Massive modularity: Why reshoring supply chains will be harder than you may think

Recent supply chain disruptions and shortages have driven several national projects to reevaluate global value chains (GVCs) with a view toward reducing vulnerabilities, especially to national security. The ease with which the Trump administration was able to deny Chinese firms access to critical components and equipment has redoubled a long-standing effort in China to develop national industries less dependent on American technology. Most recently, the Biden administration has completed an urgent review of U.S. supply chains, initially for large capacity batteries, essential minerals, semiconductors, and pharmaceuticals, and has also concluded that the United States is too dependent for “critical inputs” on a small number of firms and countries.  A task force is being assembled to formulate a policy response. Europe and the Republic of Korea have also launched initiatives to strengthen domestic production of critical inputs, especially semiconductors, that have been in short supply recently.

A central assumption in all of this is that the classic industry GVC is the relevant unit of analysis, where each “lead” firm organizes a pipeline of suppliers (its supply chain) to produce a good or service.  Given recent tensions, the global nature of supply chains has become clear and the nationality of both lead firms and suppliers suddenly matters a great deal. The assumption of a linear “global chain” appears to be shaping policy responses as well: supply chain vulnerabilities can be reduced by identifying bottlenecks for critical inputs (as opposed to generic inputs that can be multiply sourced) and incentivizing investment in more domestic production.

Our research on the evolution of the mobile telecom industry calls into question the wisdom of over-relying on the “chain” metaphor and focusing too narrowly on supply chain bottlenecks.  In a growing number of industries—including semiconductors, digital services, telecom, and potentially pharmaceuticals and automotive—supply chains are evolving into complex massively modular systems (MMS) involving many layers of specialized and highly technical inputs to final products and services. Within each layer, the depth of knowledge required to compete at the global frontier creates high barriers to entry, and successful firms often dominate in their segment. Between each layer, standard interfaces allow the individual layers to become Lego-like modules of a broader system._[1] As a result of rapid technical progress, these systems are continually growing deeper (as more functions are added) and broader (as dominant firms within each layer develop richer ecosystems).

In a global economy comprised of conventional GVCs, it is easy to identify the critical inputs and bottlenecks that create vulnerability to disruption. But in industries characterized by massive modularity, this becomes extremely difficult for several reasons. 

First, the deep capabilities, and in some cases requirements for massive and ongoing capital investment, mean that existing suppliers are difficult to replace. Mastering, keeping up, and successfully competing in all modules in all layers of the broader system is impossible for any single company. 

Second, the ecosystem of firms contributing to the technical evolution of each layer often numbers in the hundreds and are commonly globally distributed. Recreating these ecosystems within the borders of even the most technologically sophisticated country is a second impossibility. 

Third, the standard interfaces that allow modules to be interconnected into larger systems—the binding force in massive modular systems—come in various flavors: de jure, de facto, proprietary, open source, and regulatory. They appear in multiple layers of the system, creating a repetitive pattern of modularity, nested standards, and geographic specialization in dozens of layers and niches, reminiscent of the mathematical concept of fractals. Each layer, niche, and segment might have its own standard-setting organizations and processes, dominant players, platforms, open-source communities, and regulatory requirements.  The result is a massive global ecosystem system that is, as a practical matter, impossible for a firm or country to fully withdraw from.

Finally, the modular nature of industries means that the path of innovation is highly dynamic, with features being continually added to create new functionality, and innovative companies building new products and services to ride “over the top” of existing systems, standards, and infrastructure. The result is a system rife with interdependencies and vulnerable to short-term disruption, but highly resilient in the medium term, as most firms can eventually find alternatives and work arounds, unless they are specifically targeted and excluded from participation in the MMS.

In sum, it is hard to imagine how recreating a massively modular industry at home could be a viable strategy for any nation, or how identifying a few “critical inputs” can assure security. Not only can the number of “critical” inputs rapidly accrue in the hundreds, but the deep interdependencies between system layers raise the risks of unintended consequences, making the policy challenge that much greater. 

For related discussion, read Why policy makers should pay attention to the concept of massive modularity: The example of the mobile telecom industry

The background research for this blog is supported by the KDI School of Public Policy and Management (KDIS) Partnership Trust Fund