© Pictureguy66 | Dreamstime.com
Thunderstorm 5f4c64e570a8a

Economic Disasters and Knee-Jerk Reactions

Aug. 31, 2020
What should the federal response to significant downturns look like?

Due to the economic downturns the United States experienced over the last 50 years—and the current impact of COVID–19—it should be pretty clear that there will always be events that negatively impact our country’s economy.

Many of them are man-made. For instance, in 1972 to ’73, OPEC—due to its dominance as a producer—was able to quadruple the worldwide price of oil. This dramatic step-function increase caused the 1974-74 NYSE stock market collapse—the third worse in the history of our country, out-shadowed only by the 1929 Great Depression and the 2007 Great Recession. There wasn’t a lot our federal government was able to do other than to encourage conservation through actions such as reducing the speed limit on interstate highways to 55 mph. Thankfully, since that time, our country has become energy self-sufficient.

Similar stories to the one above can be told about the later recessions, including the ones related to the 1981 energy crisis; the 1990–1991 Gulf War; the 2001 dot-com collapse; 9-11; and the 20072009 subprime mortgage crisis.

On the other hand, the biggest example of a recession during this same period that was not (hopefully) man-made is the present COVID-19 pandemic.

In the July 13 IW article “PPP: What Worked, What Didn’t, and What Needs Tweaking,” I gave credit to the federal government for providing support to small- and medium-sized manufacturers (SMEs) since—at least in my memory—this is the first time that it has given significant financial aid directly to this category of businesses, including SME manufacturers.  Prior to this, government financial support had been targeted to only Original Equipment Manufacturers (OEMs) under the theory that OEM monies would “trickle down” to the SMEs in their supply chain.

I have yet to speak to a SME manufacturer/supplier to an OEM who says they have benefited from “trickle-down” financial aid that was exclusively direct to OEMs.  In his 17 April Industry Week article, “Did the Tax Cuts Boost US Manufacturing?” Michael Collins lays out a data-based case that the primary benefit of the 2017 corporate tax breaks was not an increase of jobs or wages. Rather, the tax cuts led to increased stockholder wealth due to stock buybacks—stock prices rise when there are fewer outstanding shares—as well as significant executive bonuses related to those increases in stock price.

Instead of reacting to economic crises, I have always thought that the federal government should have Plan B’s on file to address the causes of recessions, at least when they can be attributed to a primary factor.  Sort of like the military does with their war games. In my opinion, the federal government’s response to both the 2007 to 2009 and present COVID–19 recessions was more of a knee-jerk reaction than a well-thought-out plan. As a country, I think we can do better than this.

One point needs to be made here.  A fairly large block of politicians don’t believe the federal government should be involved “at all” in attempting to revive a depressed economy.  Instead, they believe in economic Darwinism; i.e., that the free market will deliver the healthiest economic rebound if it given a chance. I do too, but only in a “true” free market.  It’s pretty apparent, however, that current global business practices are anything but free-market, and as long as we hold to rigid free-market theory—rather than practical reality that the United States will be competing in the worldwide economy with one arm tied behind its back.

Read more of Paul Ericksen's supply chain management articles

So let’s get back to the idea of putting together some sort of Plan B—or at least general considerations—for what the federal response to significant economic downturns should look like.

As you look at the points below, please understand that their primary goal is to position readers to think out of the box about the types of actions the federal government could include in any future economic interventions. To that point, the following list may include proposals that are completely off-base. But perhaps some will have at least a seed of practicality in them.

Future governmental SME economic support should focus on manufacturing due to its significant impact on the country’s GDP and its high potential for job creation. Service industries—business such as to restaurants, lodging, results, etc.—primarily offer minimum wage jobs and, for the most part, employees can survive on the kind of direct financial support they received the first five months of the COVID-19 crisis.

The government should identify six to eight potential kinds of catastrophic impacts—pandemic; natural disaster; damaging financial manipulations; trade war; etc.—and lay out an outline of pre-planned governmental response—Plan B’s—which would focus on defining the kinds of government response that would be most effective in mediating their negative impacts. Once these impacts are identified, the federal government should also put together some sort of regulatory infrastructure to lessen the potential for at least the manmade ones to occur.

Governmental financial support for manufacturers should go both to OEMs and their SME suppliers. A “trickle down” approach hasn’t worked. Yet we’ve come to recognize that relative to financial health, OEMs and SMEs are tied together at the waist. 

Governmental financial support to OEMs should include a requirement that recipients in-source an equivalent amount of business to U.S.-sited SMEs. If this type of condition had been attached to the corporate tax reduction bill of 2017, it would have resulted in a significant number of new manufacturing jobs, as well as a healthier SME community.

