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The Great Supply Chain Collapse

(by Jim Rickards | The Daily Reckoning) – What’s at the root of the supply chain breakdown? That’s a critical question but the answer is almost irrelevant. The supply chain is a complex dynamic system of immense scale. It is of a complexity comparable to the climate as a system.

This means that exact cause and effect cannot be computed because the processing power needed exceeds the combined processing power of every computer in the world.

Most people have some notion of how supply chains work, but few understand how extensive, complex and vulnerable they are. If you go to the store to buy a loaf of bread, you know that the bread did not mystically appear on the shelf.

It was delivered by a local bakery, put on the shelf by a clerk, you carried it home and served it with dinner. That’s a succinct description of a supply chain – from baker to store to home.

Yet that description barely scratches the surface. What about the truck driver who delivered the bread from the bakery to the store? Where did the bakery get the flour, yeast and water needed to make the bread? What about the ovens used to bake the bread? When the bread was baked, it was put in clear or paper wrappers of some sort. Where did those come from?

Even that expanded description of a supply chain is just getting started in terms of a complete chain. The flour used for baking came from wheat. That wheat was grown on a farm and harvested with heavy equipment. The farmer hires labor, uses water and fertilizer and sends his wheat out for processing and packaging before it gets to the bakery.

The manufacturer who built the oven has his own supply chain of steel, tempered glass, semiconductors, electrical circuits and other inputs needed to build the ovens. The ovens are either hand crafted (engineered-to-order) or mass produced (made-to-stock) in a factory that may use either assembly lines or manufacturing cells to get the job done.

The factory requires inputs of electricity, natural gas, heating and ventilation systems, and skilled labor to turn out the ovens.

The store that sells the bread is on the receiving end of numerous supply chains. It also requires electricity, natural gas, heating and ventilation systems and skilled labor to keep the doors open and keep merchandise in stock. The store has loading docks, back rooms for inventory, forklifts and conveyor belts to move its merchandise from truck to shelf.

Every link in these supply chains requires transportation. The farmer relies on trucks or rail for deliveries of seeds, fertilizers, equipment and other inputs. The oven manufacturer also relies on trucks or rail for deliveries of its inputs, including oven components. The bakery and the store rely mainly on trucks for deliveries of their inputs and the finished loaves of bread. The consumer relies on her automobile to get to the store and return home.

These transportation modes have their own supply chains involving truck drivers, train engineers, good roads, good railroads, rail spurs and energy supplies to keep moving and keep deliveries on time.

This entire network (farms, factories, bakeries, stores, trucks, railroads and consumers) relies on energy supplies to keep working. The energy can come from nuclear reactors, coal-fired or natural gas-fired power plants or renewable sources fed to a grid of high-tension wires, substations, transformers and local connections to reach the individual user.

Everything described above sits somewhere in a complex supply chain needed to produce one loaf of bread. Now take everything else in the grocery store (fruits, vegetables, meat, poultry, fish, canned goods, coffee, condiments and so on) and imagine the supply chains needed for each one of those products.

Then take all the other stores in the shopping center (home goods, clothing, pharmacy, hardware, restaurants, sporting goods) and imagine all the goods and services available from those vendors and the supply chains behind each and every one of those.

In case you think I have exaggerated the components and steps in making a loaf of bread in the above example, I didn’t. The example above is a grossly simplified description of the actual supply chain.

A full description of the needed supply chain would reach back further (where do the seeds for the wheat come from?) and branch off in tangential directions (where do the bread wrappers originate?).

A full description of the loaf of bread supply chain with choice of vendor analysis, quality-control tests and bulk purchase discounts among other decision tree branches could easily stretch to several hundred pages.

Now consider all of the supply chain links and possible bottlenecks described above are purely domestic. But very few supply chains are actually that local. CEOs, logistics engineers, consultants and politicians have spent the past 30 years making supply chains global.

You’ve heard discussion of globalization since the early 1990s. What one may not have realized is that the process that was being globalized was the supply chain.

You know your iPhone comes from China. Did you know that the specialized glass used in the iPhone comes from South Korea? Did you know the semiconductors in the iPhone come from Taiwan? That the intellectual property and design of the iPhone are from California?

The iPhone includes flash storage from Japan, gyroscopes from Germany, audio amplifiers, battery chargers, display port multiplexers, batteries, cameras and hundreds of other advanced parts. Read Full Article >

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