Stagflation - and now?

Inflation is galloping worldwide. This was triggered in particular by the war in Ukraine and its effects – primarily on energy prices. This war followed immediately after the pandemic crisis, which had already placed a considerable strain on many companies and thus on the economy as a whole. We are therefore currently in a similar situation to that of the 1970s, when OPEC's decision to reduce oil production led to skyrocketing prices and an economic crisis. Stagflation is therefore a combination of inflation and economic stagnation.

Since there is no economic policy remedy for this, central banks primarily combat inflation in order to fulfil their original task of ensuring price stability. Over the course of the last year, the ECB has already raised interest rates ten times, and the measures are having an effect. But it remains to be seen whether this will also break the dreaded wage-price spiral. Even if this succeeds, companies must prepare for a prolonged period of weak growth, as forecasts for the next two years are at best around 1.x.

But what are the levers that can be used to best prepare for this?

First things first: the looming ‘lean’ years also present an enormous opportunity to shed some of the excess weight accumulated during the fat years before Corona. That is why business leaders would be well advised to proactively tackle the necessary changes. Across-the-board measures, such as blanket budget cuts, are not effective and would almost certainly hinder growth, which will ultimately return, at best, or prevent it in the long term, at worst. At this point, we would like to mention the long-term shortage of skilled workers, which we already reported on in our last newsletter, ‘Consequences of the shortage of skilled workers on project work.’

It is clear that companies need to save money. But they need to do so in the right areas. But where are these right areas? This is often not so easy to determine. And precisely because savings have to be made, companies are reluctant to seek external expertise to help them focus their savings efforts in the right areas.

The ideal solution would be a triad of interrelated steps that would enable the future direction to be found with the optimal allocation of resources:

• Development of a competence strategy
• Savings through operational excellence
• Investment in innovation

This step is an addition to the usual strategy work, but is often not carried out explicitly. When upper management is asked about the core competences of their company, they often give quick, often very vague and unsubstantiated answers. A core competence can only be a core competence if it leads to a tangible competitive advantage. The ability to do something, be it certain production steps or product developments, are only core competences if they lead to market success. 

It is not the ability or the resource, but the strength of realisation that brings advantages over the competition and ultimately generates returns that is a genuine (core) competence. Identifying these competences requires a great deal of effort. But it is worth it. Because, as mentioned above, it would be a fatal mistake to make savings in a watering can approach. On the other hand, every manager can probably well understand that it makes sense to use the four areas of expertise (core, key, potential and basic expertise) to decide which savings or perhaps even investments should be made. 

Effectiveness and efficiency are the drivers of operational excellence. If quality is not considered a sub-variable of these two factors, it could be added as a third dimension. However, as it rarely offers scope for targeted savings, we will not consider it as a separate variable in the following.

Operational excellence can be achieved by first aligning the project portfolio closely with the corporate strategy. The competence strategy can be an important input variable for this. All projects are evaluated and ranked using clearly defined key figures, both business and strategic. Then comes the bold cut, in which all projects below a defined score are discontinued. This frees up resources and also leads to a reduction in complexity.

In the second step, the potential of the processes is analysed. The aim is to streamline the processes and consistently align them with the value stream. It is astonishing how quickly improvements can be identified and implemented when processes and their resource requirements are analysed in a structured and methodical manner. It is not a question of simply expecting more output from employees. Appropriate analyses show where non-value-adding work is being done or where work steps are being carried out that could be done more cost-effectively or quickly elsewhere. In well-positioned companies, there are usually no ‘big points’ that immediately lead to large savings. But ‘every little bit helps’ – the many small improvements add up to significant potential.

The final step is to look at the organisation. Assuming that some projects are no longer being pursued and work content has changed, it may be that the organisation is no longer optimally aligned with the company's goals. Whether agile working plays a role in this or not is ultimately irrelevant. Of course, Scrum & Co can improve both efficiency and effectiveness. But even without agility, flat hierarchies combined with short decision-making paths are desirable characteristics of a structural and procedural organisation that promote operational excellence.

It may sound questionable, but in a phase of recession it is particularly important to drive innovation forward. The reasons are obvious. Lack of market growth always leads to high price pressure. A programme to improve operational excellence can of course improve the cost position, but because Germany in particular is suffering from stagflation, the global competitive pressure will be all the greater. Therefore, the only solution is to move forward - differentiation from the competition through innovation must be strengthened.

Innovation management is a systematically structured process based on a funnel model. Many ideas and concepts must be generated at the outset in order to ultimately incorporate a few concrete projects into product development. Dedicated resources should be made available to manage this process until it is handed over to product development. An innovation board – comprising, among others, the heads of product development and product management – decides which ideas will be pursued in the various phases (comparable to the gates in PEP). This strikes a balance between creativity in idea generation and realism in product development.

The resources required to manage the process are covered by focusing on key and core competencies and improved operational excellence. Overall, consistent implementation of all programmes will result in significant savings potential.

Stagflation, or at least the consequences of it, will accompany the German economy in the coming years. Companies are well advised to prepare for this in good time and consistently. There are many adjustments that need to be made, but it is worth the effort. Contact us so that we can show you in a non-binding discussion how you can achieve good results quickly and in a targeted manner.