My name is Scott Lincicome. I’m the Director of General Economics and Trade at the Cato Institute, where my research has recently focused on manufacturing, industrial policy, and global supply chains. I am pleased you are holding a hearing on March 30, 2022, titled “The Supply Chain Crisis and the Implications for Small Businesses.” Through this letter, I hope to offer a contrasting view on American supply chains and economic resilience — one that I hope will inform your consideration of this hearing’s important topics. Importantly, I should note that the Cato Institute and its scholars do not endorse, oppose, or otherwise lobby on behalf of (or in opposition to) specific legislation. My comments are thus intended to be for educational purposes only.
Accompanying my written testimony are three recent studies that I have authored on the state of American manufacturing and its nexus with national security; on pandemic-related supply chain issues; and on the history of industrial policy, here and abroad.1 Summarizing this research in a few short minutes would of course be impossible, so I instead want to leave you with several core themes that carry across my work and are relevant to this committee’s deliberations:
First, much of the recent supply chain problems stem from simply the economic effects of an unpredictable, once-in-a-lifetime global pandemic, which scrambled the typically predictable global supply-and-demand patterns on which complex production and logistics networks have long been based. As the United States reopened last summer, for example, demand for imported industrial inputs and consumer goods skyrocketed, but many major exporting countries, especially in Asia, were still mostly closed-down. Muted consumer demand from these same countries also dented their typical purchases of U.S. products, such as farm goods. The result was a major imbalance in the usual shipping container flows to and from the U.S. This was then amplified by temporary closures at specific ports and factories because of isolated COVID-19 outbreaks.
Another serious mismatch has arisen between total available shipping capacity and abnormally high worldwide demand. Some of that demand is the natural result of post-COVID reopenings, as vaccinated consumers make up lost time and companies restock depleted inventories, aided by Americans’ increasing comfort with e‑commerce. However, some of the mismatch is likely owed to psychology: Just as consumer hoarding of toilet paper and other essentials emptied store shelves last year, now, economic uncertainty and a fear of running out have pushed retailers and other large importers into stockpiling and panic-buying.
This created a self-fulfilling “bullwhip effect” that pushed others to do the same. Lean, “just-in-time” inventory management was replaced by a “just-in-case” approach that saw some buyers, especially in the U.S., double or even triple their inventory levels. Shipping capacity just can’t keep up: Logistics firm Flexport estimates, for example, that global demand for ocean cargo space last Fall was 20 to 30 percentage points higher than available capacity, even though ocean carriers have deployed every ship they have, including ones “not even designed to carry containers.”
The pandemic’s supply-demand imbalances then spilled into the United States’s logistics infrastructure, creating bottlenecks that have exacerbated the original problem. This starts with the ports: As Flexport noted in June, effective ocean freight capacity was 25% lower than what was technically deployed “because so many vessels are caught up in record bottlenecks at ports.” The situation deteriorated further over the summer, with record numbers of waiting ships at the ports of Los Angeles/Long Beach, Oakland, New York/New Jersey, Savannah, and Charleston. The worst of it, however, has been reserved for the LA/Long Beach port complex, which is the busiest port in the U.S., handling around 40% of total cargo volumes each year. Ships there were even forced to take the unprecedented step of just drifting offshore because all port space and contingency anchorages were filled. Many speculate that these ships’ anchors caused the recent oil spill off the California coast.
Other chokepoints and simple coordination problems have added to U.S. port woes. Shipping containers, for example, have been stacked up at port, thus preventing additional boxes from being quickly unloaded. This is because there is insufficient truck and freight rail service available to pick them all up. Those backlogs, in turn, are reportedly due to a shortage of intermodal chassis — what shipping containers sit on when trucks move them across the country — and warehouse space. Without a nearby place to put their orders, U.S. importers have left their containers at the ports, using them as de facto warehouses (and paying high “demurrage” fees to do so). Truckers also report that preexisting port rules on hours of service, appointment times, and “dual transactions,” which require trucks to drop empty containers in order to pick up full ones, have limited their ability to clear port backlogs. And nobody, it seems, can find enough workers.
Regardless of which link in the chain really is the weakest, these strains have had a collectively big effect. West Coast backlogs have also pushed shippers to use East Coast ports (via the Suez and Panama Canals), adding to their backlogs. Thousands and thousands of containers full of items Americans have ordered are effectively out of use while they wait days, even weeks in California, for a spot at U.S. ports. They then spend several more days awaiting pickup. It’s worth reiterating: Fewer containers in use means higher shipping prices and more stress on the domestic and international supply chain systems. And all of this eventually redounds to U.S. companies and consumers.
For these problems, there is unfortunately no easy fix. In part, this is because port expansions, warehouse and ship construction, worker training, and other capacity expansions simply take time, as does the calming of global supply and demand patterns. We therefore expect that supply chain issues will weigh on the U.S. economy until at least the Fall.
