Q2 2022 Market Watch: Global Instability Leads to Continued Supply Chain Disruption

April 12, 2022

The second anniversary of the pandemic came and went, yet the supply chain is still in flux.

Market Watch Collage April2022

How recent events like the war in Ukraine and new manufacturing shutdowns in China affect retailers, brands, and logistics service providers.

Key Takeaways

  • The U.S. inflation rate reached 7.9% in February, the highest since 1982
  • Shanghai and Shenzhen, significant manufacturing hubs in China, shut down in mid-March to curb Covid-19 infections
  • Diesel prices reached a $5 gallon average in the U.S., impacting shipping costs and consumers’ bank accounts
  • Analysts now see a 35% risk of recession in 2022, up from just 10% a year ago

Because of the rapidly evolving global events, this information is accurate as of April 12, 2022.

What once appeared to be a temporary disruption to typical commerce is now looking more like the kickoff to ongoing instability. The second anniversary of the pandemic came and went, yet the supply chain is still in flux.

Despite most of the U.S. easing Covid restrictions, the virus still commands responses elsewhere. In addition, the war in Ukraine and rising inflation rates challenge an already-tight logistics market. Global disruptions continue to manifest, creating yet another inflection point in the supply chain.

Ripples from Ukraine conflict felt in logistics sector #

The largest source of instability comes from the Russian-Ukrainian conflict. Beyond the humanitarian crisis, it kicked off a series of global responses and supply chain disruptions.

The current crisis could leave the world facing extended reductions in energy supply. Severe sanctions will also likely impact food security and rare metal supplies needed to sustain key technology production. 74,000 businesses worldwide rely on Russian suppliers—90% of these are U.S. businesses; about 241,000 companies rely on Ukrainian suppliers, and 93% are U.S.-based.

Flexe Market Watch April Charts Graph 5

The war’s effect on oil prices and transportation #

Soaring freight costs continue to climb as the West removes key oil suppliers from its collective portfolio. Russia and Ukraine produce 12% of the world’s oil and 17% of its natural gas. Roughly 8% of U.S. crude oil imports and refined products came from Russia in 2021. Oil prices jumped to more than $100 per barrel in March and may reach new highs in Q2.

Increasing fuel costs mean higher freight rates for shippers and prices for downstream consumers. Fuel is the second-largest expense for a fleet, after driver wages. It costs 48 cents per mile, or 24.3% of expenses, according to ATBS, a trucking accounting firm.

Beyond industry costs, consumers are also paying more at the pump, resulting in less foot traffic and spending in stores. In the past few months, many consumers’ behaviors shifted due to higher gas prices.

Analysts at Goldman Sachs now see a 35% risk of recession in 2022, up from just 10% a year ago.
Fortune, 2022

The war's effect on consumers and producers #

Economists are now cutting growth forecasts around the globe amid fresh concerns about inflation affecting consumers and the broader GDP. Analysts at Goldman Sachs now see a 35% risk of recession in 2022, up from just 10% a year ago. And U.S. Labor Secretary Marty Walsh recently said that a recession is now "a real likelihood" as gas prices surge.

Households are reflecting the same sentiment. The University of Michigan consumer sentiment for the U.S. fell to 59.7 in March of 2022 from 62.8 in February—the lowest reading since November 2011. That outlook suggests that consumer spending, which is already fighting an uphill battle as costs rise at the store, will trend downward in the coming months. Especially since the U.S. inflation rate reached 7.9% in February, its highest increase since 1982.

Currently, Ukraine accounts for 12% and 13% of global wheat and corn exports, which are heavily used commodities in nearly all food products. The cutoff in these commodities could create shortages, increase input costs, and raise prices for consumers, further dampening outlooks.

China shutdown looms large for supply chain #

The global logistics market is still reeling from the first large-scale shutdowns in mainland China. Now, the country imposed the largest activity restrictions since the initial outbreak.

Shenzhen placed 17.5M residents into lockdown at the beginning of March. The Chinese government has since lifted the restriction, but the temporary halt affected production. The effects have yet to appear domestically, but past impacts snowballed, snarling supply lines throughout every sector in the U.S. Port congestion, inventory overreactions, and stockouts have dominated headlines since 2020.