OEMs and industries receiving indirect governmental support—for instance, accelerated capital investment depreciation rates to their customers—should be required to target a portion of the benefit to their supply chains. For instance, consider agricultural equipment manufacturers. Farmers have been granted accelerated depreciation of their machinery. This not only improves farm finances—since depreciation can be applied against income to lower farmer taxes—but also incents farmers to buy new equipment more frequently to maximize the financial benefits associated with depreciation. 

This results in a kind of “trickle up” to corporations that produce the farm equipment, since it increases demand for their machinery. You might say that the suppliers also benefit financially from these increased end-use customer sales, but I’d have to disagree. My experience is that when supplier volumes go up—for whatever reason—OEMs use it as an excuse to push for price reductions, thus lowering supplier margin and resulting in overall income close to what it already had with the lower production numbers.

Federal governmental entities already in-place to support SMEs—the Manufacturing Extension Partnership (MEP), the Small Business Administration, etc.—should be tied closer to SME supplier–OEM customer relationships. For instance, individual state MEP offices should be incented to collaborate more closely—not work independently as they typically do today. Additionally, a significant part of system funding should be directly at establishing and running a national program for MEP support of OEM supplier development.

Future government funding should go towards setting standards that increase OEM-supplier collaboration. For example, many OEMs send out parts for quote without formally providing for supplier input on changes to part design that would allow for lower material and/or processing costs.  For instance—relative to dimension tolerances—many design engineers are not knowledgeable of the processes available for fabricating a feature. Because of this, they tend to spec tighter tolerances than needed as a kind of “safety valve” to their designs. Because of this, tolerances can sometimes be opened up without negatively affecting safety, function, reliability, etc.—and result in SMEs being able to quote reduced prices

Sure, OEMs may ask for cost reduction suggestions once a supplier has been selected. But all too often this happens primarily in an informal way since no formal EOM structure is available for that purpose. Consequently many supplier cost reduction suggestions disappear “down the rabbit hole.”  The government could encourage more collaborative development by providing case-study-based business guidelines for adoption of such processes.

Similar to the previous point, the federal government should fund and develop of a business case-based national Total Acquisition Cost (TAC) standard for supplier selection. Most OEM TAC formulas I’ve seen do not include things such as OEM internal costs associated with doing business with a supplier, instead primarily focusing almost exclusively on a quoted piece-price. For instance, suppliers with shorter lead-times reduce the amount of raw material OEM’s—or their suppliers—are required to hold in support of increases in short-fuse demand.

The government should restructure the work of the Export Import Bank (EIB). There are (at least) two main problems with current operations of this institution, as least in my mind. First, it emphasizes support of OEMs, but does not focus on increasing SME exports. Second, it can create an uneven playing field for U.S.-based companies by not taking into account purchases by U.S.-based OEMs. For instance, if Delta Airlines finances the purchase of an airplane from a domestic manufacturer, shouldn’t it get benefits similar to foreign airlines that purchase from the same manufacturer? I’m not sure of the shape this would take but it is a current system short fall.

This EIB restructuring could be based on reviewing the practices of comparable institutions in other countries. By selecting “best practices” used elsewhere, a more effective EIB could be established.  And, since the updates support features that wouldn’t go outside the boundaries of what other countries are currently doing, EIB should pass any review by the World Trade Organization.

Finally, the federal government should be focused on increasing the overall GNP for the whole country. This is not the case when state and/or local governments give financial incentives for a company to relocate from one state to another. I don’t know the mechanism for how this “smokestack” chasing should be accounted for, but I’ll but I’ll take a few shots at it.

First, companies that receive state incentives—such as give tax deferments, infrastructure investment, employee training support, etc.—could have an increased tax liability to the amount the state has granted. Or at least some sort of federal tax financial penalty. 

Second, companies benefiting from smokestack-chasing states could be excluded from future federal financial assistance in the amount of the state incentives they receive from relocating from one state to another.

As I said in an earlier column, smokestack-chasing has a zero-sum outcome relative to national GNP and as a country, we can do better than this.

Admittedly, some of the above ideas are a bit radical. This is OK as far as I’m concerned if it starts people thinking about other—and perhaps better—ways the federal government could adopt to become more effective in encouraging actions that will help the national economy as a whole.

Paul Ericksen is IndustryWeek’s supply chain advisor. He has 40 years of experience in industry, primarily in supply management at two large original equipment manufacturers.

Sponsored Recommendations

Voice your opinion!

To join the conversation, and become an exclusive member of IndustryWeek, create an account today!