Seeing beyond shortages: The real value of supply chains

Policy interventions to revitalise manufacturing supply chains are needed not just to be better prepared for the next crisis but to ensure the long-term prosperity of UK industries.

Whether due to the shortages of personal protective equipment (PPE) and other critical items during the first wave of the COVID-19 pandemic, or the more recent spree of petrol panic-buying, supply chains are in the news. However, supply chains are not just about getting goods from the factory to the customer nor only about problems.

In modern industries, manufacturing supply chains are critical enablers of innovation and value creation. Firms in the supply chain are not only a source of parts and components but also new technologies, knowledge-intensive services, and ideas.

This is not just an abstract concept but a reality that companies often have to learn the hard way. For example, when Apple tried to assemble the MacBook Pro in Texas, it found it could not source a needed screw. The company eventually gave up and moved produc­tion offshore.

And think about the industries of the future. As recognised in the government’s Net Zero Strategy, the UK will only capture the benefits from public investments in green technology sectors such as hydrogen, offshore wind and electric vehicles if it can exploit rapidly growing supply opportunities in these sectors and retain the associated skills and jobs.

Complexity and innovation

While the metaphor of the ‘chain’ might suggest a linear, simple structure, suppliers in modern industries are in reality embedded in complex networks. As noted in a UK government report in 2015, ‘the whole supply chain system also includes the functional areas of planning, design, purchasing, manufacturing, distribution, sales, recovery and recycling. Understanding the whole system provides major opportunities for innovation and value creation, and points to the need to ensure that the right skills, leadership and process systems are in place as well as the materials required to form the end product.’

Supply chains can involve many different types of suppliers, such as:

• Suppliers of raw material, parts, components and subsystems
• Suppliers of product ideas, design, prototypes and research and development (R&D) services
• Suppliers of manufacturing equipment, tools and specialised engineering services
• Suppliers of transport and logistics services
• Suppliers of after-sale services, including remanufacturing and recycling

These different types of suppliers enable manufacturing sectors not only to produce the output required to address market demand but also underpin their competitiveness and ability to innovate. The development of many new goods and services is only possible thanks to supplier firms providing ideas and supporting their development.

In some research-intensive process industries like speciality chemicals and pharmaceuticals, specialised firms providing research and development services and other professional, scientific and technical activities are an integral part of the development of new products.

The industrial commons

It is very difficult to manage these complicated supply chains – and thus to reap the benefits of innovation and industrialisation – with individual, discrete policy interventions. Instead, the effectiveness of supply chains is predicated on ensuring the health of the wider environment of suppliers, skills and services that feed it.

This is sometimes referred to as the ‘industrial commons’ – a common set of suppliers and human resources available to manufacturing firms in a given region. These can include research and development (R&D) know-how, advanced process development and engineering skills, and manufacturing competencies related to a specific technology.

These industrial resources provide a shared benefit to multiple companies and provide a source of innovation and competitiveness. The concept of the industrial commons emphasises that, despite the global nature of modern industries, the close proximity of this set of suppliers and human resources has a key role to play in fostering technological and industrial innovation.

When countries lose this, they lose the ability to innovate in next-generation products and services, with local technologies often taken overseas for industrialisation. Influential studies conclude that the ability to innovate the next generation of products – in industries including semiconductors, electronics, advanced materials, and energy production – is lost when local supply capabilities are ‘hollowed out’.

Why and where supply chains matter

In order to understand the real value of supply chains – and what government should do to support them – it is important to understand how they contribute to a broad range of policy goals.

The first one is security of supply. Manufacturing supply chains provide goods that are critical to life and national security, such as food, drink, medicines and medical goods, clothing, and fuel. They also supply critical materials, components and equipment that keep factories running. In addition, manufacturers supply machinery, components, systems and engineering services that enable the operation of critical infrastructure such as transportation, electricity generation, communications, and defence.

