This isn’t just about Jaguar Land Rover (or VW)

One of my favourite economics books from the last few years was one called Extreme Economies by Richard Davies. The elevator pitch is that you can learn rather a lot about the way the economy works from what goes wrong with it, in much the same way engineers frequently learn something new about construction practices when a bridge fails and seventeenth century anatomists learnt new things about the human body when patients suffered unusual cases.

You could say something similar about supply chains, the astoundingly complex web of interconnections that comprises the modern economy (in Trade World I likened them to the fungal mycelium that underlies every bit of organic life under the soil). Indeed, the funny thing about supply chains is that the majority of what we know about how they function is gleaned from the moments they go wrong.

The example I feature in chapter eight of Trade World is the tsunami of 2011, when critical nodes in the Japanese car supply chain were wiped out, causing a sudden shortage of all sorts of random but, carmakers discovered to their horror, irreplaceable components they needed to make their cars. All of a sudden American carmakers were being forced to shut down their production lines because it turns out most of the world’s car companies sourced a given widget from a single factory in Japan. Anyway, there’s far more of that in the final third of Trade World (available in all good UK bookstoresnow; North American edition coming next May), but it raises a deeper question: why is it that we mostly learn about failures in the structure of the modern economy when things go wrong? Why can’t we learn about these things ex-ante rather than ex-post?

The simple answer is that for most of the past few decades, most economists have more or less given up on trying to understand the way 21st century supply chains interact. They are, it seems, simply too complex to try to understand - a little like the mycorrhizal hyphae that underlie the soil beneath us.

If you’ve read Material World or made a start on Trade World, you will probably have already guessed that I find this attitude rather defeatist, not to mention a bit boring. The journey a silicon chip goes on between being blasted out of the ground in the form of quartzite and ending up in your smartphone as a fully-fledged logic chip is one of the most marvellous stories in the modern world. The journey a grain of wheat goes on between being harvested in Manitoba and ending up in a slice of white bread in a British supermarket is far longer and more involved than most people chomping into their toast or sandwiches would ever guess. Why don’t we spend more time studying and celebrating the journeys everyday objects take between coming out of the ground and ending up in our hands?

Aside from being interesting, doing so would mean we are better placed to cope when something goes wrong in the future, meaning we don’t always just have to learn from failure. All of which brings us to one of the biggest stories erupting right now in Europe, the slow (or actually alarmingly rapid) existential crisis of the car industry. Last week Volkswagen announced 50,000 job cuts; today Jaguar Land Rover announced 4,000.

The key thing you need to know about these numbers is that they drastically understate the eventual impact of what’s happening here, which brings us to one of the main points I cover in Trade World. Over the course of the past century, the nature of the motor industry has shifted dramatically. This isn’t (just) a story of electric vehicles. This is about the fact that the amount of embedded value inside a finished motor car increasingly comes not from the OEM whose badge goes on the car but from a suite of component manufacturers providing assemblies that VW, JLR and the rest then bolt together in their plants. This is highly relevant today for two reasons.

The first is that it increasingly means a car company is really just the 1/10 of an iceberg you can see on the surface. Underneath it is a complex of tier 1, 2, 3 etc suppliers who actually make the car. These are the mom-and-pop companies throughout the Midlands of the UK and the rust belt of the US who actually take metal and bend it into shape or extrude plastics into the right formation. Back last year when JLR suffered a terrible cyberattack, the real worry wasn’t so much the fate of the carmaker but the fate of the constellation of tiny companies that constitute the other 9/10 of the iceberg. The reason JLR was bailed out was less to protect them than to prevent the implosion of much of Britain’s manufacturing heartland.

All of which is to say, if 4,000 jobs are being cut by JLR and 50,000 by VW, you really ought to multiply those numbers by five or, some would even say, ten to get a sense of the impact across the wider manufacturing sector (though in JLR’s case most of the job cuts are in head office so perhaps the impact won’t fan through the supply chain in quite the same way). In short, these sorts of job cuts will cause real pain, way beyond the surface. All of which is why, well, the story of the impact of the existential crisis of the car industry has only just begun.

That brings us to the second reason this seismic shift matters. Because it’s not just that car companies are no longer, strictly speaking, making their cars, buying in their components instead. It’s that they are also increasingly importingthose components from overseas. Sometimes the extent to which those parts are imported shows up in the relevant “rules of origin” figures. Sometimes, as I cover in Trade World, it doesn’t, with the consequence that while a car might well have a European or American name and badge its insides are increasingly not European or American in the slightest.

One of the consequences of this shift is that carmakers have increasingly been able to source cheaper and cheaper components. There was a great example of this in a recent Financial Times piece, describing a company called Mega-Senway which makes sensors that detect electrical current leakage in electric vehicle chargers.

The EV boom has propelled Huang’s sensor shipments to a projected 10mn units this year, up from about 20,000 in 2019, when his company Mega-Senway Electronic Technology entered the market. Back then it was still a niche product, supplied by a handful of German and Swiss groups that sold the sensors for roughly Rmb200 (around $30) — or more per unit... Huang’s Shanghai-based company now sells some sensors for as little as Rmb10 a pop. “We never thought the price decline would happen this fast,” he says.

Imagine this writ large across the motor industry. In fact, you don’t have to - because you can read about the cascading effects in Trade World. The visible sign of China’s coming dominance of the car industry might well be the Jaecoo and BYD cars you increasingly see on European roads. But now look from the bottom up. Increasingly, European companies are incapable of making cars without access to Chinese parts (and I’m not just talking about EV batteries - I’m talking about all the way down the component register). Increasingly, Chinese companies have little need for European parts.

This is the real story here. Not just about the car companies, the OEMs as they’re known, but about the whole supply chain, which has been getting ever more Chinese for some years.

Anyway, I’ll have more on this in the coming weeks but for the time being, here is a screen I made for Sky News the other day with a sniff of some of the other charts I put together in the course of researching Trade World. Hope you enjoy.