Insight

Russia-Ukraine war impact on supply chains and inflation

Economic Analysis

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Kenneth Kim

Senior Economist, KPMG US

+1 212-954-6144

By Ken Kim, Senior Economist, Meagan Martin, Research Associate and George Rao, Senior Research Associate

Russia’s decision to invade Ukraine further complicates global supply chain challenges and will increase inflationary pressures. In our most recent chartbook, we note that persistent pandemic-related disruptions to the supply chain will mean continued shortages of goods at least through 2022 and likely beyond. U.S. businesses will need to consider on-shoring or near-shoring production, logistics management, and other measures to add resilience to their supply chain network.

Supply chain disruptions will contribute to elevated inflation in 2022

Supply chain inefficiencies can be caused by time delays, labor shortages, congestion on transportation routes, or lengthy customs processes. These inefficiencies have a cost, raising prices for consumers. The qualitative result has a similar effect to that of a tax or tariff that results in efficiency loss for the economy.

The recent surge in inflation—8.5 percent year-over-year in March—is due to a variety of factors, including supply chain issues. Supply chain issues have exacerbated price increases in industries with large increases in demand and shortages of key resources^.1

Supply chain problems will likely only resolve when demand is below capacity for an extended period. On one hand, consumer spending on goods will remain strong because of the tight labor market and wage increases. On the other hand, the Federal Reserve has signaled more rate hikes are coming this year, which could dampen demand. On the supply side, ramping up capacity is not easy due to various constraints despite some industries being back to their pre-pandemic output levels. The current inflationary environment adds more challenges for businesses to plan and coordinate their production. Industry leaders vary on when they think supply chain constraints will ease, ranging from mid-2022 to later in 2023.²Due to the following four reasons, we claim that supply chain issues will continue to contribute to inflation throughout 2022.

Russia-Ukraine war will exacerbate challenges in certain supply chains and add to inflation

The Russia-Ukraine war is likely to exacerbate and elongate global supply chain disruptions. Although the U.S. does little direct trade with Ukraine or Russia, certain U.S. businesses and industries face significant exposure from the war: energy, food, and semiconductors are likely to be most affected. While the United States does not entirely rely on imports for these products, their prices are determined in global marketplaces.

The onset of fracking and surge in U.S. energy production in the last two decades has made the U.S. much less reliant on energy imports, with total imports of oil and gas down 63 percent from their 2008 peak.³ In the short term, being cut off from Russia, the world’s third largest energy exporter, and its 4.3 million barrels of crude oil exports per day, will raise prices for both gasoline and plastics. Crude oil traded over $104 per barrel on April 12, up from about $90 per barrel on February 18⁴. Transportation, utilities, agriculture, plastics, chemicals/fertilizers, and metals industries are among the most highly impacted from higher crude oil prices.

The supply and price of global food commodities have also been directly impacted by the war. Russia and Ukraine account for 29 percent of global wheat exports and 17 percent of global corn exports. Chicago wheat futures surged to an all-time high of $13.50 per bushel in the first week of March from less than $8.00 per bushel as of February 21 (a year-over-year change of nearly 90 percent).⁵ Higher wheat prices will not only affect grocery stores, with food products reliant on wheat to be priced higher, but also animal feeds, eventually driving animal protein, dairy, and egg prices higher. Industrial fertilizers are produced with a large amount of crude oil, but also with ammonia, urea, potash, and processed phosphates, all of which Russia is a top exporter.⁶The United States imports 20 percent of its urea from Russia, but Brazil is highly at risk, with 47 percent of its potash, 20 percent of its urea, and 30 percent of their monoammonium phosphate (MAP) supply coming from Russia. Canada and China may increase their fertilizer output to meet global demand, but it will take some time.⁷

Already strained global semiconductor supply chains could soon feel effects of the war.⁸Ukraine supplies more than 90 percent of the United States’ semiconductor-grade neon, Russia supplies 35 percent of United States’ palladium, and Russia supplies 20 percent of global production of semiconductor grade nickel.⁹While finding alternative sources of supply is not impossible—semiconductor manufacturers have already announced the creation of manufacturing sites both in and near the United States—it will take time, exacerbating semiconductor shortages.

Key Supply Chain Workers are in Short Supply

Businesses are struggling to find workers. This is especially true for key supply chain industries, such as trucking, where labor shortages predated the pandemic. Job openings for workers in the transportation and warehouse sectors reached an all-time high in December 2021 at 611,000 and remain elevated as of February at 489,000 (February 2020: 293,000), further exacerbating disruptions to the global trade network. The job filling rate, a standard measure of how quickly companies filling open positions, has been on a downward path over the last decade for transportation and warehousing. As the below graph shows, companies could only find one person to fill every two job openings that they had posted in late 2021.

The tight labor market has also pushed the wage increase to a new historical level as employers are competing to find workers. It remains to be seen whether more workers can be found this year if the wage growth continues to accelerate. The end of the pandemic would alleviate labor shortages somewhat, but high demand for shippers and couriers is likely to persist past the pandemic, fostering an imbalance between labor supply and demand. Additional issues will continue to weigh on labor supply and demand, especially in trucking, including chip shortages for trucks and a low hiring rate.

Wages are up while jobs are hard to fill in transportation and logistics

Source: KPMG Economics, Bureau of Labor Statistics, Federal Reserve Bank of Atlanta, Haver Analytics (February 2022).

Delivery and Shipping Struggle to Keep Up with Demand

Shipping, logistics, port, and customs processes are all important nodes in U.S. retailer supply chains. When transportation companies and ports run efficiently, the time and cost from supplier to consumer goes down.

