Sunday, October 17, 2021

The problem hasn't been demand, but supply

As the months drag on, it's increasingly clear that Covid is more of a supply shock than a demand shock to the U.S. economy. Do you remember the endless stories about supply chain problems after the 2007-08 financial crisis? Nope. Neither do I. Because they didn't exist. Did we have soaring prices after 9/11? Nope. Container ship shortages after the dotcom collapse? Of course not.

All the recent crises we've dealt with have been negative demand shocks to the U.S. economy. And that has empowered the Keynesian approach of filling demand drops with government stimulus--or consumer spending, as in the case of 9/11, when President Bush famously told families to go about their lives ("fly on down to Disney World") in order to keep the economy from worsening. 

So naturally, when Covid hit, and people worried about a second Great Depression, policy makers threw more stimulus at the problem than ever before. But Covid is more and more a supply shock, and one that is actually being worsened by the continual massive efforts to stimulate demand.

Some warned about this: "Demand-side stimulus...would give consumers more cash, but the economy will shrink nonetheless...much stimulus money would end up as personal savings or bid up prices for the products still available in a smaller economy," wrote the Cato Institute's Chris Edwards for The Hill last March. And sure enough, third-quarter GDP looks weak as consumer prices have surged 6% from a year ago, even with households still sitting on over $2 trillion of excess savings.

More stimulus could worsen this situation to the point of crisis, if we haven't reached it already. The supply chain is so fragile that products are routinely, if unpredictably, out of stock, or delayed for so long as to be effectively unavailable. Now the energy supply is being caught up in it. What's more, the stimulus and liquidity-fueled asset price gains have helped to shrink the labor force, already under pressure because of the pandemic, by causing early retirements or removing the incentive to work.
The Port of Los Angeles, one of the busiest ports in the country, will begin operating 24 hours a day and 7 days a week to ease cargo bottlenecks that have led to shortages and higher consumer costs. While the neighboring Port of Long Beach, Calif., also started doing a 24/7 schedule last month, major ports in Europe and Asia have operated around the clock for years. 

The latest change was announced by the White House as it seeks to alleviate supply chain issues ahead of the holidays, though the increase in capacity will require cooperation from major U.S. companies like Walmart (WMT), FedEx (FDX) and UPS (UPS).

The root of the problem goes back to the beginning of the pandemic in spring 2020, when consumer demand slumped and shipping lines canceled sailings between Asia and North America. When demand came back in the summer, there were thousands of empty containers stuck in the U.S., and by the fall of 2020, the West Coast freight networks were bursting at the seams to handle the surge in imports. A wave of COVID-19 cases in Southern California over the winter exacerbated the issue by causing a labor crunch, with docks, warehouses and truckers that handled the cargo unable to find enough workers.

Companies like Amazon (NASDAQ:AMZN), Target (NYSE:TGT), Pottery Barn (NYSE:WSM), Ulta Beauty (NASDAQ:ULTA) and Gap (NYSE:GPS) are even offering discounts - or starting holiday advertising - six weeks before Black Friday. The goal here is to stretch out the year-end shopping season, as supply chain challenges could leave them with empty shelves closer to the holidays. The firms also have a load of goods that they brought in early, but with limited warehouse space available, they need consumers to buy the stuff to top off their cash balances.

According to a RetailMeNot survey of almost 1,100 consumers, 37% of shoppers began their holiday shopping between August and September (if not earlier). Another 22% said they would start shopping in October, while 24% planned to begin in November ahead of Thanksgiving. Americans are expected to spend about $1.3T this holiday season, per the latest forecast from Deloitte, marking a 7% to 9% increase over last year.

Perhaps the way to think about it--and pitch it to the public--now is to promote those policies that will increase or fix the supply side of the economy. Incentivizing people to work (expand the labor force). Helping to keep businesses afloat (grow the "supply"). Lowering the cost of labor. You want an infrastructure bill? How a "war effort" to get the glut of goods through the Port of Los Angeles right now? That would seem to have broad appeal. Tax breaks for truckers? You get the idea.

On the flip side, policies that aren't targeted this way risk worsening the problem and could boomerang as a double-dip downturn, like the U.S. experienced in the early 1980s. Never forget that the point of high prices is to destroy demand, because supply can't keep up. So we face a choice: either increase the supply-side of the U.S. economy, or the demand-side will shrink to meet it.

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