An Insider Explains the Supply-Chain Crisis

"What does a supply-chain expert do when he can't find an oven?

Days before Christmas last year, Phil Levy was baking a sourdough loaf for his wife when their electric oven went kaput. A General Electric model from the early 1990s, it could no longer hold a temperature, so it was time to buy a new one. Mr. Levy was dismayed to find that he couldn't get a replacement anywhere in the San Francisco area. "The retailers had little in stock," he tells me in a Zoom call from his home in Emerald Hills. "I had to join a queue and hope for the best. All wait times were notional."

It took five months for the Levys to get their new oven. The reason, he says, was the supply-chain crisis that has beset the U.S. and much of the West, making everything from kitchen appliances to computer chips to chassis for trucks significantly scarcer and more expensive than before the pandemic began.

Mr. Levy, 53, says he doesn't see the supply chain's "unprecedented crisis" ending before 2023. He's chief economist for Flexport, a San Francisco-based tech company for global-logistic services. "If a company wants to move goods from one part of the world to another, we can help," he explains. "My colleagues won't like this definition, but we're sort of like travel agents for containers" -- those 20- to 40-foot-long corrugated steel boxes that can be transported across great distances without a need to unload their cargo until they reach the purchaser.

The typical transit time for a container in pre-pandemic days was 71 days, Mr. Levy says. That's how long it took for a full container to depart from Shanghai; discharge in Los Angeles; proceed to a warehouse near, say, Chicago; get trucked empty back to California; and then return to Shanghai. The current transit time is 117 days or more. The greatest delays are in the U.S., owing to port bottlenecks and trucking shortages. The Los Angeles to Chicago leg, for instance, now takes 22 days, 12 more than before. It takes 33 days for the empty container to return to California, compared with 20 in the old days.

Not only does it take much longer to import goods, it's also become eye-wateringly expensive. "Where it might have cost $1,500 to move a container across the Pacific," Mr. Levy says, "you're seeing them go for more like $15,000 per container."

This surge in transport costs has hit lower-value goods hardest and made quick restocking all the more of a challenge. Mr. Levy talked to a company that sells office supplies. "They were moving a container whose contents were in the order of $15,000 in value. Well, if that now costs $15,000 to move, you have a problem, right?"

The pandemic is at the root of the supply-chain crisis. Covid-19 has led to work disruptions at factories and ports in China, with quarantines and shutdowns hitting the production and movement of goods. Mr. Levy cites the monthlong shutdown owing to Covid cases in May 2021 at the Chinese port of Yantian, which handles a third more volume than the Port of Los Angeles.

"It's one of the major Chinese ports. And every time you shut down at one of those places, you're interrupting the flow of containers." Buildups and backlogs accumulate. "How do you ever work them down?" Ports have fixed capacity: "You can't suddenly process twice or three times as many ships once a lockdown is lifted."

Ninety percent of all exported goods move over the ocean. These include not only finished goods but also parts. "So even if you're manufacturing in the U.S.," Mr. Levy says, "the odds are you're using some imported parts."

Ports are built "so you can just meet peak demand." It's too expensive to build at excess capacity, "because then most of the time you'd have lots of extra stuff sitting around." The peak season is August through November, "when it's, 'How do you stock store shelves for the holidays?'" The problem is that a system that can "barely handle" a normal peak season has seen "above peak demand for about an entire year and a half," placing it under "a cumulative strain it wasn't really built for."

A major cause is what Mr. Levy calls "the defining economic characteristics of the pandemic." There has been a "marked tilt" in buying behavior, a shift from services toward goods. "We still buy more services than goods, don't get me wrong," he says. But whereas U.S. consumers spent 69% of their money on services before the pandemic and 31% on goods, the breakdown now is more like 65% to 35%.

The pandemic recession was unlike previous ones. "One of the ways that economists would normally have defined a downturn is that you get a decrease in production and a decrease in income." But American pocketbooks "were a lot more full than they normally are with a downturn." It's not hard to see why, he says, pointing to the Cares Act in March 2020 and other government cash infusions in January and March 2021, "which were directly putting money in. Pretty much all the movements in income track the movements in government transfers."

This meant that the pandemic "didn't have the effect that you often would've expected with a downturn, which is people don't have money to spend. They did. And then their preference of what they spend it on tilted towards goods." Some of this income was saved, too, so that consumers were flush even after government support ended.

