Black Friday has been known as a day of consumer frenzy in the US, coming a day after Americans engorge themselves on turkey, stuffing and football. It was adopted up here in the Great White North some years back, but on both sides of the border, individuals were drawn to the big deals that came with this day like moths to a flame. This year, the deals are still out there, but consumers are more focused on whether the product they order will actually be available given the supply line congestion that has gripped the world through this pandemic.

 

There will be countless economic history books written about this pandemic and theories presented on how certain developments took place. For one, we learned that the instinctive defensive behaviour of companies – to pull back on production at the start of the pandemic, on the assumption that a demand implosion would persist – proved to be wrong. The curtailment of production, followed by a monetary and fiscal policy induced recovery, caused inventories to erode and disappear in some cases. The blame isn’t solely on the shoulders of business though. There is still a large segment of the population that isn’t working, including those in factory positions, as well as transportation and storage.

 

 

Let’s consider the above chart for a moment. US retail sales and industrial production are two key indicators for us economists. In 2019, the tightening in monetary policy definitely impacted production more than demand, but both retail sales and production tumbled at the incidence of the pandemic. The divergence since then has been striking. US retail sales recovered all of the losses from February to April of 2020 by June of that year. Not only that, with the October increase, overall sales are now 22% higher than the peak just before the shutdown. Ignoring the fact that production was eroding before the start of the pandemic, total production in October had recovered to simply being on par with February 2020. When we talk about inflation pressures being caused by imbalanced between supply and demand, this is where we start. The more recent contributor to this inflation surge has been in the transportation and storage arena.

 

We have all seen the images of container ships sitting out miles from ports waiting to offload their cargo. The shortage of containers has increased the cost of shipping from a couple of thousand dollars per container to over ten thousand in some cases. Depending on the contents of the container, this cost increase (inflation) could be manageable or punitive. The problem is that even if you are able to get your hands on a container and pay handsomely for it, you need it delivered to the end user/consumer so that the empty container can be returned for the cycle to be restarted. And if some of you are tilting your head back and thinking of an analogy for wine bottles being recycled for the next refill, I hate to tell you, but glass has been impacted and therefore wineries are having to pay up for bottles for the new pour. The problem is transportation capacity hasn’t been up to the task of getting the backlog of containers to market. So, containers that are offloaded get stacked waiting for the next truck or rail car. This is what created those images of container ships laying offshore in key ports, like southern California.

 

 

The good news is that the backlog appears to be abating. I am often asked on our monthly conference calls about a particular shipping indicator – the Baltic Dry Index. As an aside, we will be hosting our next conference call next Tuesday. This measure of relative imbalance in shipping costs has lost a little of its allure over the years, but clearly showed what the extent of the supply chain chaos. From the start of the year, the index rose 315% to its peak in the first week of October. Still, that paled in comparison to where the index was near the peak of the commodity cycle in 2007-08. Regardless, the easement in supply lines caused the index to plunge during October and the first three weeks of November, basically reversing all the gains made since the start of June.

 

Since container ships are a better reflection of the demand make-up of the world, it is better to look at an indicator that is more closely linked with container costs. That would be the Container Ship Time Charter Assessment Index, known as the New ConTex. This index has only been around since 2007 so we don’t have the same historical context as the Baltic Dry index but, in terms of illustrating the pandemic supply squeeze, it is very useful. From the start of the pandemic, the New ConTex jumped more than 500% to its peak in the third week of October. Since that week, the index has fallen more than 19% and, while not as dramatic a move as the Baltic index, it has removed all of the gains since early August.

 

 

Ok, enough of the indicators. What are the on-screen images telling us today? Well, this week it was reported that roughly 60 cargo ships were sitting on the California coast waiting to unload. That’s still a lot of ships, but about 50 less than were waiting a few weeks ago. There is no single reason for this. The Biden Administration’s decision to move the Los Angeles and Long Beach ports into 24/7 mode the other week helped, and so did a new $100 per day per container levy on containers that sat idle on the dock (which hasn’t actually been implemented yet) didn’t hurt either. We also know that workers are returning to their posts, as evidenced by the fact that US initial jobless claims fell to below 200,000 last week for the first time – wait for it – since 1969. Let’s take a bit of a pause for a second. When claims rose above 6 million in March of 2020, some thought the sky was falling and would continue falling. This time last year, initial claims were in the neighbourhood of 700,000 – a huge improvement, but still higher than the peak seen in any recession over the past half decade.

 

 

Put it another way, high frequency indicators are now telling us that the US labour market is tighter than ever. Some of this is simply people dropping out of the labour force (no longer seeking employment), but you would have to believe that a large number have gone from unemployed to returning to work in some capacity. If that is increasing the miles that trucks are travelling each day, then there are few containers sitting idle. Likewise, if there are more workers at the plant, then production gets a lift and helps to restore inventories. That might also mean that the ugly holiday season sweater you ordered might just arrive before the socially distanced neighbourhood party. From a portfolio perspective, however, this might not alter things near-term. Prices of things, from goods to labour, are not going to immediately drop or even stop going up. Therefore, the stickiness of inflation remains something we have to be focused on. And if the drop in claims is an accurate indicator of what the jobs market was like in November, then next week’s employment figures could be strong enough to push the Federal Reserve and Bank of Canada closer towards changing language on when rates have to go up. For now, we will take any relief in supply chaos we can get.