How Manufacturers Are Unintentionally Fueling Inflation
Over the first half of this year, global manufacturing activity has surged while restrictions on travel and other services continue to direct consumer spending into merchandise. But in their effort to meet demand, manufacturers are unintentionally fueling inflation. A run-up in commodity prices is chilling what should be red-hot excitement over the global economic recovery, battering manufacturers and adding to fears that inflation could become more persistent.
Steady Demand and Supply Shortages Mean Higher Prices and Lower Margins for Manufacturers
This spring saw the strongest manufacturing growth since 1983. But as demand continues at high levels, manufacturers are struggling to keep up. Orders continue to grow as the economy gathers steam, while inventories of finished goods and materials remain lean. This means more production in the months ahead. This is the challenge.
Throughout the industry, production has fought to keep up with consumption, leading to depleted inventories throughout the supply chain — including raw materials, work in progress, and finished but unsold items. A continued increase in production is needed over the coming months to meet the influx of new orders and stabilize inventories.
Steady demand and shortages of supplies needed to manufacture goods have sparked price pressures for inputs. Pipeline pressure is high. The surge in manufacturing, coupled with a global freight boom, is driving greater diesel consumption, resulting in rising crude oil prices.
Producers are paying higher prices for a range of other commodities as well, from mineral ores and metals to forest products. This rise in the cost of raw materials is shrinking profit margins for manufacturers.
Growing Materials Costs Will Translate to Higher Prices for Finished Goods
Surging commodity prices can be an early warning of future inflation, as commodity markets react more rapidly to changes in the economy than prices for finished goods. But eventually, growing materials inflation will filter through to finished goods for households and businesses alike.
The world hasn’t seen such across-the-board commodity price increases since the beginning of the 2007-08 global financial crisis, and before that, the 1970s. Lumber, iron ore and copper have all recently hit record highs. And in our experience, we have not seen any raw material for which cost hasn’t gone up this year.
Many factors are driving these increases, including strong consumer demand and supply chain bottlenecks. We expect some commodities, like plastics, to continue to rise alongside the price of oil. In China, factory owners have increased prices or been forced to halt operations to offset losses from higher raw material costs.
While a portion of the increased costs are being temporarily absorbed by manufacturers through lower profit margins, it’s inevitable that these increases will eventually be passed on to consumers through higher prices on finished goods.
Slowing Commodity Price Growth Expected As Consumer Spending Shifts to Services
Rising commodity prices, along with extended lead times, difficulties in transporting products, and wide-scale shortages of critical materials, are affecting every segment of the manufacturing industry. And while many think we could be dealing with these issues long term, some see them as temporary problems.
As restrictions on travel, tourism, hospitality, and other service industries relax, some U.S. consumer spending is expected to shift back to services, which are less commodity-intensive. This should ease some of the inflationary pressure building in the goods sector by early 2022.
But don’t get too excited just yet. Extended and generous unemployment benefits have slowed the transition of many workers back into the workforce even as the number of unfilled jobs remains high, putting upward pressure on wages and leading to inflation in the services sector. If the upward pressure on wages reverses as the aforementioned benefits sunset later this year, then there is hope that the associated inflation will be short term.
Chinese consumption of industrial metals, which is about half of global demand, is also expected to fall as Beijing aims to restrict the amount of credit available, cooling growth in the country’s economy. This would free up much-needed materials for use in other sectors of the industry, loosening some of the knots in the supply chain.
So while it seems that, for now, manufacturers are unintentionally fueling inflation, there is some hope that the increase will be short-lived.
As a global manufacturing solutions provider with nearly four decades of experience in the industry, Macrotech can help your organization mitigate the effects of inflation on your products. Schedule a call with us to learn more about how we can help your business navigate the ups and downs of volatile economic seasons so you can come through them thriving.