By the time you read this we will know clearly about the impact of the coronavirus currently circling the globe. Most likely we will have learned that the immediate threat of pandemic was over-stated. However, even a modest continuation of current infection rates will create a visible reduction in, at least, first-quarter growth.
The issue has gotten big headlines because a bad pandemic would leave supply chains suffering a 10% reduction in volume with 20% of its employees out sick and consuming major health expenses. Such an event, when combined with the already troubling chance of recession, could produce a macro-economic event rivaling the 2008-2009 Great Recession.
So the real story is one of managing a risk of modest possibility, but with major impacts possible should the worst happen. Or put differently, managing the risk of over-reaction. To help you understand this, the following discussion lays out the facts about pandemics, their risks and possible effects on supply chains.
The Virus
Coronaviruses are but one of the many ‘flu’ viruses that trouble humans. Doctors and researchers have known about coronaviruses since the 1960s. Flu viruses are constantly mutating, and every once in a while, a strain appears that produces a strong reaction in the human immune system. It is the violent reaction that kills.
The current outbreak, 2019-nCoV, (commonly called COVID-19) is the third such strain among coronaviruses this century. The first of the three was SARS from 2002-2003, which caused at least 8,000 cases and 774 deaths. It has been dormant since. The second is still active, MERS, a rare virus from Middle Eastern countries which has killed 400 of the 1,000 people known to have fallen ill from it. In comparison, the current COVID-19, if current trends persist, will infect more than 300,000 people with roughly 15,000 deaths.
Such viruses kill in two ways. One, a more severe version of the typical flu primarily affects vulnerable, elderly or already sick people. Pneumonia is the most common outcome. A secondary effect, and the most troubling process, is the triggering of strong, violent reactions in the human immune systems. Such reactions can lead to severe respiratory distress and organ failures.
Ironically, healthy young people with strong immune systems and few antibodies from previous flu attacks are vulnerable to such violent reactions. So this threat may affect healthy young adults, unlike “normal” cases of flu that kill mainly among the very old and very young. Young person mortality occurred frequently during the catastrophic 1918 ‘Spanish Flu,” which started among young men on a United States military base in Kansas. We have seen the same effect this time in the unfortunate deaths of several, otherwise healthy young health workers. Conclusion: The core of a workforce would be vulnerable to infection and death.
The Current Threat – COVID-19
The current flu mutation causing concern first appeared late last year in the Chinese industrial city of Wuhan, a city on the Yangtze River about 500 miles due west of Shanghai. It originated probably in the city’s large wild animal markets, a Chinese practice that creates a fertile ground for the transmittal of animal viruses to humans. Such transmittal is important because pandemics usually require a mutated virus that has time to develop in a non-human population before making the jump to us. So far, the majority of cases have occurred there. Much of the city and its factories (auto) were shut down but are slowly reopening as the infection rates fall. China attempted to isolate the disease there, and the rest of the world is attempting to limit its interaction with China.
Course of Disease
The respiratory system reacts quickly and sometimes violently to such infections, causing congestion, fluid buildup and sometimes bleeding. If the immune system is traumatized, death can occur quickly – sometimes within 24 hours of the first symptoms. Rapid diagnosis and hospitalization are critical. The victim is sick for one to two weeks. To date, COVID-19 has a fatality rate of about 3%, roughly 10 times the normal mortality from flu, hence the worldwide concern.[1] Conclusion: People will be absent for sickness for 2-3 weeks at a time and absent for 3-5 weeks for family care or fear reasons. If the U.S. is hit hard, 20% to 30% of our people would require doctor’s care. 5-10% would require hospitalization. 3-6% would require critical care. This is a major exposure for our health care system, its insurers, and especially for self-insured health care providers.
Spread: The virus spreads through contact with water droplets (sneezes, etc.) So the prime defense is to prevent contact with such droplets through masks, disinfecting, and personal cleanliness. The virus spreads very rapidly. The 1918 flu went nation-wide in 1918 in about six weeks. 25% of our population became ill. 100% were exposed. The modern interconnected world makes the spread of such viruses even more likely.
However, that same interconnectedness accelerates the subsequent mutations of the virus which work to reduce or eliminate the illness.[2] As a result the incidence of cases accelerates to an early peak before beginning a gradual decline. The rate of acceleration and declines determine the degree of contagion and the propensity of the virus to weaken. So far COVID-19 has shown a propensity to accelerate quickly then decline relatively quickly. In China, for instance, the incidence of new cases has dropped off dramatically and is now quite low less than a month after that troubling acceleration.
Prevention and Cures
Quarantining can help if the virus spreads slowly, as with the SARS outbreak. However, easily spread viruses, like the common cold, ‘normal’ cases of flu and, perhaps this threat, keep spreading until the combination of mutation and increased resistance run their courses. Vaccines can help, but the rapid mutation of the virus limits their effectiveness. Effectiveness ranges from 60% to single-digit results depending on the type of virus. Of course, no shot prevents the ‘common cold’. As a result, doctors focus mainly on the symptoms, because it is the body’s intense reaction that kills.
Unfortunately, the research on such viruses reveals that quarantining is largely ineffective if the strain is easily transmitted. Humans and our economies depend on interaction with other people. So the ultimate cure is the eventual mutation of the virus away from the virulent strain. In 1918 that took about four months.[3] This all means that the course of a pandemic is a contest between its ease of transmittal and its natural loss of potency over time. SARS and Ebola are potent but slowly transmitted. The common flu is of low potency but easily transmitted. This virus seems to fit in between somewhere. Conclusion: the best defense is to quarantine early to buy time. There will be quarantines. People will stay home to avoid infection. However, the virus will inevitably spread requiring the full capability of our health care, should the strain retain its potency.
