The Bullwhip Effect

The Bullwhip Effect

What is the bullwhip effect?

The bullwhip effect, a well-known phenomenon in supply chain management, describes the amplification of demand fluctuations as they propagate upstream in the supply chain, from consumers to producing mills. 

Like other industries, the European Union's steel ecosystem is a complex network of connections between producers, processors, stockholders, distributors, retailers and trading intermediaries that  deliver finished steel products to end consumers. 

In the context of the EUs flat rolled steel sector, the potential for a bullwhip effect exists due to several factors including, but not limited to, inventory levels, lead times, and external price fluctuations. This article looks at some of the primary causes and risks associated with the bullwhip effect. In a follow up article we’ll be looking at risk mitigation strategies to minimize the potential downside impacts of a bullwhip.

Inventory Levels:

Maintaining appropriate inventory levels is essential to ensure a smooth and efficient supply chain ecosystem that can absorb volatile market environments. Eurometal’s measure of EU flat product inventory in terms of delivery days displays significant inventory fluctuations. 

2023 inventory:

From an all time peak of 124 inventory days in December 2022, inventory levels collapsed to 63 days in March 2023. After a modest uptick resulting from Q1 buying, limited procurement during the March-June price decline has seen inventories again shrink. June’s official figures are not yet released, although market sources seem to be suggesting we’re in low-to-mid 50s territory, close to or perhaps even below June 2021’s record low. 

These digits are still up for debate, but with the market reporting limited forward order books on imports, from a historical perspective it's quite possible that there could be an entirely limited buffer stock in the supply chain.

Lead Times

Denoting the time interval between placing an order and receiving the goods, lead times represent another critical factor that can exacerbate the bullwhip effect. Late last week small pockets of HRC availability from EU mills were still existing for July, but with the impending August shutdowns, most mills are quoting September. Even a modest uptick in orders could rapidly extend lead times through September to October, and in some more particular product markets, beyond that. Such lead time expansion means delays in order fulfillment, and in turn could have a profound contributory effect to the amplification of demand / price fluctuations throughout the supply chain.

Finance and Lean Approaches Supply Chains 

In the midst of the pandemic, many voices called for the localizing - or at least regionalizing -  of supply chains, to build some local response capabilities to supply chain disruptions. But the fact is local steel is more expensive. And holding additional buffer inventory of critical steel costs money. Rising costs of financing inventory put a check on expensive acquisition, excess stock. Price volatility puts a check on inventory volume. Financial limitations and a prudent risk-aversion approach largely dictate lean inventory. Both realities are of concern when considering the metrics to the occurrence of a bull whip

Timing of the Peaks and Troughs of Steel Price Cycles

Regular market watchers will recognize that over the last decade, before the three years of price ‘madness’ witnessed during the pandemic, post pandemic, and conflict era, the bottom of EU flat product price cycles had an uncanny knack of occurring at the beginning of the summer, or the onset of winter as marked in the graph:

- June/July: 2013, 2016, 2017, 2018, 2020 

- Oct/Nov: 2015, 2019 

So, are we there again ?

Grey - Hot-rolled coil domestic, EXW Spain, €/tonne Yellow - Hot-rolled coil domestic, EXW Italy, €/tonneRed - Hot-rolled coil import, CFR main port Southern Europe, €/tonne Blue - Hot-rolled coil domestic, EXW Northern Europe, €/tonne Brown - Hot-rolled coil import, CFR main port Northern Europe, €/tonne

Absolute Prices and Mill Margins:

The decade’s deepest trough, of course, was 2015. Back then iron ore was trading in the $30s, coking coal in the $70s, while scrap was at EUR 150 Germany, and $180 Turkey.  HRC EXW Italy was EUR 280 mt. Even for the most efficient, the mill margin was extremely tight, if not negative. We’re nowhere near those levels of margin compression today, neither in absolute nor adjusted terms. But do mills have justification to complain in June 2023?

Internationally, steel input prices are rising:

- Iron ore is up >15% month on month. 

- Coking coal is up >7% in a week.

Meantime, output prices have been falling:

- EU Hot Rolled Coil (HRC) is down EUR 100 mt (13%) month on month; down EUR 165 mt (20%) if we consider the last two months. 

Whatever the industry, few converters celebrate periods of margin squeeze from price increasing inputs and price decreasing outputs. The observed trend is not sustainable over any length of time.

Indeed, perhaps in response, over the last few days we have seen Asian HRC price increases on both an FOB (Free on Board) and CFR (Cost and Freight) basis. The EU’s HRC import prices for supply from Asia and elsewhere to CFR Southern and Northern EU are also up in recent days by 1-2%. Might not domestic prices be expected to be firm ? If so, by how much, how quickly…? 

Compounding matters, EU mills are talking about extending summer shutdowns amidst a scenario of weak demand and the erosion of profitability. Indeed, supply discipline has been a mill mantra in recent years. Yet, whilst the mill margin story of June 2023 may not, of itself, be profoundly compelling, a simple snapshot view of the raw material element of that cost base - which is typically circa 65% - does provide enough food for thought about how we might, together with other signals discussed above, be nearing something of an inflection point in EU flat rolled pricing. And with such low inventories and potential for rapidly expanding lead times, might we get a bullwhip ?


China is never a caveat. It's always front and center. And as such it would be remiss not take China into a consideration of the direction of the EU flat rolled steel markets 

The Economist reports that Chinese growth is floundering. Indeed, that “some economists think the (Chinese) economy might not grow at all in the second quarter”. To many, that's an ominous sign of possible steel export surge. But Chinese HRC FOBs are rising, up 7% since May 31st. That price surge might be somewhat ‘political’, but near term at least points to an unattractiveness of China HRC export. And thus another supply constraint should EU demand pick up 

Concluding Remarks

Bullwhips can be mild / short lived, or, in sectors like flat product steel, with longer lead times and more complex supply chains to physical product deliveries than many, they can be profound and readily last 6-12 months. Our primary objective here is to examine supply chain conditions and consider those factors that could magnify prevailing price risk, including the bullwhip effect. While a full-fledged bullwhip may not be on the cards, clearly certain factors are present. And so it is, with recent price shocks still fresh in the memory, perhaps it's timely to reflect on the old school adage:  whilst we can't predict the future, we can prepare for it.