Additionally, China is taking similar measures in other parts of the country to those in Shenzhen. Shanghai, a critical port and manufacturing hub, announced it was sending some 25M residents into lockdown. A move so significant, analysts have since shaved 0.4 percentage points off China’s growth forecasts for the year.

Aside from production ceases, the supply chain's major threat comes from both cities' importance in the global maritime industry. Even a minor disruption to normal operations threatens to derail business as usual. Logistics operators warned that these shutdowns could lead to higher shipping costs this summer as ports gradually work through backlogged congestion.

Market watch: The logistics industry month-over-month #

To consistently monitor the logistics market, the Flexe Institute reviews key data points that illustrate critical industry forces.

Logistics Managers’ Index (LMI) #

This index compiles the responses from more than 100 supply chain professionals on the movement and direction of eight key logistics metrics, aggregated into a single index. The LMI provides an effective supply-side monthly snapshot.

The March 2022 LMI topped out at 76.2, the highest reading in the index’s history. The first quarter of 2022 was notable for its high levels of inventory, and insufficient capacity for it, which reflects the combination of several forces: Inventory coming from long-delayed ships, sputtering consumer demand, and decreasing logistics capacity.

Flexe Market Watch April Charts Graph 6

FRED | Real Personal Consumption: Durable Goods #

Durable goods consumption tells the demand narrative during a given period, which is a predictor of the need for logistics services. This month’s data suggests that consumption fell slightly in February, though overall levels remain higher than all preceding months, other than January of 2022. As inflation continues to affect consumer spending, the downward movement in February could continue.

Flexe marketwatch april charts graph 3 2x

Industrial Real Estate Vacancy Rate #

This composite vacancy rate effectively indicates warehousing capacity in the country at a given time. It acts as a barometer for facility rates and availability. The lower the rate, the more difficult it is to find space for warehousing, distribution, and/or fulfillment.

Flexe Market Watch April Charts Graph 4402x 2022 04 12 192157 djxs

U.S. Manufacturing Purchasing Managers’ Index #

The index captures industrial output in the country during a given period. Like durable goods consumption, it provides context for demand forces: The higher the manufacturing index, the more volume will spill into the logistics market.

It has broader implications about the health of the domestic economy. Industrial activity is an effective indicator of growth. This month, the index fell to its lowest level since September of 2020, hitting 57.1. That is a 1.5 point drop from February’s numbers and well below the predicted level of 59. It suggests more sluggish growth figures for the U.S. economy.

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Looking forward: How disruption hits horizons #

Though the industry evolves quickly in spite of recent disruptions, the onslaught continues:

Domestic labor disputes could cause similar snags in ocean freight: Currently, dockworkers on the West Coast threaten a labor stoppage if they can’t negotiate better conditions. The shutdown involves 22,000 union workers in the region, 75% of which work in either Long Beach or Los Angeles—two vital ports for the transportation of goods from Asia.

There are substantial implications from this impasse. These workers are responsible for processing the vast number of imports from Asia. Without a union-approved contract, there won’t be the necessary workers to handle volumes that have recently reached record levels.

What that means for shippers #

Shippers remain focused on inventory levels and the things within their control. Rising commodity prices and the effects of inflation may change demand outlook for durable goods, but the future is unclear. Business inventories continue to swell as purchasing managers account for longer inbound lead times and elevated demand.

However, inflation is also hitting critical supply chain infrastructure at a time when deal-making in the industrial space market remains at record levels. The challenge for shippers will remain how to solve for expanding inventories while not exceeding budgeted CapEx in a historically expensive market for industrial space, labor, and steel, among others.

For shippers that have the option, deferring some long-term investment decisions in fixed supply chain infrastructure may prove opportunistic as most shippers are compelled to invest at these historically high levels.

What that means for operators

Operators continue to opportunistically take down new space with anchor tenants in tow. New construction in the industrial real estate market is hitting record levels, but satiating demand appears to be far from complete.

Given the uncertainty in building material costs, particularly with the disruptive impacts of the Asia-U.S. supply chain and the commodity price volatility from the Russia-Ukraine conflict, speculative space will likely continue to rise in cost.