Inflation and the supply chain

Reports of supply chain difficulties are appearing on a daily basis including, somewhat concerningly to the author, coffee along with more important commodities such as computer chips.

Here in NZ, there are frequent reports in the media about the dangers of inflation, with the economists sounding an alarm in recent weeks as various data are published, most recently the employment statistics.

When it comes to building, there are also many reports of shortage and price escalation. In the middle of a construction boom and housing catastrophe this is worrying.

So then: two questions. One, “is it real” (what is causing it) and two “what might be done”

Is it real?

Do we have inflation and what might be driving it? Some “standard” measures trotted out are money supply, lack of debt track management and arcane things like the NAIRU. Even though debunked, it lurks in the corner to frighten us. Economists are stating they think NZ’s economy “is already at or above maximum sustainable employment”.?Now, I am not sure what maximum is, but I would have thought when there are jobs for all, at living wage or above and falling rates in poor mental health and suicide in key sectors of the economy we might have a better definition.

I was intrigued by this article “The problem with economists’ forecasts” and this one too “Why economic forecasting has always been a flawed science”. So, if the forecasts are unreliable (the US Fed admitted last year they have “no reliable theory of inflation”) where might we look?

Fahdel Kaboub suggests two factors that actually drive inflation: “the availability of real resources (productive capacity) and the concentration of market power in the economy (abusive price-setting behaviour)”. Spoiler alert: the good news is we can do something about these (unlike being able to forecast accurately).

Some analyses argue there is a competitive market for building supplies in NZ, however one might wonder about the provenance of the information. Industry insiders claim markets are competitive, but like Mandy Rice-Davies once said (paraphrased) “well, they would, wouldn’t they?”. More thoughtful analysis, and the odd court case, suggests there is a considerable degree of market power. Tim Hunter, NBR 2 July 2021, thoughtfully laid out that some players have a “significant share of the market”, that there “isn’t a shortage of logs” nor was the “value of exports unusually high compared with previous years”. He noted that consolidation and retirement of capacity had created a “dominant duopoly”. Hmm, that sounds familiar.

On work for clients looking at the building sector in NZ, we have also concluded that there is considerable capacity, but also considerable concentration. To procurement wonks like us, the former is good, the latter is bad.

Therefore, you can imagine my disappointment at the announcement in the Herald that USG Boral is going to quit the market. This provider of plasterboard, light gauge metal and ceiling tiles, after four years of trying, has sadly written to customers citing the “significant challenges to new market entrants”. If a global leader in these products, cited for their innovation and knowledge just left the building, who is left poorer? Those with good memories will recall the hotline set up for “rorts” in 2014 and Commerce Commission interest at the time in plasterboard.

Combine supplier exit with recent news that NZ has been dropped off the global supply chain routes?and it’s starting to look quite dire.

What might be done?

Consider the first factor, capacity. How might we build more capacity in critical materials, like structural timber, X Lam, plasterboard and more? As Mr Swelim notes ““We’re in a country that struggles to find enough human resources. Getting more people in isn’t the answer. More people means you need more infrastructure, more housing and more services. Automation is the answer.”

Is it time for the power of the government purse to create the kinds of supply we need to fuel the construction boom? Rather than sending the logs offshore, we could train more Kiwis and provide value added jobs making key components for the construction sector in key regions. Yes, wages would rise now that we don’t have the inflow of labour depressing real wage growth. But wages rising would not only improve the lives of people, it would also drive a higher focus on productivity through automation and capital investment. We could build the kinds of automated facilities to produce kits, modules and other componentry in the prefab arsenal. Mr Swelim again “A key efficiency is staff training. “You are training machine operators instead of builders. It’s much faster,” he said.

The private sector has not seemed entirely willing, in fact they have seemed bent on the reverse – reducing capacity.

Which takes me to the second factor: regulation. The Commerce Commission has been leading with studies into key markets, firstly fuel and recently the grocery sector. Fuel suffered “from the lack of an active wholesale market, weakening price competition in the retail market”. Grocery suffers (preliminary finding) from “competition is not working well for consumers in the retail grocery sector”. Perhaps Ministers Woods and Clark, building materials deserves the closer look that was put off a few years ago?