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Enabling the Supply Network

As discussed before, although traditional value chain strategic thinking is based on the imperfect competition economic model, it neglects at least one element of this model: the influence of externalities. Buchanan defines externality as the cost or benefit that affects a party who did not choose to incur that cost or benefit.12 Whether casual or not, this made no real difference in the 1980s when the Five Forces Model was proposed or in the following decade. But since the new century, the business environment has seen the intensification of the effect of externalities which has determined shortened economic and business cycles, as mentioned before.

Given the expansion of players that influence the supply network of which a firm is a part, and because many of these players are influential enough to be considered stakeholders, there is a multiplying effect of externalities within the wise competitors. This massive effect of externalities is associated with the reduction of suppliers’ bargaining power, the reduction of barriers to entry in the markets, and the reduction of barriers to create substitute products or services, as explained previously, disabling any competition theory (perfect or imperfect) from explaining the new economy business environments.

Game Theory

The application of game theory was presented as an alternative to understand the brand new dynamics of supply networks. Game theory is a study of strategic decision making.13 Specifically, it is “the study of mathematical models of conflict and cooperation between intelligent rational decision-makers” (Myerson 1991). Several types of games address dichotomies, such as the following:

  • Cooperative versus noncooperative, which refers to communication between the players
  • Symmetric versus asymmetric, which discusses the influence of each player’s strategy on one another
  • Zero-sum or nonzero-sum, which tests the dispute for resources
  • Simultaneous versus sequential, which defines the rules for each strategic movement
  • Perfect versus imperfect information, which discusses transparency and visibility

Some applications treated the decision-making process with uncertainty (Neumann, et al. 1944). Other applications include describing, forecasting, and explaining the patterns of the economic behavior of firms, markets, and consumers.14 The principle behind game theories is “the interactions between individuals or groups of people whose goals are opposed, conflicting, or at least partially competing” (Chinchuluun, et al. 2008).

Although several groups around the globe are studying game theory as applied to supply chain management and despite the fact every day a new algorithm is formulated to explain several interactions within internal and external players, the establishment of a coalition (connection between players) depends on fixed rules defined by logical restrictions. The premise is these rules define the interactions in the long term.

But don’t we all know the relationship between supply networks elements are subject to so many variables that cannot be modeled for the long term? Maybe game theory has found valuable applications for several interactions within any two very close elements in the supply network. But, how about the interaction between these interactions? And what if logical rules such as purchasing agreements, service level agreements, and contracts in clauses change? How do I measure the impact on the supplier of my supplier or on the customer of my customer?

The complexity of modern business environments is tremendous and the variables that qualify this complexity are always assuming new shapes. This is an ever-changing complexity that disables consistent forecasting efforts. So, how do we forecast the unpredictable?

Chaos Theory

Not only has game theory been recently tested on the supply chains that form fluid and complex supply networks. The unpredictable nature of supply network interactions attracts chaos theorists too.

Chaos theory studies the behavior of dynamic systems that are highly sensitive to initial conditions,15 such as the existing value chain design illustrated in Figure 1.1. Small differences in initial conditions yield widely diverging outcomes for such dynamic systems, rendering long-term prediction impossible in general (which leads to the unpredictable nature of the supply networks illustrated in Figure 1.15).

This happens even though these systems are deterministic, meaning that that their future behavior is fully determined by their initial conditions, with no random elements involved (Kellert 1993). In other words, there are defined strategies, policies, practices, and procedures in any element of this system, yet it is impossible to predict its behaviors in the long time. Does this look familiar to supply chain management professionals?

Lorenz defined chaos as when the present determines the future, but the approximate present does not approximately determine the future.16 Therefore, if the very near future is known to be slightly different from the present, then the future is unpredictable. The authors have selected some processes within the fluid and complex supply network that may eventually show this behavior: supplier’s performance, manufacturing yield rate, sales forecast, haulers performance, import cycle time, distribution adherence to delivery schedule, 3PL performance, and IT integrity, to mention a few.

In the long term, any strategy created in recent decades was known to be obsolete. In recent years, any strategy created was known to be obsolete much sooner. In the near future, any strategy created will be known to be obsolete even sooner.

The movement toward the use of game theory and chaos theory in the management of networks of supply chains indicate the global community has understood the real nature of this new environment. Predictability is no longer the most important agenda. Concepts such as responsiveness, resilience, flexibility, and agility must be tangible to the daily management of the organization as the only mechanism to deliver value to shareholders and stakeholders. The ultimate strategy capable of transforming these concepts into executable routines is long-term knowledge management. The introduction of knowledge management redirects organizational behavior and realigns its route toward competitiveness.

Figure 1.20

Figure 1.20 Nature of the business environment

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