Biden’s Executive Order on Supply Chain Vulnerabilities: A Reality Check

President Joe Biden signed an executive order Wednesday that will result in a 100-day review of supply chains by the executive branch for pharmaceuticals, critical minerals, semiconductors and large capacity batteries. The 100-day review will be followed by a longer year-long review of a broader set of critical supply chains including the energy sector, personal protective equipment, agricultural products, the transportation industrial base and the public health and biological preparedness industrial base. “Today, I’m shortly going to be signing another executive order that’ll help address the vulnerabilities in our supply chains across additional critical sectors of our economy so that the American people are prepared to withstand any crisis and rely on ourselves,” Biden said before signing the Order.

Biden’s statement reveals a profound naivete of supply chains which is common in both politicians and the public. Most individuals’ understanding of the complexity of global supply chain designs is limited, and few realize that re-shoring all manufacturing back to the US with the flip of a switch (or the passing of an Executive Order) is impossible in the context of global trade. The statement also defies the logic of comparative advantage, an economic principle. David Ricardo, a famous British political economist, first wrote about the concept of comparative advantage in his book “On the Principles of Political Economy and Taxation” in 1817. Comparative advantage is an economy’s ability to produce goods and services at a lower opportunity cost than that of trade partners. A comparative advantage gives a company the ability to sell goods and services at a lower price than its competitors and/or realize stronger sales margins.

One of Ricardo’s famous examples shows, for example, that the French have a comparative advantage when it comes to producing cheese, while the Germans are better at producing guns. Both parties therefore benefit from focusing on industries they are best at in terms of production competence and know-how, and everyone realizes greater value when the French trade cheese for guns, and the Germans trade guns for cheese. Comparative advantage is a fundamental tenet of the argument that all actors, at all times, can mutually benefit from cooperation and voluntary trade. It is also a foundational principle in the theory of international trade.

Comparative advantage is also the reason why 90 percent of the world’s supply of PPE, electronics, apparel, and manufactured goods are manufactured in China and SE Asia. As we know, hoarding of PPE occurred in many countries between February and April 2020 left many governments struggling to ascertain true demand and supply in a confusing market which has no central data collection point. Collaboration between nations ground to a standstill, as leaders frightened by scarcity began stockpiling supplies, and forbidding exports of key materials.

Why did this happen? Once again, we return to the observation that supply chain executives are generally rewarded based on one directive: Buy it cheaper, from anywhere and anybody, under any circumstances. Low price became the primary objective, not reducing risk or reducing inventory or lead times. In short, part of the supply manager’s motivation focused on a negotiated cost savings of 5 to 10 percent for logistics or purchase price, ignoring the possibility of shortages or disruptions from occurring. The problem is, such savings don’t amount to much when an entire month’s worth of orders is wiped out by Brexit, trade deal increases or US-imposed tariffs of 25 percent. When the entire global economy shuts down for two or three months, and people start dying, this economic tradition becomes a lot more than a mistake. It’s a catastrophe.

So maybe then we should be willing to pay more for PPE that is produced in the US. There’s a hitch though. What venture capitalist is going to invest in a factory producing goods at a higher cost than what they can be bought for in Asia? Will hospitals pay the Made in USA premium? Better yet, will CMS pay premiums to hospitals for buying more expensive PPE which is passed on to them in the form of higher costs? Doubtful.

The local cost culture of supply chain decision makers results in a globally outsourced world. Such poor decisions were exacerbated by the fact that supply chains have a zero tolerance for downtime. Most other functions don’t have a zero tolerance for risk – but if you are so busy taking care of today’s risks, you aren’t paying attention to tomorrow’s. We can all invest more in risk management — at least more than we have. This is especially true when it comes to developing immune supply chains.

A number of entities have forecast that “the coronavirus pandemic could be the straw that breaks the camel’s back of economic globalization.”[1] These pundits predict that it will be highly unlikely that the world will return to the idea of mutually beneficial globalization that defined the early 21st century. Others call the pandemic a wake-up call for managers to consider actions that will improve their resilience to future shocks. We are not in agreement with the view that a post-COVID world will necessarily involve the wholesale the shifts of entire industries to local geographies. We are witnessing early movements in this direction, with organizations re-thinking how supply chains may be localizing to be closer to their customers.

