From Critical Drugs To Auto Parts, Zips To Solar Panels, How Coronavirus Has Hit Supply Chain

Pragya Automobiles’ owner Ankit Mishra is in a quandary. At his factory in Delhi’s Okhla region, he can either buy raw materials at double the prices, close down until supplies are normal, or maintain a break-even level, that is, neither earn profits nor incur losses. At present, he has decided to stick to the third option. Several Indian businesses in sectors such as auto, pharmaceuticals and electronics, which are already under pressure due to the current slowdown, are likely to be squeezed further.

In China, close to 100 million workers—a third of the migrant workers ­employed at manufacturing hubs across the country—are still under quarantine, which is impacting production and economic growth. Other important manufacturing nations, such as the US, Italy, South Korea and Japan, face a similar situation. Their economic growth is likely to be lower than what was estimated earlier. Globally, stock markets are in a tizzy; several tanked in the past few weeks. The Indian Sensex was down 7.5 per cent from its high in February 2020.

These are the consequences of the dramatic and dangerous spread of coronavirus across the world. The highly contagious virus began its journey in China, crippled several provinces in the country for weeks and then spread to more than 78 countries in a short period. As it proliferated, its impact stretched from the human costs—deaths and isolation—to political and economic ones. No economy is safe anymore—every country will have to deal with the after-effects over the next few months.

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Many of the affected nations, especially China and India, are an integral part of global supply chains. These are complex networks that seamlessly and efficiently distribute raw materials, components, intermediate goods and finished products across the globe. In the case of services, as also manufacturing, the virus can disrupt the exchange of critical manpower, both from supplier nations and to destination ones. China, the worst-­affected country, is the world’s largest manufacturer and exporter, with links to more than 100 nations.

Effect on Global Economy

The world is more economically interconnected than ever before. Therefore, Frost & Sullivan, a growth strategy consulting and research firm, estimates that the impact of coronavirus “is expected to be much more pronounced” compared to the SARS outbreak in 2003 and Middle East Respiratory Syndrome (MERS) in 2015. According to The Economist, when South Korea had a “small outbreak of 186 cases of MERS…the hit to the economy totalled $8.2 billion, or about $44 million per infection”.

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Apart from the direct blows, such as dip in production, trade and tourism in the affected nations, there is a huge possibility of indirect shock waves. For ­example, businesses in most economies, including the non-affected ones, may curtail future investments, consumers across the globe may reduce spending, and inflation can go up as governments try to kick-start their economies by pumping in more money into the system. There can be a few benefits too—oil prices, which were expected to go up this year, may drop by 6-7 per cent and aid oil-importers like India and China, and interest rates may come down.

Based on such complex linkages, ­experts have prepared a pandemic index to gauge the extent of economic disruption across regions. In the case of a severe scenario, like the Spanish flu that killed 50 million in 1918-19, global GDP can drop by 5 per cent. In a milder version—10 per cent of the people affected, losing an average of 10 days work each and a fatality rate of 0.25 per cent—the slump may be 0.8 per cent. Frost & Sullivan estimates that global GDP, which rose by 2.9 per cent in 2019, will grow by 1.7 per cent or less this year.

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The scenario in China is more complicated. In the past few years, its economy has relied less on ­exports and global trade, and more on domestic demand. It has deliberately and gradually slowed down its growth to adjust to the internal economic turmoil. Hence, China may face a triple whammy—inability to sell to others, lower local demand and a further slowdown in growth. Reports indicate that Chinese factories are operating at 60-70 per cent of their capacities. The country’s ­“official measure of manufacturing activity”, the Purchasing Manager’s Index, is down by 30 per cent.

Impact on India Inc

The good news is that thanks to the Chinese New Year holidays, most of China’s workers stayed at home and hence, either weren’t affected by the virus or couldn’t spread it. More ­importantly, the worst is possibly over in China and its manufacturing may limp back to normal within weeks. Both augur well for Indian businesses that export to China and depend on its factories for crucial supplies. Due to the Chinese New Year, Indian factories maintained a two-month inventory, which may last till March 2020. “Our inventories will soon be exhausted and we hope China will resume its normal production,” says Deki Electronics MD, Vinod Sharma. If China is back on track by April 2020, there will be minimal impact.

However, if this doesn’t happen, India, which witnessed a low growth rate of 4.7 per cent in October-December 2019, may be in for a long haul and only recover by September 2020. Sharma thinks that supplies will normalise only by July this year. Sectors that are most likely to bear the brunt ­include auto components, pharmaceuticals, electronics and telecom, agro-chemicals, and machinery. According to the CII, India imports 45 per cent of electronics, 65-70 per cent of active pharmaceutical ingredients (APIs), 90 per cent of mobile phone parts, 40 per cent of organic chemicals and a third of machinery from China.

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Anuj Sethi, senior director, CRISIL, sketches out a larger impact on the Indian economy. He feels that apart from specific sectors, the revenue prospects of retailers, especially e-retailers, in consumer durables and electronics may dampen a bit due to low inventories and reduced stocks of components supplied by China. In addition, the credit profiles of firms in select sectors, which are already down due to bad loans and the insolvency code, may be further ­impacted due to the supply disruption.

