A couple of weeks ago I did a piece on Black Swans involving some technical stuff on risk management, and someone asked if there was more. Well indeed there is ... and this morning I'll pick up on some of the issues raised by our discussion on attempting to envisage some rational basis for determining a logical quantum of self-sufficiency or, as Mark Wadsworth put it, the "efficiency vs reliability" debate.
We can readily agree that full self-sufficiency is an implausible national goal. It lay at the heart of North Korea's Juche *philosophy*, and look where that got them, even as they remain dependent on China for all manner of important things. As one of our esteemed Anon's said BTL, "... trade vs self sufficiency, surely it's not an either/or proposition?
The sin would appear to have become so reliant on single sources, which has many sources of blame, including the 'lowest price' mentality".
In normal times, it's positively beneficial to procure almost anything from multiple sources. When one lets you down, the likelihood is another will come good. Plus, you tend to get better prices because (a) you shop around and obtain good price discovery; and (b) suppliers quickly find you're not a mug. (Obviously, if we thought to add Australia to our list of toilet-roll suppliers, the transportation costs would overwhelm the benefits of competition in that particular case.)
The price benefit can be real enough, but just as important is the risk-management principle involved - diversification, sometimes known as the only free lunch. Describing it technically, we are relying on the variables of failure of each source of supply as being less than 100% positively correlated. The maths involved here is Portfolio Theory, and it's an exceptionally important principle - at its simplest, well known thoughout the ages. You can find it in the Bible (Ecclesiastes 11:2, v6), Shakespeare (Merchant of Venice); and Churchill famously stated "Safety and certainty in oil lie in variety and variety alone". (He was referring to his policy of sourcing oil for the Admiralty from more sources than just Persia, which had been the case in the early years of RN steamships.) Not my job to advise anyone on personal investment, but everyone needs to bear it in mind: it has a role to play in every portfolio, large and small.
The second part of Anon's comment was also on the money. "Perhaps it's time to start have rules on what %age of a good can be sourced from a single, foreign, nation or economic bloc? Security, after all, comes from plurality. Self sufficiency just changes *who* can take you hostage, rather than remove the threat.
Add to that a minimum amount sourced internally, even it means having a nationalised source, with the capability of scaling up where possible, allows for flexibility and security of materials?" This is exactly what happens in a good commercial risk-management regime - rules such as "no more than 20% of our business with a single counterparty" are instituted. Quite a lot of valid maths can be put into this, to come up with something "optimal" - under a given set of assumptions. The key, of course, is to price in the risk, to counter Anon's issue of going for the lowest (nameplate) price. We may return to risk-pricing on another occasion, if we've the appetite for even more technicalities (when we've nothing better to do in lockdown ...)
A free lunch ... but when the custard really hits the fan, variables that were heretofore less than perfectly correlated suddenly become highly correlated, all in the same direction - downwards. If Tesco has run out of toilet paper, so too has Sainsbury - and it ain't a coincidence. At this point the maths no longer helps us, and we're down to inventory, improvisation, *requisitioning*, sauve qui peut ... and ultimately, privation.
Thus far, Covid-19 has mostly exposed lack of diversification in medical supplies of various sorts. There's every reason to believe that, as the months wear on and the tide recedes still further, we'll find who's been swimming without trunks on a lot more beaches. Starting with food ..?