A Path to Prosperity in Post-Pandemic Economy

Awi Federgruen, Charles E. Exley Professor at the Columbia Business School, Division Chair of Decision, Risk and Operations.

Costis Maglaras, David and Lyn Silfen Professor of Business, Dean of Columbia Business School.

Lijian Lu, Professor at HKUST Business School, was Vice-President at Goldman Sachs Quantitative Investment Division and co-founder at the UniQuant Capital.

 

Supply Chain Management in the Post-Pandemic Era

Lijian：Hi Professor Federgruen, I am very happy to have this conversation with you via the platform of“Guangming International Forum”. The outbreak of COVID-19 has a big shock in the global economic it, the importance of improving supply chain competitiveness and resilience has been realized and agreed in the recovery of post-pandemic economy

As premier scholars in the supply chain and digital economics, Professor Federgruen and Professor Maglaras, could you please share your knowledge in these areas and what will be impacts of COVID-19 on world as well as US economics?

Awi:Twenty years ago, the challenges of designing and managing effective supply chains, preoccupied only specialized teams of analysts and middle managers. Rarely did these challenges penetrate the corporate board room or cabinet meetings of national or state (provincial) governments. The general public was largely oblivious and disinterested. taking it for granted that the products they were interested in purchasing, would be available in sufficient quantities. Even within Business degree (for example Masters of Business Administration) programs, there were relatively few courses offered in the area, and they attracted a small minority of student enrollments.

All this has changed in dramatic ways, and not just as a response to the COVID 19 pandemic crisis, where many countries found themselves, overnight, struggling with major shortages of critical items. The media bombarded us, continuously, with news about the massive deficiencies in the availability of ventilators, personal protective equipment (masks, gloves, gowns, shields etc.) and medications. However, lockdowns and factory closures throughout the world, have caused, and continue to cause, major shortages in many other product lines, seemingly unrelated to the pandemic: for example, laptops, video game consoles, sneakers, beauty products, large appliances and soda. As a specific example, Procter & Gamble, producer of household goods from laundry detergent to paper towels, relied on close to 400 distinct suppliers in China, alone, for some 9000 different materials used in the manufacturing of some 17600 finished good items. Moreover, many of its first tier suppliers, in other parts of the world, faced shortages from its own direct or indirect supply sources。

The Institute for Supply Management, which conducts monthly economic surveys, found, that nearly 75 percent of the companies it contacted in late February and early March reported some kind of supply-chain disruption due to the coronavirus. And 44 percent of the companies didn’t have a plan to deal with this kind of disruption.

The general public’s interest in and preoccupation with a specific topic area is perhaps, best measured by Google trends. Google keeps track of the frequency trends with which any key phrase or word is queried among its 2.5 trillion annual searches worldwide. The frequency with which the term “supply chain “was entered, increased fivefold between the beginning of January and the middle of April.

However, the emergence of supply chain management as a central part of a company’s strategy, and a key determinant of its bottom line, occurred already, long before the pandemic, and is here to stay, for the foreseeable future. Complete industries have been revolutionized by novel supply chain strategies. Here are two obvious examples: Amazon dominates the internet retail world in the USA and beyond, not because it offers better or different products, or because its prices are more favorable than those charged by competitors. Its unprecedented success is based, almost exclusively, on innovative supply chain strategies. The same applies to Walmart, with 517 billion $ in global revenues by far the world’s largest combined brick-and-mortar and internet retailer.

Costis:The Covid-19 pandemic crisis is ongoing and its wake has brought tremendous loss of life and economic disruption and uncertainty. It has simultaneously brought to the surface important challenges about global healthcare systems, political systems and institutions and their response to the multi-faceted crisis, as well as the connectedness and dependencies of modern economies through global supply chains. Further, it has spotlighted issues of inequity, as manifested in segments of the population that have been most affected in terms of health and economic outcomes through the crisis.

Over time, however, this period will bring forward opportunities for change that will affect our future. Many of us have been “participating in a natural experiment” over the past half a year, starting with the shelter-in-place lockdowns that rolled through the various countries, and continuing with remote school and remote work, in many cases through today. Some sectors such as food and agriculture never stopped throughout this period, and manufacturing to a large extent has purposefully returned into normal operations. However, the part of the economy that relates to services is continuing to be largely remote. This sustained experience has accelerated previously established trends and has been a catalyst of rapid change of consumer and business needs, from how we move around urban centers, how we work, and where we work from, to how we procure our goods and services, how we consume media content, and how we provision health services.