On the other hand, not everything can be blamed on the pandemic alone, and this brings us to my second key point for today: myriad local, state, and federal policy have surely exacerbated pandemic-related supply chain problems by over-inflating domestic demand and intentionally diminishing U.S. supply chain capacity, efficiency, and flexibility.
On the demand side, there is little doubt today that the unprecedented amount of monetary and fiscal stimulus implemented during the pandemic has strained global supply chains and contributed to inflation. Household demand, fueled in part by stimulus payments, was channeled into durable goods like cars and furniture, putting retail spending on those items far above the pre-pandemic trend. New research from the Federal Reserve, in fact, estimates that U.S. stimulus packages caused a 2.5 percentage point increase in inflation because stimulus checks boosted domestic demand for durable goods but did not (could not) produce a corresponding increase in supply of those goods, thus increasing prices. A February 2022 analysis from Morgan Stanley found basically the same thing, calling this trend the single largest factor in the rise in inflation. President Biden himself acknowledged the situation in a November speech in Baltimore, blaming inflation on “higher demand for goods” caused by stimulus checks, higher wages, and pandemic-related barriers to in-person services like restaurants.
This channeling of stimulus-soaked demand into goods and away from services inevitably affected manufacturing supply chains, which had their own pandemic-related hiccups and simply couldn’t handle the extra volumes for practical and policy-related reasons. In fact, the World Trade Organization’s chief economist estimates that increased demand for goods is a major factor behind supply chain issues, accounting for anywhere between 65 to 75 percent of supply shortages.
On supply side policies, the problems start at the ports. Longshoremen’s unions on both U.S. coasts have leveraged their political power and ability to shut down ports (and thus the economy) to negotiate contracts that inflate salaries, limit working hours and job flexibility, and prohibit the efficiency-enhancing automation that ports in Asia and Europe adopted decades ago. Unions have also used favorable labor regulation to fight ports’ efforts to supplement their workforces with non-union workers — something that might have come in handy during the current worker shortage.
Furthermore, the Merchant Marine Act of 1920 (aka the “Jones Act”) and the Foreign Dredge Act, which require coastwise shipping and U.S. port dredging to use American-made, ‑owned, and ‑crewed ships, have inflated costs and deterred port expansion projects. The Jones Act, which has made coastwise shipping prohibitively costly, pushes companies to avoid these costs by “port hopping” up and down U.S. coasts using larger, foreign-flagged ships that take longer to offload and are prohibited from picking up additional cargo while they’re in port. The Foreign Dredge Act, meanwhile, further diminishes U.S. port and shipping capacity by limiting available port dredgers and dramatically raising the cost of dredging—dredging that ports need to accept more, bigger, and fuller ships.
Finally, state and local laws, especially in California, have prevented ports and other companies from expanding container storage. Last Fall, for example, we learned that local zoning ordinances prevented container stacking on aesthetic grounds and had caused massive backlogs at the Los Angeles/Long Beach port complex, in turn preventing ships from quickly unloading their cargos. Various California land-use and environmental regulations, meanwhile, have made building new warehouses exceedingly difficult—a serious problem now that free warehouse space is essentially non-existent. According to one recent estimate, building new warehouses can take as many as nine years in parts of California, compared to a still-slow two years elsewhere in the country.
As a result of these and other policies, not one American port ranks among the 50 most efficient in the world, while the largest U.S. port system — Los Angeles/Long Beach — trolls near the bottom of the 350 global ports examined. Major U.S. ports also handle fewer ships than many of their foreign counterparts. No wonder, then, that ports have struggled to process record container volumes, and that port trucks are waiting record times to pick up cargo.
Speaking of trucks, several U.S. policies also have diminished available trucking capacity, which is now so desperately needed. For example, U.S. trucking companies last fall complained that the planned federal vaccine mandate for private companies was reducing the number of available drivers. The United States also has barred Mexican trucking companies, which have the largest and closest supply of potential trucks and drivers, from carrying freight within the United States or from Mexico to inland U.S. destinations — despite federal government pilot programs qualifying them as safe and environmentally-friendly. Massive immigration backlogs — totaling more than a million potential workers — add to our current domestic labor shortage, which many port officials, importers, and logistics experts blame for trucking and warehouse bottlenecks. The Jones Act has pushed domestic freight that could have been shipped by water onto trucks and trains, because the more efficient coastwise shipping is so expensive. This means less U.S. trucking space for international cargos now clogging up American ports.
Meanwhile, high U.S. tariffs have been imposed on intermodal chassis, which trucks use to carry containers from port to warehouse, from China. With the world’s largest chassis supplier effectively banned from the U.S. market and insufficient non-China production available, a serious shortage has ensued. California emissions regulations, moreover, have reportedly pushed some port truckers, whose rigs the regulations suddenly made obsolete, out of the industry.
