August 24, 2022
Stemming in part from shifting demand for goods and services as a result of the COVID-19 pandemic, supply chain disruptions and the Russia-Ukraine conflict, the current inflation crisis is a global phenomenon. By late spring, inflation had hit 40-year highs in the U.S. and the U.K. In the eurozone, price increases have reached their highest levels since 1999.
The new report, “Inflation is Influencing Business Risk Management — Take Steps to Mitigate its Impact,” shows today’s level of global inflation has introduced new sources of volatility to an organization’s operations and risk management programs. A wide range of underlying conditions exacerbated by the pandemic also contribute to the current inflationary environment, presenting industries with complex challenges.
“We are clearly in a multi-year higher inflation environment,” said Tapan Datta, global asset allocation partner at Aon. “Companies are facing intense cost pressures — both labor and non-labor costs have been rising rapidly. Rising interest rates are also weakening economic activity making it hard for corporates in most sectors to pass higher costs on to customers. Companies need to give top priority to cost efficiencies, while also ensuring they stay competitive in their respective industries, so as to stay profitable.”
The impact of inflation plays out across all business sectors. An examination of three industries — food, agriculture and beverage; natural resources; and transportation and logistics — underscores some of the sources of inflation and the implications for businesses, as well as some of the strategies for coping with this growing trend.
Food: Pandemic, Supply Chains, Climate and Labor Contribute to Inflation
Food, Agriculture and Beverage (FAB) inflation jumped from 2.2 percent in 2021 to 7 percent at the start of 2022, the steepest increase since 1981. Contributing to that inflation rate are adverse weather, labor shortages, political unrest, increased costs of critical inputs like fertilizer and fuel and supply chain disruptions.
While supply chain risks are a significant peril in many industries, the issue is particularly acute in the FAB sector, where products often rely on bringing together a variety of ingredients and a delay in the delivery of any one commodity can have disastrous results for the business. The ongoing conflict in Ukraine will also have a major and long-lasting impact on the industry, and the world food supply.
Like other industries, the supply — and therefore pricing — issues facing FAB companies are compounded by the growing threat of cyber attacks. Such attacks can disrupt production, cause business interruptions and interfere with supply chains. An Aon report found that nearly eight in 10 FAB leaders ranked cyber risk as a top-five threat to their business.
As they look to cope with the risks associated with inflation, it’s essential that businesses in the food, agriculture and beverage sector understand their supply chains.
“Companies need to ensure the resiliency and stability of their supply chains,” says Tami Griffin, national practice leader of the food, agribusiness & beverage industry practice at Aon. “They should have contingency plans in place to ensure the continuity of their ingredients, packaging, logistics and labor. Understanding not just your own, but the vulnerabilities of your suppliers, is critical.”
Natural Resources: Political Upheaval, Currency Fluctuations, Pandemic Drive Inflation
Natural resources prices have increased dramatically around the world. From March 2021 to March 2022, coal prices climbed 275 percent, aluminum was up 56 percent, copper was up 13 percent and the cost of nickel increased 163 percent. Over the same period, Brent crude oil prices jumped 63 percent and the cost of natural gas rose 97 percent.
Short-term uncertainty persists around energy prices, particularly given the impact of the Russia-Ukraine conflict.
Efforts by central banks in advanced economies to tighten monetary policies to control inflation will likely put pressure on emerging market countries and foreign currency borrowers and businesses with international exposures in property and equipment may well be affected.
“Metal prices have seen increased volatility the past 12 months primarily due increased demand for base metals and a fall in China’s steel production,” says Daniel Ocampo, LATAM natural resources industry leader at Aon. “According to the International Monetary Fund, prices are expected to fall 5 percent in 2022 as bottlenecks in supply chains are resolved. However, with the recent war in the Ukraine, the outlook is set to be even more turbulent as energy and food prices have spiked higher.”
Prices for some commodities are poised to increase further, according to Ocampo, as a number of factors come together to create a “perfect storm.”
“Chip shortages in semi-conductors have impacted the automotive sector, which is a large consumer of base metals including steel,” Ocampo says. “The energy transition push for electric vehicles has also led to greater demand for electric motors, transformers and copper cabling. Chemical demand surged during the pandemic due the need for personal protective equipment, testing kits and packaging.”
Transportation and Logistics Issues Add to Inflation Trend
Container shortages and the lack of dock workers and drivers factored heavily in supply chain disruptions and increased transportation costs. The cost for global shipping containers increased from less than $2,000 to nearly $11,000 in late 2021, while ocean freight costs were up 29 percent and truck shipping costs 18.3 percent earlier this year.
Ocean cargo delays forced some businesses to look to air freight as a shipping solution, but a surge in jet fuel prices this year has made that option even more expensive. Air cargo rates from China to Europe were up 80 percent in early March, according to Freightos, a freight-booking platform.
Ransomware attacks are also threatening the shipping industry, which relies heavily on interactions between a number of different digital systems.
Addressing Inflation Risk
From a risk management perspective, inflation can increase loss costs which can affect insurance pricing in an already hard commercial insurance market. In that climate, businesses can choose to retain more risk, but must be thoughtful in doing so and understand the implications of those decisions for the organization and its stakeholders. Analytics can be a valuable tool in making those risk retention decisions.
Businesses also must recognize inflation’s impact on the value of property and equipment, as well as the implications of currency fluctuations, to avoid the risk of being underinsured.
Until the pace of inflation slows, organizations that understand its business impacts — and take steps to address them — will be best positioned to navigate inflation-related volatility.
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