What can procurement do about the 'inflationary feedback loop'?

Soaring commodity prices and rising supply chain risk are stoking an “inflationary feedback loop”.

Risks around the supply of critical commodities – such as oil – have begun to compound on each other, pushing up raw material and transportation costs, according to the Achilles Supply Chain Resilience Index (ASCRI). This in turn has led to demands for higher wages, pushing inflation even higher.

Meanwhile, the Bank of England has predicted inflation in the UK will hit 11% in October.

Katie Tamblin, chief product officer at Achilles, told Supply Management: “The price of oil goes sky high with Russia's invasion of Ukraine. And that impacts everything made with chemicals, or requires oil burning to be made. And so it impacts all semi finished and finished goods, plastics and everything else, either indirectly or directly. And so that pushes the price of everything else.” 

Tamblin explained that when energy prices go up, prices in the next tier of the supply chain usually also increase about three months later. If oil prices go up, three months later plastic prices will go up, then items made with plastics three months after that. Over a 12-18 month period, the price of oil will hit consumers.

“When everything made with plastics is more expensive, when my petrol is more expensive, then I demand higher wages. And that's the feedback loop, because then it all starts over again,” she said. “Everyone is demanding and commanding higher wages. We're seeing huge wage inflation pressure right now, and that impacts everything again.  

“Everything that's manufactured requires people to either make it or get it where it needs to be. Those people need more money, because they're spending more on consumer goods. They demand higher wages, that impacts the cost of everything again.”

In the second quarter of 2022 the ASCRI has tipped into the ‘very high’ risk zone, with a further decline predicted. It suggested the re-emergence of Covid in China and the conflict in Ukraine are responsible for the surge. A shift from consumer spending – from services to goods – has also impacted inflation.

Tamblin added there were actions procurement teams could take to combat this inflationary feedback, though emphasised this would vary by industry:

Longer term contracts where you can get more price visibility and insulate yourself against further price increases can be helpful.

Partner with suppliers, because sometimes suppliers will reduce the price if they can get a longer term agreement or they feel more in partnership with the procurement team. If you have a long-term relationship with a supplier, they might grant short-term relief on the price. Understand what is most important to your supplier, for those critical commodities, the ones that are really impacting you – and then try to leverage that.

If you're buying more semi-finished and finished goods, where those price increases have not yet totally rippled through, lock in the price now.  

“It’s going to be critical that procurement teams look to avoid disruption, because you may not be able to avoid the price increase,” Tamblin said. “But even worse than paying more is not being able to get supply. A lot of the price increases are happening because demand is greater than supply for these commodities. Even if you are paying a higher price, it's probably not a bad idea to lock in inventory of your critical items, just to make sure you can get it.”

She added: “We're going to continue to see disruptions throughout the rest of the year. So you have to make a strategic choice as a procurement professional. Do I want to pay more, but be sure to continue production of my goods because I have the supply? Or do I want to risk prices coming down, but I may not be able to get the supply when I need it?”

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