above, before the pandemic hit in force, I predicted it. And now, the pandemic is introducing shortages into our politics for the first time in living memory, largely because our highly thinned out supply chains are no longer resilient.

Forty years of consolidation suddenly met with a pandemic that required a social flexibility that our monopolistic commercial systems can no longer provide.

The Basics of Shortages: Bank Runs and Economic Shocks

So what is actually happening? I’m not sure, but below I’m going to lay out some of the dynamics I’m seeing.

First, there are two things at work that have nothing to do with monopolization. The first is Covid, a massive shock to our economic system that changed consumption habits. We switched from restaurants to grocery store food, from movie theaters and concerts to home electronics and hunting gear, from vacations to home improvement, from public transportation to driving, etc, along with parallel shifts in various commercial sectors.

Under any circumstances, such changes would necessarily cause chaotic price movements. Hotels and airline prices collapsed, lumber prices skyrocketed, and gun owners are still experiencing the “Great Ammunition Shortage.” But some significant shifts were inevitable.

Then there is the dynamic of bank run-like panics, which induce shortages by drawing down inventories. One home builder wrote me about shortages in his industry, noting that a lack of supplies “are, predictably creating further shortages, reminiscent of the toilet paper shortages in 2020: once someone finds black pipe or whatever, they buy way more than needed since they might not find it again. I'm as guilty as anyone; I have 50 stoves sitting in a storage unit since I'll need them at some point. Meanwhile, a 54 unit project is in suspended animation while I wait for the Packaged Terminal Air Conditioners that won't be in until next year.”

Another example is the gas lines resulting from panic around the shutdown of the Colonial Pipeline earlier this year. People topped up their tanks en masse, which caused shortages at gas stations even when there wasn’t an actual lack of adequate gasoline supplies.

Supply shocks, and some panic buying, was inevitable. In an economy with lots of flexibility and multiple buyers and suppliers at every level, these problems are manageable. But a monopolized economy makes the problem much worse.

The Different Types of Bottleneck Problems

Here are the five ways I’m seeing it play out.

1) Monopolies manipulate prices and lower supply. Unregulated firms with market power raise prices, cut wages, and reduce supply. That’s just what they do. A very simply example of this problem is in the beef, poultry, and pork industry, the three types of meat that are responsible for roughly half of the inflation in food. The White House came out with a very good blog post on the problem, noting that “just four firms control approximately 55-85% of the market for these three products.” The result is price spikes to consumers, lower amounts paid to farmers and ranchers, and record profits for the packers. Half of our food inflation, in other words, is a meatpacking monopoly story.

It’s not just meatpacking. The list of supply reductions seems endless. For instance, there is a shortage of various forms of generic pharmaceuticals. One would think we’d be investing in more production. Yet, as a result of a merger between Mylan and Viatris approved by the Trump administration, Viatris just shut down a giant pharmaceutical plant in West Virginia, costing 1500 jobs, but also reducing the capacity of the U.S. to make its own medicine. Similarly, in 2017, Linde and Praxair, two industrial gas giants, merged. Whaddya know, now there’s an oxygen supply shortage.

2) The Keurig Interoperability Problem: Then there are the artificial bottlenecks produced on purpose to exploit market power. For instance, why don’t we have enough specialized plastic bags to use in making vaccines? Over the past fifteen years, the producers of biopharmaceutical equipment consolidated the entire industry, such that there are really four producers each of whom sells, in business school speak, an “integrated set of products” to pharmaceutical firms who want to make stuff.

However, as I noted back in May, an ‘integrated suite of products” is really a euphemism for locking in your customers through product design, a classic sign of monopoly. If you use one kind of bioreactor bag, you can’t easily switch out to another, because the industry refuses to standardize. As this International Federation of Pharmaceutical Manufacturers Associations noted, “the high degree of specificity and the lack of standardisation of these items represent a hurdle to short-term supplier switches and thus flexibility.”

Basically, it’s as if these firms all make their own type of Keurig coffee machine, and don’t let the coffee pods work with each other’s machines to lock in their customers. There is no shortage of coffee, but the focus on market power has created an artificial bottleneck via product design. (To amplify the market power problem, these firms created intellectual property thickets, with thousands of patents on the plastic bags alone.)

Such interoperability issues are pervasive; railroad monopolies, for instance, don’t allow switching of freight loads to rival networks, which hinders shipping. Many of these shortages in the economy, in other words, are intentional.

3) Right to Repair, or the McDonald’s Ice Cream Problem: Another artificial bottleneck created to facilitate certain corrupt business models is to prevent firms from repairing their own equipment.

For instance, why is McDonald’s often out of ice cream? Their ice cream machines are always broken, leading to unhappy customers and frustrated franchise owners. There’s no shortage of vanilla, cream, sugar, or other inputs, but McDonald’s, and the food equipment conglomerate Middleby, do not allow franchise owners to repair their own equipment, because allowing that would jeopardize the fat maintenance equipment fees they get from servicing overly complex machines. And so there’s a shortage of ice cream.