The dynamics in each sector are different.  Take APIs, for instance. In 2018-19, India imported Rs 174 billion worth of APIs and Rs 249 billion worth of bulk drugs from China. Although Indian producers possess the technical capabilities to make these two, they ­focused on value-added pharmaceutical products because of cheaper Chinese prices. A senior executive in a pharmaceutical firm explains, “Our stocks are about to be exhausted. We have tried to slow down manufacturing or buy APIs at higher prices and have asked the government to intervene.”  

The shortage of APIs and bulk drugs, or their higher prices because of supply shortages, will surely affect Indian medicine exports to developed economies. For example, according to the US Food and Drug Administration, Indian ­imports to America accounted for 24 per cent of medicines and 31 per cent of medicine ingredients in 2018. India is also a big supplier to Europe and Africa. Drug prices may rise across the globe ­because of the situation in China, ­another huge global supplier, and India.

There may be dark days ahead for solar projects as 80 per cent of the world’s ­capacity to make solar cell panels is in China. Around 3 gigawatts of Indian solar projects, which are worth Rs 16,000 crore, will be at risk, and miss their completion deadlines if the supply delays stretch for months. This can result in huge penalties on solar power developers or invocation of force majeure clauses. Anand Kumar, secretary, ministry of non-renewable energy, says, “We have already stated that delays due to coronavirus will be treated as force ­majeure. We have ensured that India’s energy security is not at risk.”

In the case of cotton yarn, China is the destination for a fourth of India’s ­exports. Thanks to the trade disruptions and shutdowns of Chinese ports, the prices of Indian cotton and yarn contracted by 3-5 per cent in February 2020. A senior merchandiser with India’s Orientcraft says, “Air shipment is costly and alternative buyers in Europe and the US are unwilling to bear the additional expense. So, it’s hitting us more.”

Tourism is another area where India is likely to feel the heat. Although Chinese tourists to India comprise 3 per cent of the inbound traffic, they are among the top 10 spenders by nationality. Arrivals from other East Asian ­nations may reduce. Even US and European travellers have decided to ­either cancel or reschedule their plans. These may dent the $30 billion that India earns annually from foreign tourists. Daniel D’souza, president and country head (leisure), SOTC Travel, says that summer is the time when travellers plan vacations. He maintains that there is anxiety about coronavirus.

However, if the problems in China persist and India is able to contain the virus, there can be a few benefits for the latter. China’s losses in global markets can partially become India’s gains, as was the case during the period of trade wars ­between the US and China. Such a situation may result in other benefits due to lower prices of various commodities.

Turmoil in Markets

Across financial instruments (stocks and bonds), commodities (copper and crude oil) and national currencies, there is heightened volatility. According to Madan Sabnavis, chief economist, CARE Ratings, “The global impact can be seen through five indicators—panic among stock investors, fall in crude prices, higher gold prices as it becomes a safe asset, currency volatility, and lower yields on bonds supported by a cut in ­interest rate by the US Fed.”

Globally, stock markets are nervy in the face of uncertainty. On February 24, 2020, the US S&P 500 Index ­witnessed its largest single-day ­decline in two years. In India, the Sensex shed 3,000 points. A clear indicator of what stock-holders feel can be gauged through the Chicago Board Options Exchange’s volatility index, which measures the expected volatility in stock markets. In the case of the US, it almost doubled within a few days. In the case of India, it went up two-and-a-half times and is expected to go up further.

Lower volatility forces investors to buy stocks and hike the weight of equities in their portfolios. When volatility surges, they tend to sell a portion of stocks, which further fuels instability and ­unpredictability. Invariably, they shift to bonds, which are safer assets. However, a lot depends on what different governments will do about interest rates. The US Fed showed the way with a recent cut and experts feel there may be two or even three more cuts in the near future. Other countries, especially India, may follow suit.

Apart from stocks and bonds, currencies suffer in such times. This depends on the respective economic strengths of the countries. For example, the dollar has strengthened, but the rupee has fallen. In the case of commodities, copper plunged and so did crude oil. Both are good news for manufacturing giants and oil importers like India and China. Thus, the ­impact is mixed and investors will need to hurriedly rejig their portfolios. And nations will have to take pro-­active measures rather than merely react to the onslaught of the virus.

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Blowout In The Supply Chain

Automobiles

• India imports drive transmission, steering, electrical, interiors and engine components for electric vehicles from China.

• Auto manufacturers in India assemble auto components and export these to Africa, Latin America and Middle East markets.

Textile/Readymade Garments Industry

• India exports cotton yarn to China and imports synthetic yarn and fabric, buttons, zips, hangers and needles from China. Using these products, India manufactures clothes and exports these to the US, Europe and West Asia.

Iron Ore and Steel products

• China imports iron ore and concentrates from EU, Japan, Taiwan, US, Australia and Germany. China processes this iron ore into steel and galvanised iron, which are used to make products like taps, pipes etc. The products are exported to EU, US, Japan, Germany, Netherlands and India.

Pharmaceuticals

• India imports active pharmacetuical ingredients (APIs), the basic building block or component of medicines. For example, acetaminophen or paracetamol is an API of Crocin brand of drugs. India uses these APIs to make medicines like tinidazole, metronidazole etc as well as generic drugs and exports these to the US, Japan, UK, Australia and Africa. China also exports generics to the US and Europe. Plus, there is the Indian domestic market.

Solar energy

• India imports most of its solar modules and panels from China and exports Indian-manufactured solar power equipment, including solar modules and cells to Denmark, Australia, Poland, Netherlands and Belgium. There is a huge local demand in India as well.