Supply Chain Problems: Facts vs. Fiction

There are many claims being made in the public debate over the supply-chain issues in our economy. Secretary of Transportation Pete Buttigieg has led the argument on the side of the Biden Administration, claiming that the problems are caused by a strong economic recovery from last year’s artificial shutdown.

This is incorrect, as I will explain in a moment. First, though, let me add another confusing comment on supply-chain problems and inflation. This one is courtesy of the Wall Street Journal, which in their October 16-17 Weekend edition had an article on pages A1 and A2 that suggested:

Americans stepped up their spending in September, a sign of resilient demand and rising inflation as consumers head into holiday shopping season.

This sentence, which claims that inflation causes a rise in consumer spending, is repeated in a different format in the next paragraph of the article:

The rise in sales reflects persistently strong demand and higher consumer prices.

Consumer spending cannot rise as a result of inflation. It can rise because consumers either make more money or draw down their savings to cover regular expenses when inflation is a fact. Either way, this Wall Street Journal article makes the case that inflation somehow is a positive contribution to the economy and a sign of economic recovery – much the same line of reasoning that Secretary Buttigieg presents.

The argument that inflation is caused by supply constraints and that supply constraints are caused by a very strong economy, relies on two premises:

  1. There are no regulatory or other interventions by government in the economy that cause supply-chain problems or otherwise divide demand from supply.
  2. The economy is operating at the height of its productive capacity and therefore unable to deliver more production over the short term.

Neither premise is true. Let me address the second one.

The best indicator of the capacity of the economy – at least over the short term – is workforce participation. Theoretically, when the entire workforce is employed, there is nobody available who can step in and help increase production; in practice, there is always a share of the workforce that cannot go out and look for a job at any given moment. Even if we concentrate on the population conventionally defined as the workforce – age 16 and older – a lot of people are excluded from it for various reasons. Some have medical issues, others decide to live off savings and enjoy quality-of-life activities, and so on. In a traditional Western welfare state, there are also those who choose to live on entitlements instead of working; the reward for going from idle to employed is simply not big enough for them to consider it worth the while.

Regardless of what reason people have for not participating in the workforce, there is a long-term capacity ceiling in terms of the employment ratio. Over the past ten years, this ratio has gone through three phases which I reported on recently: after a steady drop under the Obama administration, the ratio rose – albeit slowly – under Trump, only to be completely disrupted during last year’s artificial economic shutdown.

As Figure 1 explains, if we think of the employment ratio as a key measurement of our capacity utilization, we are nowhere near a capacity ceiling:

Figure 1

Source of raw data: Bureau of Labor Statistics

The fact of the matter is that we were not even close to the capacity ceiling in 2019, the top year of the Trump economy when unemployment fell well below four percent. Our current employment ratio is substantially below where it was at that time: if we had the same employment ratio today as we had this time in 2019, more than 5.6 million more people would be employed.

In short, it is simply incorrect to suggest that our economy has roared back to the height of its capacity. If we had been at the 2019 employment ratio, our economy would have been considerably larger than it is today. According to the value-added GDP statistics produced by the Bureau of Economic Analysis, an extra 5,662,000 gainfully employed Americans would have added an inflation-adjusted $772.7 billion in production value to the economy.

In short, our GDP would have been a real 3.7 percent larger than it is today. Based on our economic track record in the past two decades, this represents about five quarters’ worth of solid growth in consumer spending, personal income, capital formation, industrial output, etc.

There is another way to explain that we are not at some sort of capacity ceiling. Table 1 compares the aforementioned value-added GDP data for the first two quarters of 2019 and 2021. As it happens, in the second quarter the economy as a whole – GDP – was a tepid two percent larger than it was in 2019 (adjusted for inflation), with the private sector being 2.3 percent larger. However, seven industries were actually operating below their 2019 capacity: Mining; Utilities; Transportation and Warehousing; Educational Services; Health Care; Arts, Entertainment and Recreation; and Other Services. It is particularly interesting to note that in Q2, the Transportation and Warehousing sector was 13.2 percent below its 2019 maximum. This clearly dispels any argument that we have inherent capacity problems within that industry:

Table 1

Source of raw data: Bureau of Economic Analysis

A review of Bureau of Labor Statistics data for employment in the Transportation and Warehousing industry further dispels the myth that it is operating at capacity. Almost every category of this industry has lost workers since 2019: transportation by air, rail, water and heavy trucks are all down; mass transit is down more than 20 percent; pipeline transportation, scenic sight-seeing and support activities for transportation are down marginally.

The only two categories that have increased employment are: couriers and messengers; and warehousing and storage. In September, these two categories employed a total of 2,477,000 people, compared to 2,068,000 in September 2019. This 20-percent expansion is almost twice as big as the total reduction in employment in all the other transportation categories:

  • In September 2019 there were 5,706,000 employees in Transportation and Warehousing;
  • In September 2021 the same industry had 5,882,000 employees.

Plain and simple: for every 100 employees that were lost in air, rail, mass transit, trucking, etc., 232 employees were added to the “Amazon” delivery network.

Given that we are 5.6 million workers short of our 2019 employment capacity ceiling, the supply-chain problems in our economy are not caused by a shortage of labor. Nor are they caused by a shortage of transportation capacity. Just to take trucking as an example: there were 22,000 more truckers working in September 2019 than in September this year; the capital – trucks and facilities – that they used are likely still accessible, or could be put in place on short notice.

To make that happen, we have to look elsewhere than at the private industries. That is not where the problems are. Instead, we might want to look at the first of the two premises mentioned earlier: regulatory and other government interventions into the economy, and their role in creating supply-chain and inflation problems.