3 Ways the Economic Downturn Will Impact the Supply Chain

How will the changed economic outlook impact the supply chain? And how can companies cope with the severe effects?

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With the industrial sector progressively converging into "negative outlook" territory, there is increased talk of the United States facing an economic downturn, and even entering into a recession. The situation is compounded by a range of current global events that is affecting all sectors and news cycles, from the war in Ukraine and the China lockdown to the Fed increasing interest rates and soaring inflation. Amid the proliferation of unforeseen events, executives may be wondering: How will the changed economic outlook impact the supply chain? And how can companies cope with the severe effects?

First and foremost, any anticipated economic downturn will likely have a major suppressive impact on demand. We’ll see a shift from the extremely high demand of last year, which was boosted by the low interest rate, higher savings rate, and COVID stimulus, to markedly lower demand.

This will have ripple effects along the whole supply chain. With consumers spending less at the store, retailers will need to cut down on their inventories, forcing manufacturers, in turn, to change production schedules. Suppliers making building and infrastructural materials including steel and cement will be just as affected by the decreasing demand, as need for those materials will be concurrently in decline. Across sectors, companies with flexible supply chains and the ability to rapidly adapt to unpredictable shifts in demand will emerge with a competitive advantage.

An economic downturn will bring about a decline not only in demand, but also in the price of goods. Over the past year, supply chain shocks and shortages have resulted in a phenomenon of rapidly soaring prices. However, an economic downturn, with its accompanying decrease in demand, would bring prices back closer to the stable equilibrium point where they were before the pandemic.

Lower prices will have a significant impact on the supply chain, severely cutting into the profitability of all involved companies. Margins will be squeezed dramatically all the way from the supply end to the retail side, as retailers find themselves unable to sell the same items for the same amount, which in turn will impact distributors, suppliers, and producers, causing all entities to see a dent in their profits. Amid these increasingly thin margins, cost reduction will be crucial. Any solution that can help companies reduce costs will be a huge asset, helping them create a formidable advantage and stand out from the competition.

Reducing costs is not the only thing supply chain executives should be thinking about. Other resources, such as raw materials and energy, will also need to be optimized, as companies that make the most efficient use of these important resources will maximize the profitability they are able to see in these challenging times. With energy prices at an all-time high, and likely to remain that way, these resources can put particular strain on any manufacturer’s budget. Companies that have a way to optimize their use of energy and can maintain a lean, efficient supply chain without wasting resources are more likely to emerge unscathed from the downturn.

The third area of the supply chain that will be affected by any economic downturn—and the one that could lead to a silver lining—is the labor shortage. Over the past years, employment has been low. Companies are struggling to fill the vital roles that they need to keep plants running. It’s a job-seeker’s market and that’s true for manufacturing as well, as the sector struggles to tackle ongoing problems with hiring and retention. Quitting increased in April compared to previous months, with fewer manufacturers reporting improvement in meeting head-count targets. In other words: People just aren't applying for jobs.

If the anticipated downturn occurs, however, factories lagging in employment could see an increase in applications. Typically in a recession, it becomes easier to recruit people, especially for these operational jobs that are vital to keep factories running smoothly. With the economy declining and job possibilities disappearing, we could see more workers returning to manufacturing operational roles as a stable source of employment.

Today is a sobering time for supply chain executives. As the country braces for an economic downturn, it will inevitably have a drastic impact on the supply chain, lowering demand and increasing prices for manufacturers, as well as bringing down overall profitability for most companies. We aren’t likely to see a repeat of the incredibly high profit margins achieved last year. However, in a way, this is yet another continuation of the extreme uncertainty and volatility that has been present in the supply chain sector for the past three years. If companies take proactive approaches to make their supply chains more flexible and adaptable, such as investing in smarter, more data-driven technology, they can not only stay afloat during the current crisis, but emerge with a lasting competitive advantage.