Opinion

The supply chain hurdle in India’s recovery

| Updated on: Dec 06, 2021
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The country must do more to build resilience in its supply chains, in order to protect its key manufacturing sectors

In recent months, apart from the pandemic, another crisis is stalking the world — supply chain bottlenecks.

While in 2020, the relative differences in the timing of Covid related lockdowns caused some supply friction, the 2021 supply chain bottlenecks are due to a much stronger than anticipated global recovery, and a series of idiosyncratic shocks, emanating from Asia.

Whether it is the severe drought in Taiwan, or fires in Japan or the delta variant related lockdowns in Malaysia, each individual shock has compounded the supply bottlenecks which were impinging on the voracious demand from the western economies.

It is not to say that exports have been weak. For most economies in Asia, the robust growth in goods exports has more than compensated for the loss of services exports. Still, the high demand for shipping containers, elevated freight costs, the material fall in global auto production, the surging prices of semiconductors and the intensification of port congestions exhibit a deeper malaise and years of under investment in primary infrastructure and industrial capacity.

These factors together apart from hindering growth are also leading to production losses in some sectors, and contributing to rising inflation.

Inflation worries

Indeed, this mismatch between highly resilient aggregate demand, and shaky aggregate supply has naturally triggered inflationary concerns. But despite the inflationary pressures, led by rising commodity prices, the concerns are rather alarmist.

Global bond markets are not pricing a prolonged surge in inflationary pressures, which is consistent with the weight of history being behind the credibility of central banks in containing inflation over the business cycle. Still, the price shocks have been enough to cause policymakers to look at supply chains much more closely than in the past.

For India, the bottlenecks have mostly been reflected in higher commodity prices, and to an extent greater freight costs. However, the shortages of certain products, especially semiconductors have increasingly been impacting production, especially for automobiles. Indeed, auto production in the last six months has been 16 per cent below 2019 levels for passenger vehicles, and 24 per cent for two wheelers.

This issue appears to be especially debilitating for India’s nascent electronic vehicles industry. In line with weak production, sales have declined, and the backlog of orders has built up dramatically.

At the same time, as the Indian economy appears set to take off in 2022, it is inevitable that both consumption and investment demand will lead to much greater pick up in imports.

A potential global headwind for India’s private investment revival could be the paucity or delays in availability of industrial equipment and critical components for the electronics sector, both of which are expected to do well going forward, especially given their primary role within the government’s production linked incentives framework for building production capacity.

Given that the ongoing supply chain issues may continue to persist through a large part of 2022, the bottlenecks can artificially dampen capital imports and slow down India’s investment recovery, while also adding some cost push pressures at the margin.

So is India is doing enough to build resiliency into its own supply chain related dependencies?

So far, India’s imports have been rising rapidly, and understandably, the focus is first on securing energy supplies. India’s recent deficit widening has largely been a function of higher energy imports, though we are also seeing expansion in India’s non-oil, non-gold imports. But given that India’s recovery is still in early stages, there is much greater scope for imports to rise going forward, increasing the need to consider these bottlenecks from a bottom-up perspective.

The Prime Minister has highlighted India’s desire to become a major hardware producer, especially for semiconductors. The government is looking to add more incentives, but a typical large semiconductor manufacturing facility needs almost two years to build, and we will need to consider our short term challenges, versus our longer term objectives.

The Ministries of Commerce and External Affairs could partner with various industry bodies, to monitor emerging supply shortages, which can then be addressed at the source level. This will allow for a dialogue between the government and the private sector, while ensuring that India is able to respond quickly to any specific shortages triggering a “butterfly effect” in its manufacturing sector.

Globally, the components shortages also partly reflect the high level of integration in supply chains, and makes a strong case for building greater resiliency and diversification in production sources and trade infrastructure. This is a highly lucrative long-term opportunity for India, as it aims to insert itself in various critical supply chains, which will allow India’s exports to grow rapidly.

However, given the starting point for India remains one of import dependencies in varying degrees on capital and consumer imports, we need to be watchful and pragmatic in understanding and addressing the supply chain bottlenecks, to shield our nascent recovery.

The writer is Chief India Economist, Barclays

Published on December 06, 2021

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