Supply Chain Frontiers Issue #27. Read all articles in this issue
Emerging markets in Asia, Europe and Latin America are increasingly important for global supply chains; they offer not only lower sourcing costs but also a booming customer base. However, along with these opportunities come several supply chain challenges, such as poor infrastructure, corruption and cultural barriers. As business operations consolidate in these regions, supply chain professionals must also be attuned to another challenge: politics. As research at the Center for Latin-American Logistics Innovation (CLI) shows, it pays to be prepared for political turmoil.
In March 2008 a diplomatic dispute between Ecuador and Colombia created havoc in regional supply chains. Borders were closed between Colombia, Venezuela and Ecuador, halting truck traffic between the countries, and the threat to foreign investments and restrictions on financial flows prevented payments between supply chain partners. The cost of the disruption was significant since Venezuela and Colombia are major trading partners and distribution networks in the region usually span multiple Andean countries. Were regional supply chains prepared for this disruption?
Not really. The overall supply chain strategy in Latin America has been to reduce inventories, consolidate manufacturing operations in one country, and move products throughout the region. This approach has been used for decades in the U.S. and Europe. From a supply chain design perspective, the approach makes sense because it allows for economies of scale in manufacturing and serves smaller regional markets more cost-effectively. In addition, it leverages the economic stability and trade integration that has been a feature of the Latin American region for more than a decade. However, over the past five years, the political environment of the region has shifted, and supply chains have not adapted at the same pace.
“We noticed that not all companies were affected the same way,” explained Isabel Agudelo, a CLI Executive Team Member. “Some of them were able to react quickly to the political turmoil, and their supply chain flows were less disrupted.” Current research at CLI shows that leading companies were very attuned to the supply chain effects of politics. “Executives that are used to operating in these emerging markets are very aware of some of the subtleties of the local dynamics and took action as soon as early signs of trouble showed up,” added Agudelo. These responses are in line with the work of MIT Center for Transportation & Logistics (MIT CTL) Director Professor Yossi Sheffi, which shows how political culture is an important aspect of supply chain resilience.
But assessing and mitigating political risk is still a very informal exercise in companies. “Incorporating political risk is not something you do routinely in supply chain decision-making,” said Dr. Edgar Blanco, who leads a research initiative in Supply Chain Innovation in Emerging Markets at MIT CTL. “Institutional uncertainty is a common theme across emerging markets and not all organizations are used to dealing with it,” he added. “The first reactions tend to isolate these markets by pulling the plug or adding buffers via manufacturing or inventory build-up. Sometimes these are sound strategies, but more often than not, these are expensive propositions, especially given the cost pressures that are common in emerging markets.”
This behavior results from a lack of understanding of political risk in supply chains. It is unclear how to measure this type of risk, how often it should be reviewed, and how to incorporate it in supply chain decision-making. Joint work at MIT CTL and CLI is shedding light on supply chain risk measurement, politically driven and otherwise.
Meanwhile, “you need to start with local relationships when managing risk in emerging markets, especially if you want to stay ahead of the political tide. And these relationships are not built overnight; they should be part of a conscious supply chain strategy,” said Blanco.
For more information on CLI’s political risk research contact the Center’s Public Relations Manager, Maria del Mar Hermida.