By Daron Acemoglu
BOSTON ( Project Syndicate )—Global supply chains used to be the last thing policy makers worried about. The topic was largely the concern of academics, who studied the possible efficiency gains and potential risks associated with this aspect of globalization. Although Japan’s Fukushima nuclear disaster in 2011 had demonstrated how supply-chain disruptions could impact the global economy , few anticipated how central the problem could become.
Not anymore. Today’s supply-chain bottlenecks are creating shortages, propping up inflation , and preoccupying policy makers around the world.
Biden administration reacts
President Joe Biden’s administration deserves credit for recognizing that supply chains are key to future economic security. In February 2021, Biden issued an executive order directing several federal agencies to secure and strengthen the American supply chain; and in June, the White House published a 100-day review on “Building Resilient Supply Chains, Revitalizing American Manufacturing, and Fostering Broad-Based Growth.”
This 250-page report contains many important proposals. Some are already part of the broader discussion on improving the U.S. work force’s skills and the economy’s capacity for innovation. Other ideas have been circulating for a while in international relations and security studies; for example, the document considers the national-security implications of defense and other critical industries’ reliance on imported inputs .
But the review’s most important contribution is its observation that global supply chains have imposed various social costs: “Our private sector and public policy approach to domestic production, which for years gave priority to efficiency and low costs over security, sustainability and resilience, has resulted in supply-chain risks.”
The review then asks whether hyper-globalized supply chains are so great for economic efficiency after all.
The default position among economists is “yes, they are.” When two firms enter into a transaction in which each will gain something, that is good for both firms and also probably for the rest of the economy, owing to the resulting efficiency improvements and cost reductions. Whether this involves a U.S. manufacturer offshoring the production of some inputs to a Chinese firm is beside the point.
Dangers from two sources
Yet supply chains can pose a danger to an economy in two important ways (beyond the defense-related concerns mentioned above). The more complex a supply chain becomes, the greater the economic risks. A break in any link can affect the whole chain and send prices surging if it creates sudden shortages of a necessary input.
The worst-case scenario is when a failure in one part of the chain triggers domino effects, bringing down other firms and bringing the entire sector to a standstill. Logically, this scenario is similar to what one finds in financial networks, where the failure of one bank can push others into insolvency or even bankruptcy, as happened in 2008 following the collapse of Lehman Brothers.
In principle, because uncertainty is costly, businesses will take these risks into account when deciding to build supply chains. In practice, however, there are good economic reasons why firms may overextend their supply chains. For one thing, firms will account for their own risk, but not for the systemic effects they are creating, nor for the risks they are imposing on other firms or the entire economy.
Moreover, when global competition creates powerful incentives to reduce costs, even small price differences offered by foreign suppliers can become attractive, especially in the short term. In this age of stock-market /zigman2/quotes/210599714/realtime SPX +0.09% /zigman2/quotes/210598065/realtime DJIA +0.35% options and hefty bonuses, financial interests also factor into managers’ considerations. CEOs enjoy immediate compensation when they can achieve cost reductions and increase profits, whereas the significant costs of future uncertainty—or even bankruptcy—will likely be someone else’s problem.
Squeezing the working class
A second way that companies may overextend their supply chain is subtler but no less important. The problem, the White House review notes, is that “the United States has taken certain features of global markets—especially the fear that companies and capital will flee to wherever wages, taxes and regulation are lowest—as inevitable.” This statement echoes economist Dani Rodrik’s prescient observation that globalization is not just about trade in goods and services; it is also about the sharing of rents.
As such, the globalization of supply chains is an integral part of the shifting balance between capital and labor.