These policies have helped to create a domestic port, logistics, and infrastructure system that just can’t handle the unexpected stress of the pandemic (and related government stimulus). They may have had minor and diffuse effects during the best of economic times but have collectively become a major and acute problem today — especially given that supply chains were already reeling from a generational, global shock.
Finally, recent events should serve as a cautionary tale about proposals to “fix” the current supply chain situation with protectionism and on-shoring. Domestic supply chains rely on most of the same labor, transportation, and infrastructure that global ones do. Without substantial changes to the U.S. policies that weakened our global supply chains, onshoring would simply trade a vulnerability to foreign shocks for a vulnerability to domestic ones — while making the whole system even more sclerotic, costly, and inefficient than it already is.
Global supply chains and a nation’s openness to trade and investment inevitably involve a risk that a “shock”—war, pandemic, natural disaster—hits the world or certain key nations and roils domestic supplies. Such issues surely have arisen since last year, as has been widely reported. Far less reported, on the other hand, is how the U.S. and global manufacturing sectors immediately began adjusting to whatever supply chain challenges arose. There is perhaps no better example than the medical goods in such short supply in early 2020. According to a December 2020 U.S. International Trade Commission (ITC) report, U.S. manufacturers and global suppliers acted quickly to procure or produce new drugs, medical devices, personal protective equipment (PPE), cleaning supplies, and other goods in high demand. (Particularly “resilient,” in the ITC’s own words, were the U.S. pharmaceutical, medical device, N95 mask, and cleaning products supply chains.) The Commission’s findings have been supported by reams of anecdotal evidence of U.S. investors, producers, and importers jumping to produce medical and other essential goods during the pandemic. By January 2021, in fact, members of Congress were writing President Biden to complain of a potential glut of American-made PPE!
Such events are not only a testament to the tireless work of manufacturers, retailers, and logistics professionals throughout the pandemic, but also a cautionary tale for U.S. policymakers: by the time Congress decides to intervene in a certain market, it will look much different than the one on which that decision was based, and it will change again by the time any government-supported production comes online.
Furthermore, while reshoring supply chains might have insulated U.S. producers and consumers from external supply and demand shocks, those same policies can amplify domestic shocks and reduce overall economic growth and output to boot. Such a risk emerged in 2021 when unprecedented cold hit Texas: several U.S.-based semiconductor manufacturers were forced to idle production capacity, thus exacerbating the very chip shortage that is today often blamed on “globalization.” A few months later, we learned from the New York Times that Germany — a nation more focused on manufacturing than the service-oriented United States and often a model for a new American industrial policy — has suffered greater economic disruptions because of its “dependence” on manufacturing and goods exports. Both experiences are consistent with past research showing that manufacturing and mercantilism are not an easy recipe for economic resiliency; that domestic economic shocks can cause the same supply chain problems as foreign ones; and that the diverse U.S. economy is not nearly as vulnerable to global economic turmoil as is often claimed.
For these reasons, future government action on domestic and global supply chains should focus not on trying to outsmart the market or deliver targeted federal grants or loans to privileged companies and workers, but instead on broadly emphasizing economic openness, diversification, and flexibility. Reform efforts should start with the supply side regulatory impediments discussed above, and others that impose similar harms to the U.S. economy. Demand-side pressures may ease in the coming months, but the supply side will remain vulnerable, as long as governments intentionally diminish available port and transportation capacity. Policies liberalizing trade and foreign investment should also be considered, as they would support U.S. manufacturing competitiveness and economic resiliency by improving companies’ access to and production of essential goods. Reforms should go beyond simple tariff relief and instead focus on making it easier for businesses to locate and invest in the United States.
Congress also should consider other “horizontal” economic reforms that would boost U.S. manufacturing competitiveness. Most notably, the federal government should significantly expand high-skill immigration, past U.S. restrictions of which have been shown to encourage multinational corporations to offshore jobs and R&D activities to affiliates in more welcoming countries and to benefit potential U.S. adversaries, especially China, in terms of new jobs, new businesses, and new innovations. The government should also further lighten corporate tax and regulatory burdens to encourage innovation and foreign investment and to ensure that businesses already here can remain globally competitive. This includes expanding and making permanent the 2017 Tax Cuts and Jobs Act’s temporary “full expensing” provision (“100 percent bonus depreciation”), which allows U.S. businesses to write off certain business investments immediately and fully.
In conclusion, both recent experience and scholarly research show that federal government attempts to subsidize “essential” industries or reshore supply chains carry significant risks, and that open markets can bolster U.S. resiliency and competitiveness by increasing access to critical goods, services, and workers, mitigating the impact of domestic shocks, boosting economic growth, and facilitating rapid, market-based adjustment in times of severe economic uncertainty. This argues for a different approach to achieving real economic resiliency than the ones primarily under consideration today — an approach based not on economic nationalism or top-down planning but instead on the open and flexible policies that America does best.
Sincerely,
Scott Lincicome
Director, General Economics and Trade
Cato Institute
