Welcome to the Q2 2022 edition of our procurement index, which analyses the buying conditions facing businesses.
The Grant Thornton Procurement Index compiles six of the main costs facing businesses:
It equally weights these economic indicators based on historical levels over the past two years, and scores them individually out of 100. A high score suggests the cost is at a record high compared to historical averages, while a low score indicates a price is bottoming out. These scores are then compiled into an overall score out of 600.
Our first Procurement Index included crude oil barrel costs; this has now been adjusted in this latest version through use of the tax excluded cost of diesel instead. This makes the index an even more accurate representation of the costs facing Kiwi businesses, as diesel powers our logistics, agri and transport sectors.
This quarter’s index sets a high score of 438.51 out of 600 – a figure that will not surprise most business given the current economic climate. The extensive price inflation facing businesses, combined with tightening monetary policy from the Reserve Bank, and staff shortages in almost every industry mean many businesses are starting to experience some strained balance sheets.
With interest rates continuing to track higher, diesel prices reaching record highs and a tight labour market continuing to place immense pressure on Kiwi businesses, it is unsurprising that almost all of our categories are either nearing or at record highs. Perhaps most concerningly, market commentators expect almost every category to continue to track upwards, meaning that businesses are certainly not out of the woods just yet.
New Zealand’s official cash rate (OCR) has hit its highest level since 2016, and that interest rate pressure is starting to hit borrowers hard. Unfortunately, despite suggestions from several economists to ease onto the brakes a bit, we seem to be screeching to a monetary halt, with sharp raises expected for the rest of the year. The OCR currently sits at 3%, and many predictions put it past the 4% mark over the coming 12–24-month period. While obviously having an immediate balance sheet impact on businesses, there is also a risk that the broader slowdown caused by a monetary constriction could significantly dampen economic activity as a whole and put additional pressure on businesses.
A new addition to the Procurement Index, the diesel price index provides a much more genuine reflection of the cost pressures facing Kiwi businesses than the crude oil price that had been used in the index previously. Unfortunately, the diesel price enters the index in bad shape, with the price of diesel having increased by over 40% in the last year. Diesel now rubs shoulders price-wise with 91 petrol, which would have been unthinkable even just last year. With prices having been worsened by the ongoing Ukrainian-Russian conflict, industry commentators expect the price of diesel to get worse before it gets better. These steepening prices are problematic for businesses both due to the immediate expense increase they represent, but also because of the price increases they are likely to trigger up and down supply chains.
A mechanical failure at a gas power plant and a drop in wind speed forced New Zealand into another grid emergency at the end of June. These events are stark reminders of the pressure being placed on our grid by increasing energy demand. As such, it is unsurprising energy prices have continued to rise across the board – with MBIE estimating the average household is paying about 5.2% more for electricity than it did a year ago. Although the majority of electricity in New Zealand is renewably generated, rising prices of coal and gas have not helped power prices (which are set by the price of the most expensive generation dispatched), and again, market commentators expect the cost of energy to continue to increase in the immediate future.
The US dollar remains strong as a result of market sentiment that the Federal Reserve will be able to orchestrate a “soft landing” without sending the US into a recession. This isn’t likely and has never happened before, a point stressed by Chief Economist for Grant Thornton USA, Diane Swonk, but, nonetheless, market belief in the “goldilocks” outcome remains steadfast. Hawkish Fed action through a 75 basis point increase of the Federal Funds Rate in July has continued to buoy the value of the US dollar and keep investors hopeful that the Fed is committed to strong action against the impending risk posed by inflation. Although good for exporters (making our goods appear cheaper in the US), the reality is that the weakening NZ dollar will likely place financial pressure on many businesses, making imports more expensive, and driving related supply chain expense as a result.
Contradicting the broad market volatility across the board, the employment continues to be an outlier in economic indicators. Despite a small drop from 68.8% in December 2021 to 68.6% in the March 2022 quarter, employment remains persistently high (though the underutilisation rate remains stuck in the same range it has for 15 years).
This is further evidenced through the BNZ/SEEK Employment Report released in early June which stated that there had been a 17% increase in job ads since December 2021. Anecdotally, the going concern for many New Zealand businesses is the rapidly escalating brain drain. Net migration for the year ended March 2022 was negative, with 7,300 people leaving the country, and it currently seems that we all have multiple people in our lives upping sticks and moving to either Australia or England. As such, this cost pressure is likely to remain persistent for businesses in the near future.
This is one of the few components of our index bringing good news: container prices seem to be on a downward arc since reaching record levels at the heights of the pandemic. Container availability appears to be improving, and indicators such as US inbound container volumes seem to be reverting to pre-pandemic levels. This is promising, though don’t take it as a guarantee of falling prices, as these lowering costs may simply be absorbed into already under-pressure margins by upstream businesses. This is especially likely given the concentrated nature of global shipping markets – having enjoyed wide margins for quite some time, there is unlikely to be significant pressure on shipping lines to revert back to old pricing structures. We also note that, given uncertainty about international conflict and the persistence of Covid-19, businesses should still build resiliency into their supply chain to abate the risk of any potential further shipping disruptions. In our first edition of the Procurement Index, we provided some guidance about how this might be done – business should consider how to near shore and approve more sources of supply, and gather cross functional teams to pull apart specifications and value engineer supply chains and operating processes.
In a recent Economic Insights article, Diane Swonk, Chief Economist for GT USA, compared the current economic situation as a “meteor shower”, but she stressed, “the good news is that we are not dinosaurs. We are still here”.
Times are difficult currently, and there are many structural problems facing our economy – particularly climate change and energy scarcity. Firms must adjust to these factors, but it is also important to remember that meteor showers pass – eventually, international events pressuring our supply chains will pass too.
It’s hard not to read the contents of the Q2 index and become quite despondent – however, times of significant change offer immense opportunities for businesses. Now is a great time to re-visit your business design top to bottom – use this as an opportunity to make significant change to the way you operate, so that you can guarantee future success for years to come.
One of the biggest areas businesses can significantly lift performance is sustainability. A significant chunk of the cost pressures involved in this index relate to shortages of fossil fuels – businesses should recognise this and adjust. If fuel prices are pushing up the cost of your supply chain, consider the long-term savings of a hybrid or electric fleet. If materials are a big cost for your business, look at closing the loop in your production of goods through reusing and recycling products. We believe that sustainability holds the key to alleviating a lot of the pressures highlighted in this edition of the index. To learn more about how you can transform your business model and future proof your organisation, download our latest research produced in conjunction with Sustainable Business Network: The Circular Revolution.