1. The UK defence industry is distinct from other industry sectors on two main grounds. Government is its single biggest customer, and access to its technologies provides a vital element of our defence capability, in terms of security of supplies and support for weapons systems deployed in operations. There are also significant industrial factors making the defence industry one of the UK's most important sectors. It is responsible for the employment of 400,000 people in 11,000 companies, 10% of the UK's industrial manufacturing workforce.[1] The industry exports 30% of its output, and in 1997 won 23% of the world defence export market.[2] In terms of added value, UK defence industries are said to convert £1 worth of raw materials into £10 of product.

2. The previous Defence and Trade and Industry Committees examined Aspects of Defence Procurement and Industrial Policy in 1995,[3] prompted by a number of concerns but principally by the increasingly dominant position of US defence manufacturers in a shrinking global market. The essentials of the problem were:

• with the end of the Cold War defence budgets in many countries had been falling, including budgets for procuring defence equipment and defence research and development. The impact of this had been amplified by inflation for successive generations of equipment continuing to outstrip general price inflation;[4]

• faced with shrinking domestic markets, US manufacturers—with pressure from the US government—had reduced capacity and increased efficiency and competitiveness through an extensive series of mergers, and had begun to adopt more aggressive export strategies;

• the combined effect of these developments had been to make US defence equipment relatively less expensive for Defence departments in other countries, who were increasingly faced with the dilemma of having to choose between buying US systems for financial imperatives, or domestic products to protect strategically important technologies and for 'industrial' reasons;

• increasing concern in the UK about its ability to continue to supply certain key strategically important products.

3. As then, the solutions for the UK and other countries in Europe now require measures on a number of fronts, to improve the economic picture in the face of competitive pressure from US firms. This involves tackling both the demand and supply sides of the market equation, which are inextricably linked.[5]

On the demand side:

• The Government could assess equipment bids from UK manufacturers on the basis of what might be the most cost-effective purchasing in the long term, recognising that if UK firms do not win orders they might go out of business, and with less competition subsequently prices may be higher in the longer term.
• MoD and defence departments of other countries could harmonise more closely their requirements for defence equipment, in terms of the performance capabilities they seek, so that countries might collaborate more on specific equipment projects. In this way production runs would be longer, with the greater economies of scale producing downward pressure on unit prices.

On the supply side:

• Governments could help dismantle obstacles preventing firms linking-up across national boundaries to rationalise their operations and secure economies of scale—the lower prices might then be passed on to customer defence departments.
• UK and other European governments could take steps to secure open markets for their defence manufacturers, allowing larger quantities to be produced for both export and domestic markets, and thus reducing the average price of each item of equipment.

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4. The trends highlighted in our predecessor Committees' 1995 report have continued, adding further to the urgency needed in tackling the unfavourable position described in paragraph 2. In particular, mergers in the US have continued, producing industrial 'giants' (Figure 1). In December 1997 the governments of the UK, France and Germany called for restructuring plans from their aerospace and defence electronics industries, signalling a more determined drive to reorganise the defence industries in Europe to compete on more favourable terms with the US.[6]

Figure 1: The largest defence manufacturers, 1996.

The 10 largest:

Source: Defense News

5. This is an opportune moment, therefore, for the Committees to return to these issues. Jointly, we took oral evidence from MoD and DTI Ministers (Lord Gilbert and Mr John Battle MP), and industry representatives—including the Defence Manufacturers Association (DMA) and the Society of British Aerospace Companies (SBAC)— and written evidence from many quarters—from industry, academics, trade associations, embassy officials and others. The Defence Committee had discussions with representatives of NATO and the WEU (including the Director of the Western European Armaments Organisation) on a visit to Brussels in January. We wish to thank all those who provided evidence.

2  Presentation by Head of Defence Export Services at 1998 DESO Symposium, 3 March 1998 Back

3  First Reports from the Defence and Trade and Industry Committees, Session 1995-96, Aspects of Defence Procurement and Industrial Policy HC 61/62 Back

4  Professor Hartley of the University of York notes that the real unit cost of combat aircraft has risen by 10% a year since 1945, so that cost doubles every 7 years, Ev p 59 Back

5  GEC-Marconi said that progress on one side was unlikely without progress also on the other (Ev p 63) Back

6  Trilateral Statement, 9 December 1997 (MoD Press Notice 208/97) Back