Supplier delivery times of manufacturers have been slowing for over six years as of April and slowing at a faster rate (60+ ISM¹⁰) since October 2020, suggesting continued long wait times for products. Services-providing industries have been slowing for 35 months and slowing at a faster rate since February 2021. The Russia-Ukraine war will aggravate already strained logistics routes in the Black Sea.

For example, ports have been increasingly strained from a surge in imports and labor shortages. At L.A. and Long Beach, the number of vessels waiting to unload cargo is still historically high. Prior to the pandemic, the average number of ships waiting was fewer than five, and as of April 12^th, the number of ships was 87, after some improvement from the peak of 129 ships on January 26^th. East Coast ports are beginning to see new problems popping up after some shippers diverted their West Coast traffic.¹¹ In addition, some ocean carriers have begun “blanking”, or void sailing, where the operator will skip a particular port or entire leg on their scheduled route to avoid delays. The easing of these problems we saw in the first half of the year may reverse in July 2022, when the International Longshore and Warehouse Union will likely go on strike. They represent 22,400 dockworkers across 70 terminal operating companies at 29 West Coast ports.¹²

Record Level # of Vessels Waiting to Enter L.A.-Long Beach Ports

Total Container Vessel Backup, 7-day Moving Average

Source: KPMG Economics, Marine Exchange of Southern California & Vessel Traffic Service L.A./Long Beach (April 12, 2022), Haver Analytics.

COVID-19 will continue to hamper supply chains

COVID-19 outbreaks over the past two years have kept people out of work and created supply chain disruptions. Lockdowns during the early days of the pandemic triggered goods shortages that persist today. The figure below shows a global weighted lockdown measure and a weighted lockdown measure for U.S. trading partners. Major U.S. trading partners implemented restrictive measures during the Delta and Omicron variant waves, extending disruptions. Trading partners that have implemented highly restrictive measures may still be vulnerable to waves of COVID-19, as the Asia-Pacific region is currently experiencing.

For example, China’s zero-COVID policy has interrupted major port operations. In the past few weeks, many world’s largest ports in China were congested due to government’s stringent lockdown measures, causing businesses to bear the costs of diverting their products away from Chinese ports or delaying until the cities open again. These ports include Shanghai (2020 port volume: 43.5 million containers), Shenzhen (26.55 million), Tianjin (18.35 million), and Ningbo-Zhoushan (28.72 million)¹³. These port congestions are causing shipping delays and disruptions in the flow of goods between China and the United States. In air shipping, roughly 50 percent of pre-pandemic air cargo flew in passenger jets. When international air travel was restricted, those flights were cancelled, and that capacity was gone.¹⁴

Lockdown Stringency—Impact of global lockdowns in U.S. supply chains, index

Note: “Global Lockdowns” is based on Our World in Data’s Stringency Index, weighted by 2019 GDP. The lockdowns are a composite measure that is calculated using nine different restriction metrics implemented by governments. “U.S. Trading Partner Lockdowns” is weighted by 2021 YTD Import Volumes, top 15 countries that the U.S. imports from (China, Mexico, Canada, Japan, Germany, Vietnam, South Korea, Taiwan, Ireland, India, Switzerland, Italy, U.K., Malaysia, and France). The indices are inverted, implying that a reading of 100 represents pre-pandemic normality, and a reading of 0 means that all social, public, and traveling activities are prohibited.

Source: KPMG Economics, Our World in Data (April 12, 2022), U.S. Census Bureau (November 2021), IMF, Haver Analytics

Summary

Russia’s decision to invade Ukraine will likely result in further inflationary pressures from supply chain woes, but these networks were already challenged due to pandemic-related shocks. Inflation driven by supply chains is unlikely to ease in 2022 due to many factors: surging commodity prices associated with the Russia-Ukraine war, rising freight shipping costs as a result of port congestion, shortages of workers in key logistics industries, and overall uncertainty surrounding waves of COVID-19 and related lockdown measures. Given that global distribution channels remain fragile, businesses will need to consider mitigating strategies such as on-shoring and near-shoring production, diversifying raw material sources, and leveraging big data technologies. As pandemic impacts deteriorate and inflation moderates into 2023, businesses can start to build their inventories and supply chain resiliency.

Economic analysis: Russia-Ukraine war impact on supply chains and inflation

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Footnotes

Fernando Leibovici and Jason Dunn, “Supply Chain Bottlenecks and Inflation: The Role of Semiconductors,” St. Louis Fed Economic Synopses No. 28, December 2021
Kendrick Global Supply Chain Management Institute, Boeing Center for Supply Chain Innovation, UPS, Hewlett Packard Enterprise Co., and Flexport.
U.S. Energy Information Administration (EIA).
Bloomberg Intelligence.
CME Group.
Share of export market, respectively: 23 percent, 14 percent, 21 percent, and 10 percent.
China Phosphate and Compound Fertilizer Industry Association and Canpotex.
White House, “FACT SHEET: Joined By Allies and Partners, The United States Imposes Devastating Costs on Russia,” (24 February 2022).
The Observatory for Economic Complexity.
The Institute for Supply Management publishes a monthly diffusion index on supplier deliveries. An index reading of 50 or more indicates slowing delivery times, and below 50 of faster delivery times. The higher the reading, the more deliveries have slowed during the month.
The Port of Charleston now has over 30 ships waiting to unload.
International Longshore & Warehouse Union and Pacific Maritime Association.
The Loadstart, Congestion Surges at Chinese Ports amid Shanghai Lockdowns and Driver Curbs
NBER Working Paper no. 27224 (April 2021) and Phil Levy via Discourse (November 2021).