Brexit: After the Vote – What’s Next for Supply Chains and Their Optimisation
To the surprise of many people in business around the world, on June 23 the citizens of the UK voted to leave the European Union. In my blog in May I predicted that if this happened we would see an increase in volatility, and we are seeing just that. Politicians in the UK have gone into meltdown and there are battles being fought for control in the main political parties. European politicians are thinking about how they cope with the result that they feared, but did not really expect, and many are giving emotional responses.
Will the UK be the only country to leave? Some more extreme scenarios for the future of Europe could involve a significant breakdown of the EU, or even complete disintegration. Populist parties are on the rise: there is a Presidential election in France next spring and a recent survey of major EU countries found that the French have a more unfavorable view of the EU than anyone except the Greeks. Germany and the Netherlands also have elections next year and populists are expected to do well. There is a constitutional referendum this autumn in Italy, the weakest of the large Euro area economies, and if the government loses it could lead to political and economic chaos.
Some of the changes we expected from a Brexit vote have already happened. A week from the referendum, the pound was down 10 percent against the US dollar and 8 percent against the Euro. The UK Chancellor has said there are “clear signs” of a shock to the economy, and the Governor of the Bank of England is talking of a need for fresh stimulus measures. Forecasts for economic growth are being revised downwards for the UK, Europe and the rest of the world.
To start the withdrawal process the UK has to invoke Article 50 of the Lisbon Treaty, which triggers a two year period of negotiation on the exit terms. David Cameron has left the decision on when to do this to his successor, who will be appointed on September 9. If the new Prime Minister wants time to consider their negotiating strategy, the two year period may not start until the beginning of 2017, so Brexit may not occur until 2019. This gives supply chain professionals plenty of time to consider the alternatives. The only problem is that we don’t know what the outcome of the negotiations will be, so the next couple of years will need to be spent considering different scenarios.
A two and a half year delay could lead to paralysis and stagnation for European companies. The BBC has reported the Chief Executive of the huge German engineering conglomerate Siemens in the UK, as saying “Short term, in terms of any investment decisions you want to make here, especially those that result in exporting to the European Union, they will be on ice. No question about that.” The concern is that a pause in investment could lead to a downward spiral in the UK economy as business confidence, then consumer confidence, worsens.
The outcome of the discussions around the trade agreement will be key. The EU is expected to take a tough stance to discourage other countries from leaving, and are not expected to make any concessions about access to the single market being dependent on free movement of labour and contributions to the EU budget. As these were key planks in the Brexit campaign it looks like a Norway-style trading arrangement will be politically untenable and the UK will be firmly outside the single market by 2019, leading to tariffs and an increase in the administrative burden of trade.
This raises some interesting questions about China and India. They don’t have preferential trade deals with the EU, although they are being negotiated, but if the UK could make some arrangements directly with them after leaving the EU that could affect the international flow of goods. As the second largest economy in Europe, the UK could still be an attractive base for global companies even if Europe is split into two trade blocks. Also, the fall in Sterling will make purchasing assets in the UK lower cost to companies looking to enter Europe, offsetting any disadvantage in the terms of trade between the UK and the EU.
The implications for labor cost differentials in Europe are unclear. If we assume the UK restricts immigration while sticking with the implementation of an already announced hike in the minimum wage to £9/$12 an hour in 2020, the labor market there will no doubt tighten up. This will put upwards pressure on UK labor costs, but the decline in Sterling, if it proves to be long term, may offset this when evaluating where to position an operation in Europe.
How should a supply chain professional react to this uncertainty? Well, it’s time to keep a cool head and do some objective analysis. In my last blog I speculated that people would want to examine:
- More local sourcing and inventory positioning within the new trading blocks
- An increase in dual sourcing to improve supply chain resilience during the period of uncertainty
- Changing sourcing, production and distribution strategies to take advantage of the new exchange rates
- Examining the supply chain implications of changes to labour rate differentials across Europe
One instinct would be to roll out the spreadsheets and crunch some numbers. There are a number of problems with this:
- Spreadsheets are great are evaluating specific alternatives, but they lack the power and insight of software containing optimisation and simulation engines
- When you’re modelling multiple scenarios and variations, spreadsheets get clunky very quickly, and without careful error checking and version control it’s easy to find yourself in trouble
- You might be able to produce the numbers but when analyzing supply chains it’s great to be able to visualize the network in graphic form
Some companies may be quite early in their supply chain design journey and are just starting their usage of supply chain optimisation, so the first step for them will be to gain full visibility of what is happening now before looking at scenarios for the future. Even when downstream visibility is good, upstream visibility is often limited to Tier One suppliers, and it’s sourcing that often leads to supply chain vulnerabilities.
Companies should be evaluating scenarios now and establishing a supply chain analytics capability quickly, if they haven’t already done so. An in-house modelling capability will be essential as there will be a need over the next few years to re-assess scenarios frequently as the situation becomes clearer. However, it’s doubtful that anyone will be able to make long term plans anytime soon due to the uncertainty, unless those plans are to build in more flexibility and resilience into the supply chain.
So in an environment where the only thing you can be certain of is uncertainty, I don’t hesitate in repeating the conclusion in my previous blog. The ability to test scenarios to inform supply chain decisions will be vital in the coming years. That makes the importance of analytics in supply chain design and planning absolutely critical, and those companies that don’t have a rapid analytics capability could be left behind.