  • In May 2020, President Trump told Fox Business Insider, “… we shouldn’t have supply chains. We should have them all in the United States.” He threatened to impose taxes on American companies outsourcing to other countries, especially China. “You know, if we wanted to put up our own border, like other countries do to us, Apple would build 100 percent of their product in the United States. That’s the way it would work.”[2]
  • The semiconductor industry is looking to jump-start development of new chip factories in the U.S. as concern grows about reliance on Asia as a source of critical technology. Intel Corporation and TSMC, the two largest chip makers, are looking to build factories in the U.S. They have discussed this plan with the U.S. departments of commerce and defense, as well as with Apple, one of their largest customers. In addition, some U.S. officials are seeking to help South Korea’s Samsung expand its contract manufacturing in the U.S., adding to its Austin, Texas facility.[3]
  • India is looking to become the next China as a sourcing destination for the West. On prime-time television, Prime Minister Narendra Modi called for a “quantum jump” in the Indian economy and promised “bold reforms to create a self-reliant India.” According to Modi, “Today it is the need of the hour that India should play a big role in the global supply chain.” The country will need to overcome many Socialist-era regulations and a teetering logistics system, but the time may be ripe for Western firms to look to new locations, such as India, Africa, and other regions for global sourcing.[4]

Meanwhile, organizations that have more tightly compressed supply chains, and who deal with local suppliers, are enjoying a significant benefit during the COVID crisis, and are no longer being held hostage to governments of another country. Executives with this kind of supply chain have told us that the virus has impacted demand somewhat, but their supply lines have remained intact. During a crisis such as the pandemic, countries became very selfish, as illustrated by the hoarding of N95 masks and restrictions of exports by more than 27 countries. When it comes to a pandemic, governments become surprisingly unwilling to collaborate and help each other out.

The pandemic created a unique outcome: a downstream-demand-driven variation, an upstream supply shortage bullwhip effect, and the renewed managerial interest in supply chain designs that integrate lean, local production systems. As words one major manufacturer noted:

Approaches to mitigate bullwhip effect vary, but the fundamental problem to solve is to shorten overall end-to-end lead time from order to shipment. This will require a resurgence in manufacturing and a rebuilding of manufacturing operations know-how, on a competitive level that can out-strip any re-shored Southeast Asian supplier. We have to think in terms of LEAN and adopt process automation (physical and transactional). It is possible to change the game; most Chinese factories are highly productive and quality is excellent. However, they still rely on highly skilled engineers performing planning and automatable tasks; this is a legacy we can leap-frog. We will have to have industry-sector initiatives, including partnerships with local government and education establishments to pull it off. The post-pandemic might be the opportunity we need for a lean manufacturing renaissance, re-applying the principles we adopted in the 1980s in America, but in a new and innovative way.

Biden’s call for re-shoring manufacturing back to the US will be a much more complex decision that the Biden Administration is letting on…We will need much more than 200 page reports from government bureaucrats to think through how to reduce our supply chain vulnerabilities…we will need to map out our supply chains to truly understand how to mitigate risk in global supply chains, where the primary sources of production are now firmly entrenched in Asia. It is going to be a much more complex set of tasks to think through the implications for government contracting, supply chain network design, total cost of ownership, and many of the other tools that supply chain professionals are familiar with.  And that’s who should be involved in making these decisions, not government bureaucrats…

 

[1] Allen et al., “How the World Will Look After the Coronavirus Pandemic,” Foreign Policy, March 20, 2020, https://foreignpolicy.com/2020/03/20/world-order-after-coroanvirus-pandemic/

 

[2] https://www.reuters.com/article/us-usa-trade-china-taxes/trump-threatens-new-taxes-on-companies-that-make-goods-outside-united-states-idUSKBN22Q2HS

 

[3] https://www.wsj.com/articles/trump-and-chip-makers-including-intel-seek-semiconductor-self-sufficiency-11589103002?emailToken=436d745a53b7b81c1d176b165114125eSyPAQzDzIJojm8OaHMxsla90Z8zLJKtkU99lsbgv37GQoZHI/4QP/RmoCWYw9s08Nuxy0izCDoFji0RME9K9isYBqOD8PgsuAtQeQZ6QgX4ojg72rHgYPd3KhcyJGdlUgy3x7wBWbXLn9/lJ3qImRw%3D%3D&reflink=article_email_share

 

[4] https://www.wsj.com/articles/can-indian-manufacturing-capitalize-on-the-flight-from-china-11589479402?emailToken=6cafc642567619314f91dc0b5d9da5f1ha/wx44mtg8c+HZPAcjWtzCKoAT1rYYK5fp85y8S9w8oDzDc09GUHz7F2f3G2Zuk7qIHG0wPMfoVU30/fiJGbDBo62U/fOYoaVv36ZP2bFvqHAIYieoo0pf9N+xI5T2Z&reflink=article_imessage_share