As a business leader, you have had to deal with numerous challenges in recent years: the Covid-19 pandemic, criminal cyberattacks, extreme weather events, geopolitical tensions, and more. Now you can add inflation woes to your list of potential challenges.
Shifting Central Bank Priorities
In the 2010s, inflation in major economies was largely at historically low levels. In the U.S., it has typically been 2% or less annually, and the target of the European Central Bank has also been about 2%. During this period, many worried more about deflation than a jump in the inflation rate.
The economic shock of the pandemic shook up the political landscape. New economic priorities and policies emerged, first to shore up citizens and businesses with financial support, and later to stimulate economic activity and catalyze employment. Nations such as Japan, Singapore, Germany, and the U.S. created large stimulus programs financed by deficit spending.
Budget hawks are disappearing around the world. Political support for substantial deficit spending is extensive and growing. But as many governments approve spending legislation, these increases add to the countries’ national debts. This spending is adding billions to the market, causing inflationary pressures to return.
An Uneven Recovery
With these programs closer to getting started than wrapping up, the prospect that higher inflation may remain for many years is all too real.
“Nearly all commodity prices rose in the first quarter [of 2021], and most are now above pre-pandemic levels,” the World Bank reported. Food prices are especially concerning; the U.S. Department of Agriculture estimates that food prices have increased 3.5% from 2020 levels. Business leaders must recognize their cost of goods sold (COGS) levels soon will be under pressure (if they aren’t already).
Commodity-price inflation has the potential to take the energy out of the rebounding economic market. It may also further split the world into a two-speed recovery: those who are more affluent will be able to accept the increases, while the average citizen will struggle.
Against this backdrop, global supply chains continue to show signs of strain. Shortages of critical inputs like semiconductors are causing issues for everything from gaming systems to new cars. The ocean freight market remains stressed, with many firms experiencing record rates and long delays.
Shortages on commodities including steel, microchips, oil, copper, and medicine are increasing prices and disrupting supply distribution in North America, Europe, and the Asia-Pacific region.
Higher prices threaten any business hoping for a rapid recovery. Businesses including restaurants, retailers, and producers count on competitive prices to attract customers, who have been stung hard by the pandemic. As the world economy reopens, it’s a difficult time for these businesses to be raising prices.
Some businesses are already pushing back against price increases. Albertsons, a leading U.S. grocery chain, recently told analysts that it is cautioning consumer packaged goods companies (CPGs) against any unjustified price increases. Meanwhile, European manufacturers are passing higher input costs onto their customers, pushing eurozone inflation to its highest level since 2020.
Scrutinizing SG&A Expenses
With external forces impacting cost of goods sold, business leaders will need to review their sales, general, and administrative (SG&A) expenses carefully to make up for any shortfalls.
In response to the pandemic, many firms already have reduced discretionary spending and canceled or delayed capital projects. Most, however, have not yet made the requisite tough choices that are equally challenging—whether to throttle their expenditures up or down. And most firms also have yet to take aggressive action to optimize their employee base, rationalize their real-estate footprint, optimize tail spend, and meaningfully reduce their indirect spend costs.
With inflation pushing up cost of goods sold, this is the right time to address SG&A to maximize net margins.
A Meaningful Decision-Making Framework
Historically, many supply chains were designed for cost and efficiency; as multiple supply shocks converged in 2020 and 2021, business leaders found it increasingly difficult to execute operationally. Most firms now appreciate the value of supply-chain resiliency.
Inflation needs to be an important consideration in supply-chain strategy. Though inflation was overlooked for many years while the inflation rate was stable, the upward pressure in 2021 and beyond has the potential to upend the economics of many supply-chain systems.
Risk management should no longer be a check-the-box activity but part of a strategic evaluation framework. Building a resilient supply chain has never meant that all risks, including inflation, can be accommodated 100% of the time. It should, however, include a decision-making framework that will minimize the impact and/or duration of events outside their control.
Scrutinize Investments Carefully
The pandemic has prompted many firms to slash discretionary spending, leading to a backlog of capital spending requirements as each function seeks to assert its priorities in a post-pandemic recovery. Business leaders must be even more thoughtful and judicious than in the past, as juggling the forces of rising costs and resiliency among these priorities will not be easy.
Successful leaders can see that bold action is needed—and soon. Delay may only make things more difficult.
