Inflation hurts everyone: consumers through higher prices and interest rates, suppliers through higher risk, and shareholders through lower returns.
Between March 2021 and March 2022, the consumer price index (CPI) rose 8.5% in the U. S.—the highest rate since 1981. And there is no reason to assume that inflation will fade away quickly.
Indeed, business leaders around the world are saying that they regard it as “permanent enough” to demand their attention. But few know how to cope: In the United States, the last time inflation was this high was four decades ago. To manage it, business as usual will likely not be enough. It’s time for leaders to develop a playbook with new strategies directed at specific areas.
First, leaders have the chance to transform procurement by treating it as a core part of value creation, not just a matter of cost control.
In a world rife with supply chain shortages, traditional procurement approaches don’t always work. The best procurement leaders have embraced a strategic role, deploying different strategies to suit their needs.
For example, in response to higher labor costs and higher prices from suppliers, one electric utility team partnered with other functions to redesign engineering and construction workflows to cut operating costs. When an electronics company ran into difficulty delivering products from Asia, it rethought its logistics and geographic sources by expanding production to the U.S. and Mexico.
Vertical integration is another option. Retailers are making acquisitions to control more of their value chains for key products. Automotive manufacturers are contracting directly with foundries to reserve capacity.
Business leaders should also consider investing in technology and process automation. New cloud-based business models can allow for flexible scaling of capacity when and where needed.
Then, there is pricing–and strengthening customer relationships. Passing on higher costs is nobody’s idea of a good time, but it may be less painful when companies work with their customers to help address common problems and inflationary pain points.
That may sound utopian, but there is a track record for this kind of strategic repricing. A manufacturing company facing a surge in demand for high-cost, low-volume products lengthened lead times for products with lower margins. Sales teams encouraged customers to opt for more standardized alternatives. The result was an overall increase in productivity that maintained margins without price increases.
Even when higher prices are inevitable, working with customers can still be valuable. When a consumer durables company realized it could no longer withstand cost pressures, it analyzed market conditions and communicated the facts to its customers. This enabled it to raise prices without damaging its relationships.
Finally, there is talent. The cost of switching jobs, as well as the stigma attached to employment gaps, is declining. Employees reported that they can find work when they are ready and are not willing to put with up with uncaring leaders or dead-end roles. These are among the factors behind stubbornly high quit rates in the United States–and thus fast-rising wages.
Competitive pay is essential, but far from enough. To attract and keep talent, leaders must focus less on control and more on culture and connection. A genuine sense of purpose and belonging could help make their company a more attractive employer. Companies with strong cultures not only offer a better environment for employees, and they also deliver significantly greater returns to shareholders. Culture could also be part of an internal anti-inflation strategy: High turnover is expensive.
Instead of just doing exit interviews, for example, consider doing “stay interviews.” Ask people about their aspirations, concerns, and day-to-day experiences. Employee desire for continued flexibility is strong, so be willing to experiment with scheduling, staffing, and hiring.
Some people are still going to leave. When seeking new talent, it may be possible to recruit a wider range of candidates by defining and redefining what is truly necessary to get the job done. Think skills, not degrees.
Coping with inflation must be a company-wide strategy if leaders are to break down internal barriers and bring cross-functional expertise together. This could be done by creating “nerve centers”– flexible structures with enterprise-wide authority to test approaches and coordinate a unified response.
Many companies adopted this approach when COVID-19 hit, and these efforts helped them to reinvent themselves faster and more thoroughly than they once thought possible. An inflation nerve center could be just as effective, by concentrating the organizational capabilities required to get ahead of events. Think more strategic action and less firefighting. Monthly business reviews or quarterly supplier workshops are not enough to deal with fast-moving events.
It is possible to get an inflation nerve center up and running in a matter of weeks, and the results can kick in quickly. For example, it could improve the pace and quality of decision making by noting when certain thresholds are met and then generating responses.
For an inflation nerve center to work, CEOs need to act as the “integrator-in-chief,” pulling operations together to orchestrate a unified response. There are a few key steps that CEOs—and only CEOs—can take:
- Communicating a clear mandate and a set of specific goals.
- Naming a senior leader to coordinate the nerve center.
- Insisting on a fact-based approach to track results, make corrections, and identify successes (and failures).
- Selecting a team from different functions who are able and willing to act.
- Empowering this team to act, and accepting that mistakes will likely be made, given that many decisions will have to be taken in the face of uncertainty.
“Permanent enough” inflation is a threat. To fight back, the time to create a new playbook is now.
Asutosh Padhi is McKinsey & Company’s managing partner for North America and is based in Chicago.
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