Catastrophic Change

As a rule, we project the future by looking at the past. We gather data from previous years; try to find a trend and extend that trend into the future. This is not bad way to work, but very occasionally we come across what mathematicians call catastrophic change — a situation where the past is no longer a guide to the future and things go horribly wrong.

Our industry has had more than its fair share of catastrophic changes. For example, in the 48 years from 1960 to 2007, U.S. garment consumption increased by an average of 5.6% per year[1]. In 2001 which was the very worst year consumption dropped by -1.1% (Up to 2007, this was the only instance when U.S. garment imports failed to register an increase over the previous year.)

In 2008 U.S. garment consumption fell by -1.4%, the worst year in half a century. This was followed by 2009 when U.S. garment consumption fell off a cliff and dropped by -3.6% — a totally unpredictable event and therefore a textbook example of catastrophic change.

What can you do when things fall apart?

The obvious answer is, you react quickly to minimize the loss.

However, let us assume that your lead time is 45+ weeks and your best reaction time to disaster is 4 months.

In that situation you have but two alternatives:

Alternative 1: The Pakistani Farmer Solution: accept that you are a victim of circumstances beyond your control. There is nothing you could have done to avoid the disaster, and once the disaster occurred there was little you could do to minimize the loss. This the same situation facing a farmer in Pakistan. He plants his seeds; irrigates his fields; and wakes up one morning to find himself and his crop under ten feet of water. He and the entire region are in the throws of a massive monsoon flood. There is nothing he can do. What is worse their were no steps he could have taken to avoid the flood.

In this regard there is little difference between the Pakistani farmer in 2010 and Saks Fifth Avenue in 2009. Both found themselves under ten feet of water. Neither could have predicted the disaster; and once the disaster occurred neither could do much to meet the challenge.

Alternative 2: The Greenland Eskimo Solution: make your decisions far in advance, based on relatively little data. Imagine you are an Eskimo living 500 miles north of Thule. During the long winter months you wile away your time as a day trader speculating in currency. You notice that this year winter in Greenland has arrived three weeks late and spring three weeks early. From this, you conclude that the prophets of doom are indeed correct and that our planet is in the throws of global warming. As a result you take your life savings and sell the Japanese Yen short. The logic is clear and ineluctable:

a. Global warming will bring increased floods and droughts.

which will

b. greatly reduce world food production

which will

c. increase food imports and the cost of those imports in countries which are unable to produce enough to feed their own people

which will

d. greatly affect Japan which is one of the countries most dependent on imported food.

which will

e. result in serious balance of payments problems

which will

f. cause the Yen to decline

which will

g. Make you rich if you sell the yen short

which will

h. Allow you to retire to Miami Beach

The logic is 100% correct. However, the reality is very different. Global warming notwithstanding, the Japanese Yen has just reached a 17 year high against the U.S. dollar which has

a. Forced your broker to demand more margin

which will

b. Bankrupt you

which will

c. Cause your bank to repossess your igloo.

Being a victim denies you the ability to minimize your loss. However decisions based on little data often leads you to move in the wrong direction, thereby exacerbating your loss.

If the onset of the great 2008-2009 recession was textbook case of catastrophic change, the end of the recession was an even greater example.

In June 2009, the decline in U.S garment consumption reached bottom and by December of that year, consumption was once on the rise.

U.S. garments imports followed a similar pattern, only four months later. Import declines reached bottom in October 2009 and finally reached positive territory in February 2010 — a classic example of the Pakistani Farmer Solution.

However, the situation then changed. Consumption increases which had been accelerating each month from January 2009 to March 2010, began to stagnate; while at the same time garment imports began to rise at an increasingly faster rate. As of June 2010 garment consumption had not yet returned to pre-recession levels, while garment imports were at record levels.

The garment industry had moved lock-stock-and-barrel into the Greenland Eskimo Solution. At the very moment when consumers are growing increasingly worried about the their livelihoods and economists are looking at the strong possibility of a double dip recession, garment importers and retailers are placing orders as if prosperity for all had arrived. There was no question: December 2009 looked promising. January 2010 looked good. February and March looked great. Based on this, importers and retailers placed the largest orders in the history.

I have no idea what the future will bring. Perhaps the recession is over. Perhaps retail sales will increase to match imports. And, perhaps the Greenland Eskimo will find his way to Miami Beach. On the other hand, I worry that like the Greenland Eskimo, we may be moving in the wrong direction, in which case the time may be fast approaching when the banks begin looking to repossess our igloos.


[1] http://www.bea.gov/national/nipaweb/nipa_underlying/TableView

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