Lijian：This is indeed the case. The China government has done a tremendous excellent job in controlling the pandemic, the economics is gradually recovering. The frequency of “supply chain” or “industry chain” has sharp increase to about 100 million in China. The impact of the pandemic is manifestly huge on world’s economics. Consider USA as an example, millions of corporation from various industry filed bankruptcy, especially in service industry such as transportation, restaurant, hotel, travelling, and manufacturing industry.

Globalization is Effective to Supply Security

Lijian:Supply chain in 21 century was closely connected to economics globalization. Since the outbreak of pandemic, media in few countries advocate the topics of “De-globalization” and reverse the trend of globalization, shifting the manufacturing process back to originating and local regions, it was used as a political tactic by some politicians. Professor Federgruen, how do you view the phenomena of “De-globalization”?

Awi：A key strategic question is whether a company should offshore, onshore or apply a hybrid approach, considering both efficiency and resiliency of their supply chains. For a few decades, the general trend in the USA and large parts of Europe has been to offshore manufacturing to countries with low labor and material costs. More recently there has been a reversal of that trend. While between 2000-2003, 240,000 manufacturing jobs were offshored annually, away from American shores, that number decreased to 50,000 in 2016. In the same year, 70000 such jobs were brought back to the USA, resulting in a net increase of domestic manufacturing jobs. In February of this year, before the onslaught of the pandemic, the Bank of America (BOFA) provided new evidence of that reversal. In a survey covering 3,000 companies, they found that companies in more than 80% of 12 global sectors (with a combined market cap of 22 trillion $) in each of North America, Europe and Asia-Pacific (exclusive of China) have implemented or announced plans to shift at least a portion of their supply chains from current locations. Granted, most of these relocations are small compared to their installed base, but the breadth of the shift reveals that the trend toward localization is real.

What explains this reversal?

First, companies have learned to appreciate that sourcing choices should not be based on direct purchasing or manufacturing costs, only. Instead, Total Landing Costs should be considered, that consider the full costs associated with the source, including transportation, warehousing and customs costs, but also the costs of carrying safety stocks to cover the demand that arise during a full order lead time. These inventory related costs can be substantial, in particular when lead times from distant sources ae long and volatile, and when a high service level or fill rate is pursued. Additionally, the sources are often capacitated, and their capacity limits may be quite different.

Second, the global economy is increasingly volatile, forcing companies to continuously revisit their sourcing decisions and associated procurement strategies. Manufacturing labor costs in China have risen sharply over the past four years and are now more than double those in neighboring Vietnam and 35% higher than those in Mexico. The USA, China and Europe are rapidly imposing, increasing, decreasing or eliminating tariffs in their current trade wars. Commodity prices are also increasingly volatile, as are logistical costs. And currency and interest rate changes are pervasive. These various volatilities have a major effect on demands, costs and capacities. There are, often, significant discrepancies between theoretical capacity levels and actual ones, due to temporary supply disruptions, quality problems, rationing schemes etc.

Thirdly, it may either be necessary, because of capacity limits, or it may be desirable to opt for a dual (or multi-) sourcing strategy which, at all times, or, under some fluctuating conditions, procures from both sources. In the latter case, the challenge is to determine how much of the total procurement volume to allocate to the two sources and how inventory information should be used to make these allocation decisions, dynamically. It is often necessary to reserve or invest in capacities ahead of time to ensure they are there when wanted or needed. The same dilemma arises when a firm has two (or more) assembly plants in different parts of the world, with different costs and lead times to service its customer base.

Lijian：You have argued multi-dimensionally from total landing cost, risks, and supply capacity about the scientific principles of economics development, and explained why reversal trend of globalization emerged recently. Your analysis helps people understanding that the determining factors in choosing globalization strategy is the supply chain efficiency and resilience. Indeed, the supply chain globalization is a natural flourishing strategy along the advancement of economics and technologies, it is not the factor that stagger the economics that is advocated by some politicians and medias. In your professional opinion, how to improve supply chain competitiveness and resilience in the post-pandemic era?

Awi:In most supply chain settings, volatility is the prime driver of increased operating costs or reduced service levels or sales volumes. Under dual (or multi-) sourcing, increased volatility in the environmental factors, far from acting as a hindrance, may, in fact, be exploited to improve system performance, by effectively shifting procurement orders or production volumes between the suppliers, as the state of the world emerges. The potential for such exploitations increases with the available capacity levels.

