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December 14, 2017
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Shifting dynamics

Comment
Demand is likely to remain depressed, but with flat fuel costs and retail expansion in developing markets, that could change.

The end of the great recession marked the beginning of a slowly unwinding recovery for most of the world's economies and industries. By and large, we have seen increased volumes of cargo carried by most transportation modes in most regions. However, the recession has created a systematic, short-term shift in demand for one mode: airfreight. While the airfreight market will continue to be dominated by the relationship between supply and demand over the short term, the outlook for the industry will also be influenced by the changing footprints of manufacturing and retail consumption in developing markets.

Over the past year, rate volatility has increased in the airfreight market. This was driven in part by the push to fulfill demand for the latest, must-have electronic devices during headline-generating releases. Overall, however, capacity has grown at a faster rate than has cargo; despite gyrations in the spot markets, shippers find themselves paying rates today that are similar to those they were paying a year ago. It appears this trend will hold true for the next year. One reason is that more capacity is expected to come online to serve the passenger segment (and with it, more belly space). Another is that fuel prices—one of airlines' biggest costs—are projected to remain flat for the foreseeable future, steadied by technological advances in the extraction of oil and changes in demand for petroleum products.

Article Figures
[Figure 1] Infrastructure quality in manufacturing growth markets
[Figure 1] Infrastructure quality in manufacturing growth markets Enlarge this image

Demand pressures for airfreight services are likely to remain dormant coming out of the recession. The dominant attitude among global shippers now is that airfreight is a premium service in a low-cost world. A mode shift to ocean freight continues even as ocean experienced dramatic rate fluctuations during 2012. While this is not a new phenomenon during economic downturns, the typical return of volumes from ocean to air that we would normally expect to see in a recovering economy has not yet materialized.

Some degree of rate volatility is likely to continue as spiky demand patterns persist in the consumer electronics industry, but shippers can expect that rates will continue at historically low levels, with some event-driven capacity issues on a limited number of lanes.

Some rays of hope
Despite this depressed outlook, the future does offer some rays of hope for the industry. New manufacturing capacity is pivoting away from China and its extensive multimodal transportation infrastructures. According to the 2013 Global Manufacturing Competitiveness Index, a report issued by the Council on Competitiveness, China remains the top base for manufacturing. However, India and Brazil are becoming more desirable manufacturing locations. New players like Indonesia and Vietnam are also becoming manufacturing hubs capable of providing low labor costs.

These shifts will benefit airfreight over the short term, as these countries are well behind China in the development of critical transportation infrastructure like roads and ports. As shown in Figure 1, the World Economic Forum measures the road, rail, and port quality in these up-and-coming manufacturing locations as being well below those in China. However, the airport infrastructure in these new manufacturing bases is more closely aligned, in terms of quality and capacity, with the air infrastructure in China. Infrastructural inefficiencies with respect to rail, roads, and seaports in these new manufacturing bases mean that ocean transportation does not offer the same value proposition relative to air service there as it does in China.

On the consumer front, China, Brazil, and India remain very strong opportunity markets for global retailers, according to A.T. Kearney's 2013 Global Retail Development Index report, while Chile and Uruguay join Brazil as the top three prospects primed for immediate expansion.

Growth in retail consumption in South America and Asia benefits all players in the air transportation industry. More balanced cargo flows should improve yields and utilization, bolstering profitability. The industry's underlying cost structure will also be lower, creating an opportunity to deliver lower rates for shippers even on head-haul lanes.

Over the short term, the forces that have guided the industry post-recession will continue to prevail. With additional new capacity, depressed demand, and a lack of inflationary pressure from fuel costs, airfreight pricing should remain volatile but trending at historical lows for the near term. Manufacturing and retail trends will change the dynamic in the industry over the long haul and will contribute to a more stable, less costly global air cargo network, to the benefit of both shippers and service providers.

Joshua Brogan is a vice president in the Analytics practice of A.T. Kearney, a global strategy and management consulting firm.

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