A disruption in manufacturing supply chains could therefore result in significant national economic impact and shortages that cascade across multiple critical infrastructure sectors and regions. The COVID-19 pandemic clearly showed that, in times of disaster, manufacturing supply chains that were previously functioning well can experience significant disruption, potentially magnifying the human and economic costs.

They can also impact the trade deficit. Low use of UK-manufactured parts in some UK sectors has contributed to a long-run national trade deficit, despite a remarkable increase of service exports over the last few years. Estimates suggest that around half of manufactured parts used in the UK are sourced domestically, compared with 90% in services.

Addressing supply chain gaps and increasing domestic sourcing would contribute to increasing the gross value added of manufacturing sectors captured domestically and reduce the trade deficit. Furthermore, investments by international firms attracted by these supply opportunities result in increased foreign direct investment (FDI), as do the investments of lead firms attracted by the local availability of suppliers.

The broad impacts of innovation, be they economic, environmental, or societal, only accrue when new technologies – including low-carbon and digital technologies – are diffused widely across entire supply chains. Even when new technologies are available in the market, many firms in the supply chain, in particular (but not only) small and medium-sized enterprises (SMEs), fail to exploit opportunities due to weak ‘absorptive capacity’.

Firms also benefit from proximity to other firms with which they exchange inputs and the associated skilled labour and know-how. Local clustering allows firms to share knowledge, collaborate on supply opportunities, and reduce lead times, transportation costs and the carbon footprint. In the automotive industry, for example, ‘leaner’ and more flexible operations are possible when suppliers are located close to the vehicle manufacturing plant, particularly in some of the premium segments where UK firms operate.

The UK aerospace industry, for example, is characterised by a number of place-based clusters, including: Airbus and its supplier base around Filton and Broughton; Leonardo and its supply chain companies in the South West; Spirit Belfast (formerly Bombardier Shorts), which drives growth across its supply base in Northern Ireland; Rolls-Royce and its predominantly Midlands-based supply chain made up of thousands of suppliers in the region; and Boeing’s actuation factory in Sheffield, which is seeing a number of small local suppliers, such as Maher, Mettis, Aeromet and MetLase, scale up.

Developing next-generation products often involves the introduction of new technologies and processes for which firms require external supplier expertise. Countries and regions hosting a critical mass of suppliers, human resources, R&D know-how, process development and engineering skills are better positioned to exploit the benefit of their research and technology base.

Conversely, the hollowing out of supply chains can lead to a vicious ‘invented here, produced elsewhere’ circle, where loss of key skills and know-how results in the inability to commercialise innovations emerging from the research and science base.

Ensuring healthy supply chains

With the goals of both avoiding the supply chain failures that make the news and strengthening the overall health of supply chains that contribute to the country’s prosperity, policy makers face a complicated task. But governments around the world are increasingly paying attention and designing supply chain interventions to achieve specific policy outcomes, not just address short-term problems.

Policy Links has reviewed many of these interventions as part of a report commissioned by the Department for Business and Trade (DBT) (formerly Department for Business, Energy and Industrial Strategy (BEIS)) Advanced Manufacturing Directorate to refresh the current evidence base and inform the development of new and existing policy options to support UK manufacturing supply chains.

Examples of interventions include mission-oriented programmes aimed at the rapid scale up of complete supply chains of critical supplies, as well as initiatives to identify risks and vulnerabilities in supply chains of critical products and develop mitigation strategies to ensure security of supply. Targeted FDI attraction programmes are aimed at attracting key firms to address supply chain gaps, while business support increases the capability of firms that are already part of the supply chains to exploit new opportunities for domestic supply.

Other policies include supporting proof-of-concept and technology demonstration, mapping supply chain needs to identify gaps for the industrialisation of emerging technologies, and R&D funding programmes in next-generation production process technologies.

Our Policy Links reports on international manufacturing policy responses to COVID-19 and new industrial capabilities for new economic growth provide a range of further examples and potential policy interventions for government to consider.

The answer to the next supply chain crisis does not start with short-term responses to a specific problem, but rather in considering the broader role supply chains have in a variety of policy areas and acting accordingly to support them.