If McDonald’s couldn’t force franchises to buy specific equipment, or if Middleby didn’t roll up the food services equipment space, or if it was illegal to block people from repairing their own equipment under reasonable terms, then there would be no shortage.

This problem, like the Keurig interoperability problem, is pervasive. John Deere tractors, weapon systems, wheelchairs, ventilators and many types of electronics have provisions preventing the ability of owners to repair their equipment. And market power creates an incentive for monopolists to produce over-engineered crap that breaks down, or to make it impossible to replace a part with a similar though not identical part from a rival firm.

When you need a flexible supply chain in a crisis, the ability to repair something comes in very handy. And the inability to repair stuff means shortages.

4) Infrastructure Monopolies: One of the most problematic monopolies is that of Taiwan Semiconductor (TSMC), which is the main fabricator of high-end chips used in everything from phones to computers to cars, whose customers include every major tech firm. Semiconductors, like oil, are infrastructure at this point, going into a large swath of products. Infrastructure monopolies are bottlenecks whose effects cascade down supply chains. I mean, PPG, which is a paint conglomerate, is pointing to chip shortages as a cause of its supply disruptions.

As Alex Williams and Hassan Khan note, sustained national investment by Taiwan, combined with disinvestment by the U.S. government, led to the consolidation of manufacturing capacity in TWSC. Additionally, TWSC engaged in dumping of products on the U.S. market in the 1990s, which is a form of predatory pricing. Intel, rather than focusing on competing, organized itself around monopolization, and thus loss the technological lead over semiconductor production in the early 2010s.

The net result is that we are now highly dependent for a key form of infrastructure on a monopoly that cannot expand as quickly as necessary, and that is halfway around the world in a drought-riven geopolitically sensitive area. Disruptions or supply shocks thus mean begging Taiwan for one’s ration of semiconductors.

But there are many other infrastructure monopolies we’ve facilitated over the last forty years. There are, for instance, railroads, an industry where there used to be 30+ competitors, and which now has seven monopolistic rail lines that are constantly reducing service and destroying freight cars. Railroads, like many network systems, require not only competition, but regulation, or else the incentive to disinvest by owners is too strong. For instance, in 2019, the Union Pacific shut down a Chicago area sorting facility to increase profit margins for its Wall Street owners. As a result, in July of this year, the rail line had so much backed up traffic in Chicago that it suspended traffic from West Coast ports. Such a suspension of service backed up port unloading, causing a cascading chain reaction, delays piled upon delays.

Regulators are noticing. A few days ago, the head of the Surface Transportation Board Martin Oberman, told his industry that US railroads are focusing too much on pleasing Wall Street at the expense of shippers and the general public. To reach Wall Street profit goals, he said, “railroads have cut their workforce by 25 percent…Operating the railroads with that many fewer employees makes it difficult to avoid cuts in service, provide more reliable service, and reduce poor on-time performance.” So we know the problem. Infrastructure monopolies, when unregulated, intentionally create shortages.

We saw something similar with ocean shipping lines that have consolidated into three global alliances that build larger and larger boats. When a big dumb boat crashed in the Suez canal, a significant amount of global shipping came to a halt, which again, caused a cascading chain reaction that is still being felt, months later. And trucking is also being disrupted by the private equity roll-up of third party logistics firms which, like Uber, pushes down wages and likely removes supply from the market.

5) Power Buyers and Economic Discrimination: Then there’s price discrimination to remove small players from the market. One BIG reader, an administrative assistant at a small college, noted she’s seeing “shortages in previously plentiful food items.” There are a host of foods they can’t get anymore. “We order from Sysco mainly, and we sometimes can't get basic things like spicy chicken breasts for sandwiches. We get the same spicy chicken that Wendy's serves, so we presume Wendy's is taking priority on this.” Sysco has tremendous market power in food distribution, it is what is known as a power buyer, using a system of rebates to coerce suppliers and buyers into using its services.

Power buying is why large firms like Walmart are out-competing small ones. Walmart, for instance, tells its suppliers they must deliver on time 98% of the time, or it will fine them 3% of the cost of goods. “Known in the industry as "power buyers," large retailers have had an advantage for years when buying goods because they order larger quantities than smaller wholesalers do,” wrote CNN’s Nathan Meyersohn on this problem. “Large retailers' scale and buying clout make them a top priority for manufacturers, he said, and they often get promotions, special packaging or new products early.”

Price discrimination means smaller firms, both producers, distributors, and retailers, can’t get access to what they need to do business, and small firms are often more flexible than big ones, and serve customers in rural or niche areas. In West Virginia, for instance, where small pharmacists were the key vaccine operators, the roll-out of the vaccine to nursing homes was initially far quicker than in states that used CVS and Walgreens. The collapse of niche specialties, or the disappearance of small dealers who can fix products or service customers, is one result.

There are many other ways power buyers operate, and I’m going to devote a BIG issue to breakdowns in the pharmaceutical supply chain as a result of what are known as Group Purchasing Organizations. But that’s the gist of the problem.