Cracking the Whip on the Economy

The bullwhip effect has begun, but it will take time for inventories and jobs to recover fully.

The economy has started its long, slow slog back up the mountain, and many encouraging signposts have begun to appear. For instance, the Institute of Supply Management's latest index of manufacturing activity indicates the industry (as of January 2010) is currently sitting at 58.4% (anything over 50% is considered growth; anything under is decline), which is the highest the index has been since August 2004. “Both the New Orders and Production indexes are above 60%,” notes Norbert Ore, chair of ISM's Manufacturing Business Survey Committee, “indicating strong current and future performance for manufacturing.” So, that's good news.

The U.S. economy is up. Consumer spending is up. Personal income is up. Even jobs are up, at least in the manufacturing sector, which gained 11,000 jobs in January according to the Labor Department. “Most of the gain in manufacturing employment was the result of increased production related to inventory restocking after a major drawdown took place in 2009,” explains David Huether, chief economist with the National Association of Manufacturers (NAM). “However,” he adds, “this is a temporary boost and will fade in coming months.”

In fact, the Wall Street Journal is referring to our current economic situation as “the inventory recovery,” one that is predicated more on the rebuilding of inventories than on anticipated demand for products. In supply chain circles, this is known as the bullwhip effect, a concept that dates back half a century to the pioneering work done at MIT by Jay Forrester and his colleagues.

As I describe in my book Supply Chain Management Best Practices (second edition due out this April from Wiley; end of shameless plug), Forrester discovered that inventories in a company's supply chain fluctuate the further they are from the ultimate end user, and the whole idea of supply chain management evolved from the desire to understand and ultimately control those demand fluctuations.

The WSJ notes that construction equipment manufacturer Caterpillar Inc., for instance, is increasing its purchases of everything from tires to tubes to steel to restock its dealer inventories while meeting current customer demand. “If Caterpillar increases its production 15%,” the article states, “many of [its] suppliers would more than double their shipments to [Caterpillar].” And if you multiply that by all of the other big manufacturers and their corresponding numbers of suppliers, the end result should eventually be, if not economic nirvana, at least a robust recovery. The key word there, though, is “eventually.”

As NAM's Huether sees it, the labor market is improving very slowly. “A slow and fragile recovery with no durable gains in employment will likely continue until the second half of the year,” he predicts.

It's not really a good news/bad news scenario; it's more like a good news deferred story. Evidence of the recovery is already here, but it will take quite a few more cracks of the whip for it to advance beyond basic replenishment to full production and distribution again.

Bernie Knill was the very first person I ever met at Penton. Editors tend by their nature to have more than their share of cynicism, but I could tell almost immediately that Bernie was the real deal: an industry expert who excelled at service journalism. As the spiritual godfather of MHM (he worked on this magazine for decades), he won just about every honor a magazine editor can win, but he was never satisfied. There was always another cause to champion or another trend to cover. MHM's long-standing reputation as the voice of the material handling field is very much a result of Bernie's dedication to his craft. Read our tribute to Bernie.

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