We Got What We Wanted… Now What?

By Chris Kuehl, managing director, Armada Corporate Intelligence

For the last few months, I have been back on the road giving talks – a welcome respite from those infernal Zoom calls and webinars. I have been calling these presentations “Be Careful What You Wish For: You Just Might Get It.” We all fervently desired an end to the lockdowns and pandemic protocols, and then we got some of that wish. Now I am remembering what I didn’t miss about traveling. 

On the other hand, I am getting the first-hand information and feedback I didn’t receive over the past year, and in all these conversations, there have been three concerns at the very top of the list for businesspeople all over the country and in sectors as varied as manufacturing, construction, accounting, retail, transportation and so on.

Concern #1: labor supply

The very top of the list has been labor supply. This certainly is not a new issue, but it has reached a crisis point for many. Almost every executive I speak with has asserted they have been turning down business. They simply cannot meet the demand as they don’t have the people they need. This mostly is an issue with the more skilled positions, but the majority assert that even lower-skilled jobs have become impossible to fill. Many factors are at work to make this issue more vexing – most notably, the extension of government benefits through the summer. The fact is that these extensions are not the prime reason for this shortage. Workforce participation has been falling for years and now is as low as it was in the 1970s when women generally were not part of the workforce. This participation issue is due to retiring Boomers, reduced immigration levels, skill mismatch, location issues and so on. 

No simple answers exist, and those who assert that all that is needed are higher wages have not been paying attention. Even the promise of good pay and benefits has not been enough to draw people into the workforce – and beyond this, it often is impossible for a company to continually offer higher wages if there is to be any hope of protecting the profit margin.

Concern #2: inflation

The second issue on the list is inflation, and this is no shock. The surge in demand as the lockdowns ended corresponded with a collapse in the supply chain – and suddenly, the commodities markets were exploding with hikes as high as 180% (lumber). Oil gained by over $40 a barrel in four months and metals have been up as well. Wages did not rise at first as there still were many unemployed, but they certainly rose for the people that had the skills. In the ten Midwestern states, wages went down for manufacturers in only one (Kansas). All others saw hikes between 5.0% and 11.0%. The surge in commodity pricing was to be expected and likely is to be somewhat transitory as producers strive to catch up. Wages are another story. Once these come up, they don’t come down – and companies have to adjust to these higher labor costs by hiking their own prices. Once wages start to come up, there will be inflation chasing as higher prices are imposed to deal with wage hikes … and that stimulates even higher wages. The Federal Reserve has been referring to the current inflation situation as transitory, since it is assuming inflation threats will ease once the suppliers are able to meet demand. 

Basically, two motivations exist for commodity-based inflation. The first, is a genuine shortage of some commodity or product. A good example from the past was the impact on oil prices due to the OPEC embargo back in the 60s, when producers withheld oil and there was not enough on offer to fulfill need. There have been other shortages of materials due to supply chain disruption or natural disaster, such as when the Japanese were hit with the Fukushima disaster and plants were shut down. These inflation surges persist for an extended period of time. The other motivation for inflation is when demand shoots past the ability to keep up. This is a much shorter-term issue as producers have the ability to meet this demand once they have time to gear up for it. That is the situation we find ourselves in now, and the shortage doesn’t last long. Producers are scrambling to meet this unexpected demand – they want to protect their market share, and they hate to leave money on the table.

Concern #3: continuation of growth

The third issue revolves around how long this growth continues. The estimates for this year verge on the spectacular – anywhere between 6.0% and 7.5% (depending on the holiday spending season). Next year is expected to be solid as well, but with growth at around 4.5%. After that, the pace slows to the normal annual average of 2.5%.

Given this, what should companies do to react to the fast growth now? There is a temptation to do what is required to meet current demand, and that would mean paying higher wages, accumulating commodities and inventory to ensure supply, investing in extra capacity and so on. What happens when growth slows? It is an awkward choice – either leave money on the table this year and risk losing market share to competitors or risk having far too much capacity, inventory and labor when the economy slows down. There is a reason more companies go out of business during a recovery from recession than during the recession itself. It is very tempting to pull out all the stops to meet demand – companies rush to buy new machines, expand capacity and hire people. They end up paying a premium for all this expansion – costlier machines, expensive construction and higher wages. What happens when the demand flags? Most of these expenses can’t be reversed and the costs overwhelm. This is what creates the “zombie” company – the business that is not making enough to service its debt, let alone grow and expand.

What’s coming next?

First, labor shortages will remain a major issue for the next several years. There are no quick solutions – training and education take time. Dealing with the labor issue will mean accelerating reliance on technology, automation and robotics. Every task will have to be assessed to determine if there is a machine alternative. 

Second, inflation is here to stay, but it is not likely to hit hyperinflation levels. The Fed has tools to affect the money supply and will start pulling back on stimulus. The inflation levels will drop a little, but will stay higher than they have been in most of the last decade.

Finally, we see growth slipping as early as Q2 of 2022 but not collapsing. Returning to normal will feel like a slowdown as compared to what we have been seeing in the last year, but it really will be just getting back to a more sustainable pace. 

The bottom line is that it is going to be tough to compare to either the truly miserable 2020 or the unusually robust 2021.  

Chris Kuehl is managing director of Armada Corporate Intelligence. Armada executives function as trusted strategic advisers to business executives, merging fundamental roots in corporate intelligence gathering, economic forecasting and strategy development. Armada focuses on the market forces bearing down on organizations. For more information visit www.armada-intel.com.