Last but not least, supply sources are subject to partial or complete disruptions. The COVID pandemic has generated a plethora of such examples, as described above. But the problem is not restricted to once in a hundred year pandemics. Major worldwide supply disruptions occurred because of the floods in Thailand, the earthquakes and tsunamis in Japan, hurricanes like Kathrina in the USA, along with local fires and contaminations of individual factories. In the vaccine industries, there are chronic shortages because the number of global suppliers is small and production facilities are frequently closed down for significant intervals of time. Thus, resiliency considerations provide additional incentives to apply multi-sourcing strategies.

As demonstrated, the trend towards onshoring had already taken root in the past decade, but the COVID19 pandemic has and will continue to accelerate this trend and the realization that single sourcing results in highly vulnerable supply chains. National industrial policies are reinforcing these trends. For example, the USA’s most recent Executive Order on Preserving Essential Medicines (August 4, 2020) mandates both “Maximizing Domestic Production in Procurement.”, as well as (section 2(ii)) “dividing procurement requirements among two or more manufacturers”.

The benefits of dual sourcing over single sourcing are often very significant, even in a world with stable cost, demand and capacity structures, as we and others have demonstrated in our research. Not surprisingly, they are even more extensive in settings with fluctuating cost, demand and capacity patterns. But realizing these benefits requires state-of-the-art planning models and algorithms, a core research activity of my group at the Decision Risk and Operations Division of the Columbia Business School.

Lijian：From perspective of “volatility”, you have argued how to use diversification and incentive mechanisms to effectively improve supply chain efficiency and low volatility. From the historical development, globalization facilitated the flow of material and capital, the advancement of technology and civilization, communication between different countries, and provided strong stimulus for the growth of world economics. Of course, the development will not be always easy, there will be obstacles and difficult times along the process such as risk of geometric politics, sensitive supply that is highly dependent on a region due to highly concentrated suppliers, and unresponsive to surging demand. However, it is unfair and not helpful to attribute problems that staggered world economics to the globalization. More importantly, to achieve economic recovery and sustainability, governments should reconcile the trading conflicts, work together corporately to overcome difficulties and challenges, and advocate customized macro policy based on characteristics of industry to improve supply chain core competitiveness and resilience.

Accelerated Innovation on the Heels of the Pandemic

Lijian：The recent advancement of technology innovation such as big data technology and its wide adoptions has played more and more important roles across various industries. Professor Maglaras, could you please share your opinions on what are applications of these technologies in service and digital economics and their impacts on post-pandemic economic development?

Costis：Amidst the evolving COVID-19 pandemic, businesses large and small are grappling with the process of reopening, dealing with measures for social distancing and developing protocols for how to operate building lobbies, elevators and open workspaces. In most settings, managing these new procedures will require a phasing of employees back to their work environments. In urban centers around the world, the issue of safely shepherding a sudden influx of employees back to work centers is particularly vexing, as commuting to work is a process that relies heavily on public transportation, and a significant daily brush with congestion, particularly during rush hour. The present public health mandate for decongesting transportation systems has given rise to increased use of bicycles, as an example, but this modality is not sufficiently scalable to transport millions of commuters, especially those commuting over long distances.

Focusing on subway transportation systems, if commuters were now asked to double the distance between them, say, to four feet from two feet, transport capacity would be reduced by 75%. If we assume that pre-COVID-19 distancing during rush hour was closer to one foot between commuters (which, admittedly, at peak times sounds generous), then asking commuters to adhere to four feet of distancing now reduces transport capacity by 95%.

This period of managing the gradual re-opening of our economies is forcing us to reconsider one of the basic assumptions of everyday work life, namely that most of us have the same work schedule, and as a result we should all commute at the same time of the day. This constraint can and should be relaxed by staggering work schedules in a way that would successfully spread out the commuting flows of large groups of the working population. This process of demand smoothing and the reduction of peak load utilization would decongest public transportation systems, road networks, and the ingress and egress from work buildings. A simple calculation suggests that by spreading commuter usage more evenly over a four-hour window as opposed to a roughly 90 minute busier period with a 60 min peak, one subway car may be able to serve about 30% more commuters while never operating above 85% of peak occupancy. Across the network, this alone would compensate for about half of the loss of peak transport capacity due to distancing measures in the near term, and will increase transport capacity by 30% post-pandemic. Moreover, it will reduce congestion delays caused by full subway cars and crowded platforms, and reduce overall transportation times.

