Why the Supply Chain Problems Will Persist

Summary

• Global supply chains are struggling. One particularly troublesome weak link is a critical shortage of truck trailers (not truck drivers!) to move containers from ports to warehouses.
• This is due to a US government decision in May 2021 to impose punitive duties on a Chinese manufacturer that supplied 95% of US trailers even as demand soared to cope with rising container volume.
• US manufacturers will need a year or more to ramp up operations and start meeting demand.
• We expect port-related supply chain problems will persist through coming quarters or longer, with implications for inflation and returning to normality.

A chain is only as strong as its weakest link. And supply chains have many weak links. Chief among them are labour shortages and rolling lockdowns worldwide as Covid flares up and interrupts manufacturing and shipping schedules. On top of that, goods demand has surged, straining existing capacity.

For all these issues, upward of 100 ships are sitting out at sea, mostly at West Coast ports, piled high with containers and waiting to dock and be unloaded. It is not like stuff is not being manufactured and shipped.

According to US Department of Transportation data, intermodal traffic in goods dropped about 9.5% between 2019 and 2020. This was largely because of lockdowns during the second and third quarters. Then, it rebounded 22% in 2021 or about 11% above 2019 levels. Even allowing for the shock of the work stoppage in 2020, that does not seem an insurmountable mountain that should cause the backups we have been seeing.

Good Policy, Bad Timing!

Most internationally exported goods travel by ship or train in intermodal containers. These are standardized containers that can fit onto different transport modes without having to unload and reload cargo. Trucks are used primarily to move goods from ports to nearby warehouses or rail facilities, and from rail facilities to final destinations – a microscopic portion of the overall journey.

The problem is largely due to a shortage of truck container chassis – flatbed trailers designed to carry containers. There are simply too few container chassis for truckers to move containers out of ports at the rate they are entering. Note – we are talking truck trailers, not truck drivers.

Normally, containers would be unloaded at their destinations and returned to the port. But sometimes when warehouses are full, containers are left on the container chassis until they can be unloaded, further exacerbating the overall shortage.

Unlike many supply chain kinks, the current one does not stem from the pandemic-induced problems. It stems from an unfortunate confluence of trade policy, unintended consequences, and incredibly bad timing.

Chinese Production Screeches to a Halt

Pre-Covid, annual organic demand for container chassis was about 53,000 to 55,000 annually. About 95% or more was imported from China, with most coming from China International Marine Container Group. The rest came mostly from Mexico. Chinese container chassis were subject to former President Donald Trump’s 2018 tariffs at a 25% rate, which hurt demand for new chassis and led companies to refurbish older equipment.

In July 2020, a group of US truck trailer manufacturers petitioned the US Department of Commerce and the International Trade Commission. They alleged that Chinese manufacturers of container chassis were dumping product in the US at prices less than the cost of the steel required to make them. Consequently, over several years, US manufacturers had been forced to shut down operations, from potentially producing 30,000 or more per year to less than 5,000. And little of that remaining capacity was being used.

After a 10-month review, the ITC agreed and in May 2021 imposed a 221% dumping duty on top of the existing tariff – more than tripling the cost of imported Chinese container chassis.

US Manufacturers Cannot Meet Demand

US manufacturers made no effort to increase capacity until the ITC ruling. Suddenly, they had to reopen factories, hire people, and acquire the raw materials to build the container chassis. Major manufacturers reported late last year that they expected to be producing chassis at an annual rate of about 15,000 by the end of 2021, and more than 30,000 by late 2022.

That is still far below organic demand for container chassis, let alone the additional demand due to higher container volumes.

Further, labour shortages have hampered production. So have difficulties obtaining necessary parts such as air tanks, axles, suspension systems, LED lighting, and semiconductors for GPS and tracking equipment – due largely to kinks caused by the lack of container chassis. Some of these components come from other Asian countries such as Vietnam and Taiwan.

What About Those Labour Shortages?

Not everyone agrees that the container chassis are the root of the problem. One manufacturer – Cheetah Chassis Corp – says the problem is a lack of labour to unload ships and warehouses. In their view, even doubling chassis production would not address that underlying problem.

Data from the US Department of Transportation suggests otherwise. A special report on supply chain issues shows truck driver employment has returned to pre-pandemic levels, and that there are now 13% more warehouse workers. While more truck drivers and warehouse workers could ease some of the problems, the real issue today is that trucks drivers simply cannot find container chassis quickly enough.

Expect a Slow Recovery in Clearing Ports

There appears little doubt that the ITC responded to a real concern about Chinese domination of the container chassis market and dumping. Thanks to their ruling, in a few years’ time, the US may have a healthy container chassis industry, and current supply problems will be behind us.

But there is also little question that they imposed punitive duties at the worst possible time for an economy struggling to recover from the pandemic and return to something like normal.

From what we can see, current supply chain problems will likely last through coming quarters or longer. Even if US production and Mexican imports of container chassis rise enough to meet organic demand by the end of 2022, there will still be a significant backlog.

On the bright side, the outlook could change. If demand for goods softens and consumer spending keeps shifting back to services, the flow of container ships will also gradually lessen, and truckers will be able to whittle away at the backlog. Or manufacturers could ramp up chassis production faster than expected.

But is probably wiser to be a bit pessimistic, and, if there is a surprise, that it be a happy one.

Over a 30-year career as a sell side analyst, John covered the structured finance and credit markets before serving as a corporate market strategist. In recent years, he has moved into a global strategist role.

(The commentary contained in the above article does not constitute an offer or a solicitation, or a recommendation to implement or liquidate an investment or to carry out any other transaction. It should not be used as a basis for any investment decision or other decision. Any investment decision should be based on appropriate professional advice specific to your needs.)