Lots of Reason for Optimism
Looked at logically, this pandemic is but a mild health crisis, again with total mortality expected to be well less than normal annual flu deaths. Importantly, after a rapid buildup of cases in Wuhan two weeks ago, the rate of new cases there has fallen dramatically, as is normal for such viruses. The current news is mainly from other countries where cases are first showing up, also as expected. So far, the numbers outside of China are small, we hope, because the virus is slowly losing potency. The falling infection rate in China supports that finding.
In the Contest Between Logic and Fear, Fear Usually Wins
Here’s the problem: quarantines are just effective enough to convince skittish governments to use them. They probably won’t work, but they just might! And what else is there to do? No government wants to be blamed for allowing a pandemic to enter its country. The catch, of course, is that quarantines are devastating economically.
Our economies depend on human interaction. It follows that, barring the appearance of a devastating virus, like the Black Death of the late Middle Ages, the prime effect of a pandemic is over-reactions that cause economic dislocation rather than widespread health problems. Consider that the hysteria in China stems from some 2,700 deaths in a country of 1.4 billion people. The percentage is so small we would need high school math to express it.
Workplace Exposure
Still, it pays to be sensitive to the process of infection. Supply chain facilities and truck stops are the hotspots due to the frequency of contact. Because a company can control its facilities, public locations like truck stops have the worst exposure. Loading docks are relatively safe because of minimal human contact. Conclusion: Driver exposure will be the hardest to control.
Health System Response: We need to hope that COVID-19 is a mild pandemic because our health system does not have the capacity to deal with a major attack. The U.S. has sufficient hospital capacity to simultaneously care for 950,000 people or .2% of the population. A full pandemic would require 10 times that capacity. The most likely U.S. outcome is a limitation of most cases to a few entry points. Conclusion: We could see regional pressures on health care.
Operational Impact
Supply chains would be especially vulnerable in two important ways. First, drivers and other geographically dispersed workers would be isolated from help. What urgent care center or hospital provides big-rig parking? Second, employers should be concerned about where people work in close proximity: operating centers, customer service floors, truck stops. The brokerage sector would be particularly vulnerable in the absence of solid plans for remote operations.
Long Term Effects
Survivors of bad attacks or with pre-existing health problems could have long-term health effects from the respiratory trauma. Also, at current turnover rates, it would take three to four years to replace drivers lost to illness and interruptions in the hiring pipeline. Conclusion: A pandemic would slow supply chain growth and reduce earnings for an extended period.
Macro-Economic Impact
Assuming a reasonable restriction of this outbreak, economists are estimating a modest, but measurable effect on Chinese growth, perhaps a reduction of .8 percentage points in Q1 2020 and .4 for the full year. However, a cascading series of plant and supply chain disruptions may threaten U.S. retailers and electronics manufacturers who already have low inventories.
We will see such effects sometime in March as the China-based supply chains would normally be increasing shipments after the Chinese New Year. The digital revolution at the heart of so many products is currently dependent on Chinese production of the parts critical to the operation of many products. This is the downside of the IoT movement.
Fortunately, though, supply chains have shown a remarkable ability to flex and improvise under such stress. Nonetheless, initial data from airfreight volumes have shown a major drop off in volumes. That market is a well-established leading indicator.
Geometric Risk
With that in mind, consider that this virus carries more risk than either SARS or MERS for three reasons. First, the global economy is currently in a tentative state that makes it vulnerable to even small external shocks like this. Remember the soft economic year that followed the 2011 tsunami, which idled important manufacturing plants in Japan.
We have already seen at least a two-day sell-off in U.S. stock markets from this event.
Second, and more worrisome, is the easy transmittal of this virus, already more than double SARS and the cause of its jumping to far off Iran and Italy. Perhaps this is the virus that overwhelms through its easy transmittal rather than the severity of individual cases.
Third is the possible cascading of plant shutdowns. The absence of an electronic part shuts down a fuel systems plant – which shuts down an engine plant – which shuts down an assembly plant, which starves the dealer network, which reduces financing operations.
Fourth, the ubiquity of information and governmental concern could occasion an over-reaction just as the 911 attacks spawned a defensive reaction far out of proportion to the threat. The worst-case then is a mild but very widespread global pandemic with decidedly strong economic effects. Such an event would reduce GDP by up to 5% with a logistics reduction more than that. It would feel like 2008-2009.
Judging the Impact
Consider these three logarithmically separated numbers. If by the time you read this, the U.S. has had only 2,000 cases (a reasonable forecast including five deaths and 200 hospitalizations), then you will probably already have concluded that the threat is passed. If the number of cases is 20,000, you will still be dealing with a strong quarantine reaction, especially in the regions most affected. The economy will be in recession. If the number is 2,000,000, it will be an event you will remember the rest of your life with profound strain on the health system and economy.
[1] However, ‘normal’ flu killed perhaps 80,000 Americans last year.
[2] Note that China has twice the interaction with the global economy now than when the SARS outbreak hit.
[3] There were three major waves of infection during those four months
Recommendations for Supply Chain Operations
Build a basic contingency plan with at least these elements:
Food Shippers of America