Demand smoothing works; in fact, it is currently implemented in our road, airline, and electricity networks, as examples. Often this smoothing is achieved through price incentives, such as giving a discount when consuming electricity overnight, charging more when driving in certain areas during peak times, or buying a cheaper ticket if you fly midday or midweek. But before reverting to price incentives, we should try to reduce the effects of the structural cause of peak usage of our infrastructure due to our rigid workday hours.

Similarly, we need to invest in technological solutions to facilitate ridesharing as opposed to the use of single-occupancy vehicles, and continue to manage the multi-step commute of people from far away destinations. Today’s vexing commute conundrum may lead to significant and long-lasting innovation.

Remote work is another vexing problem. Nearly every worker switched to remote work overnight, and this continues to sustain significant portions of the service economy, including that of higher education – my sector. Many of us are exploring the extent to which such a transition can be a longer-term trend, and what technological and management tools will be able to create an organizational culture that is inclusive, innovative and dynamic.

While the last 6-month period has indeed been a success, it is not yet clear whether this can continue for the longer term. I would argue that it is not. It is hard for organizations to evolve and innovate in the current state. Hiring and training new employees in this remote model is trickier. Innovation, a process that requires intense and purposeful joint exploration of problems and opportunities, is difficult to replicate remotely. Organizational culture is hard to maintain and evolve or change. Personal connections and rapport that often rests on spontaneous and informal interactions – the “water cooler conversations” – are hard to replicate. Most of us rely on technological tools to facilitate the basic functions of coworking on tasks or documents or software, as well as meeting individuals or groups, but these tools have not addressed the interpersonal aspects mentioned above.

There is significant and interesting work under way to bridge that gap, in part as a response to the current crisis. An interesting subset of these efforts leverage knowledge that we have in creating engaging virtual communities and virtual reality (VR). Much of it borrows lessons and technological know-how from the online gaming industry that has created such virtual, multi-player environments that engage users in collaborative and social interactions. Advancing our ability to maintain such engagement and virtual interactions may prove necessary in addressing at least some of the issues highlighted earlier. Separately, important advances in team and project management would be needed to guide on how in-person time should be spent to achieve the best outcomes.

Similar waves of innovation will likely ripple through many other areas of the economy. Education has been transformed over the past half a year, and the lessons we are rapidly extracting are likely to persist. The technological tools of remote learning will allow institutions to offer programs mixed in their modality of delivery, focusing in-person interaction in activities where one extracts maximal benefit. This will likely enhance the value of the programs we offer. Separately, we can exploit the rapid familiarization with remote teaching tools to enhance the level of education in geographic areas where there is a shortage of teachers or expert educators. Our healthcare system and the growth of tele-medicine will also likely persist. Retailing may forever change, with a significant tilt towards online retailing even for demographic groups that were slow adaptors and product categories that were typically bought in person.

In many areas of our economy the pandemic has brought in accelerated change by forcing us to rethink and reimagine many aspects and habits of our lives. This process is disruptive but it simultaneously is ushering and will continue to usher long term innovation and changes to our global economy.

Lijian：Indeed, you have argued the importance of technology innovation in economics. The sourcing, social, payment, and entertainment are basic infrastructure in the online world, the evolution of supply chain data and intelligence is constructing the infrastructure of future detail era. After adoption of digital technologies, supply chain is not merely a single economic entity, more importantly, it is also the source to produce and gather data, which will be revolutionary and crucial to industrial 4.0, smart manufacturing and potentially achieving AI+ manufacturing. The big data, AI, blockchain technologies will play increasingly important roles in the post-pandemic supply chain. First, the blockchain technology will effectively resolve issues of information leakage, stole of sensitive information and geometric politics interferes by removing characteristics such as centering, close-loop, anonymous, and modifiability. Second, since data is a true reflection about facts and development, big data with wide coverages helps regional restricts within the traditional globalization process, and improves efficiency in the communication and accurate tracking and tracing. Such big data technologies help reducing communication costs and information distortion within a supply chain, and improves supply chain efficiency and competitiveness. In the future digital era, the core competitiveness in the market is determined by big data that covers wide range with deep information and corresponding intelligent technologies to process the big data and business analytics.

 

 

 

 

 

 

[ Editor: WPY ]