Demand for durable goods -- those, like Mr. Levy's oven, that last longer than three years -- dropped briefly after the pandemic started, then "shot right up in the early summer of 2020." So while U.S. gross domestic product gradually recovered in the second and third quarters of 2020, the recovery in U.S. imports was much more rapid -- reaching pre-pandemic levels by October 2020 and continuing to increase.

Characteristically, the percentage of personal-consumption spending on goods remains constant, Mr. Levy says: "It's a really, really boring graph." But in the pandemic "it's gone haywire." Whereas goods consumption previously "might move up or down by 0.2%, here you were seeing moves that were 10, 15 times that."

The fall in spending on services, meanwhile, was a natural consequence of the pandemic. Consumption plunged about 20% in April 2020, as people stopped going to restaurants, on vacation and to gyms. Business travel crashed. "There's been a slow, gradual climb," Mr. Levy says, but consumption of services still hasn't recovered to pre-pandemic levels.

As consumption shifted to goods, Mr. Levy says, the initial burst was in durables. That's one reason why Federal Reserve Chairman Jerome Powell described inflation as "transitory," a judgment he's since withdrawn. "'Transitory' was transitory," Mr. Levy chuckles, apologizing for the labored joke -- "trade economist humor," he says. "We find it where we can."

Mr. Levy, who was a senior economist for President George W. Bush's Council of Economic Advisers, isn't entirely unsympathetic to Mr. Powell's initial thinking. "It was based on what we saw with the surge in durables. If everybody had moved up their purchases of sofas or exercise machines, and so forth, by definition those aren't the things you buy month after month after month. If I buy three years' worth of sofas all in one year, our expectation is this will be short-lived."

The durables spurt started in May 2020, and by month's end they were "right back to what they were pre-pandemic." They rose to 10% above that level in June 2020. "By the time you got to about March 2021, durables consumption was about 35% higher than it had been." That was the peak; now it's 18% above pre-Covid levels.

But there's been another twist. The buying of nondurables -- goods that last less than three years -- has shot up. After a spurt in March 2020 -- remember the panic buying of toilet paper -- nondurable consumption went down in April 2020, then made what Mr. Levy calls "a slow, steady climb to where they are about now -- 13% or so above pre-pandemic numbers." With "inelastic supply and a big surge in demand, prices have to go up."

One way for the supply-chain crisis to recede is, obviously, for the pandemic to end. But each new variant has the potential to halt any amelioration. A return to previous patterns of consumption would also reduce the strain on the supply chain. Yet for consumer demand to abate, people's buying power would need to decline, or there would have to be a shift back toward buying services.

The key question: "When will we start seeing people behave the way they used to in their consumption?" It's possible we won't. "People are creatures of habit," Mr. Levy observes, and the pandemic has led them to take on new habits. So far, at any rate, "we have not seen a reversion to the previous patterns."

The supply-chain crisis, Mr. Levy contends, has no parallel in history. We've had shocks before, such as the oil crisis of 1973. But "global-trade liberalization and distributed specialization," allied to an ease of shipping and transport, fueled by ideas like "just-in-time inventory" -- that's all new.

That means there are no lessons from history. "This is a challenge my economists -- my team -- are facing, which is normally the way you'd like to forecast something like this." They can't find patterns by looking at "the last 10 modern pandemics that we've had and see how they played out. You know the history of pandemics as well as I do. They weren't modern. They weren't in the era of supply chains."

So what can be done to ease the crisis? "In international comparisons of port efficiency," he says, "U.S. ports do not generally rank at the top of the list." In considering improvements, it's important to distinguish between short-term and long-term. "My broader point about the centrality of the demand surge is that short-term improvements can help at the margin, but will not 'solve' the problem." A longer-term approach would allow serious changes in capacity, but that "shouldn't be seen as a remedy for the current crisis." A dramatic longer-term expansion in capacity may not even be necessary if the changes in consumption preferences prove temporary.

There are specific short-term measures that governments can take, such as liberalization of trucking rules, traffic control, land-use regulation for stacking containers and port-opening hours. But Mr. Levy is "loath to put a small subset of these forward as a panacea." As an analogy, he points out that if my editor asked me to produce three more articles of this length in 48 hours, caffeine and a new ergonomic keyboard might help, but I'd still probably feel swamped." [1]

1. The Weekend Interview with Phil Levy: An Insider Explains the Supply-Chain Crisis
Varadarajan, Tunku. Wall Street Journal, Eastern edition; New York, N.Y. [New York, N.Y]. 18 Dec 2021: A.17.