The Chair offers you a summary of the first issue of the webinar series «Les entretiens de l'ECODEF», which dealt with the subject of defence investment.
To give its audience a better understanding of the economic challenges of defence activities, the Chair has organised the first webinar in a series entitled «The ECODEF talks». These webinars will present the results of the work of defence economics researchers in the form of interviews.
The first issue entitled «Defence investment: what contribution to make in the face of current economic challenges?» took place on Wednesday 7 July, from 8.30am to 9.30am. Olivier Martin (Chairman of the Steering Committee of the Chair in Defence Economics - IHEDN) put several questions to Julien Malizard (Deputy holder of the Defence Economics Chair - IHEDN).
The concept of strategic autonomy, which is unique to France in terms of defence policy, is reflected in economic terms (Fontanel and Hébert, 1997): a high defence budget, a proportion of R&D and equipment that is structurally higher than that of the European allies, and a defence industry designed with autonomy and sovereignty in mind.
In practice, Defence investment plays a major role in the French economy. In 2019, defence spending (equipment and operations), including pensions, will account for €44 billion, or 1.84% of GDP, while capital expenditure (acquisition and R&D) will account for almost 80% of government investment. These investments generate industrial activity, jobs (200,000 direct and indirect jobs in France in the DITB, i.e. more than 5% of industrial jobs in 2020), R&D and help to improve the balance of trade (over the last 3 years, a €7 billion surplus has been generated by defence).
With this in mind, the’he economic impact of defence is considered positive in France according to various works in the economic literature[1] since the defence multiplier is estimated to be greater than 1 (one euro invested generates more than one euro in economic spin-offs). This is a consequence of the special place that defence plays in public finances. Indeed, one explanation for the positive effect on activity lies in the composition of the defence budget (Malizard, 2013). Capital expenditure thus has a positive effect on economic activity (GDP) through technological spillover effects (Ruttan, 2006) and an improvement in private sector productivity (Goel et al. 2008), whereas the effect of operating expenditure (essentially wages) on activity is insignificant. This result is broadly consistent with those observed in the economic literature on multipliers in the United States or those linked to public investment. Furthermore, defence investment and private investment (Malizard, 2015) are complementary (no crowding out). Moretti et al (2021) show that a 10% increase in public defence R&D spending leads to a 5 to 6% increase in private R&D spending. At the industrial level, the estimated multiplier for the missile industry is[2] is greater than 3, thanks to the industry's self-financed R&D efforts and the large proportion of its business that comes from exports.
There are several reasons why the value of the defence multiplier is so important. Firstly, the risk of «leakage» in the economic circuit is limited because research and production processes are considered to be more national than in the civil sector: on average, public orders irrigate 80% of resident companies (Andrieu et al., 2021) and even 95% in the case of MBDA. Outsourcing of R&D is also lower in the defence sector than in the civil sector. Secondly, DTIB companies play a structuring role in industry thanks to their role as integrators and their ability to choose the most relevant players to help innovations emerge (Belin et al., 2019). Finally, the macroeconomic impact can be channelled through technological spin-offs, since many defence technologies have been redeployed in the civilian sphere (Mazzucato, 2015) or have been at the heart of the growth process following the 2nde The potential for technological spinoffs from the world wars (nuclear power, microprocessors, computers, the Internet, etc.). Figure 3 illustrates the potential for technological spin-offs.
Finally, the exports play a major role in France's economic potential. Belin (2015) shows that DITB firms have higher value added rates (42.7% versus 40%) and export rates (15% versus 10%) than civilian firms. Using a broad definition of the DITB, in particular dual companies, Moura and Oudot (2017) indicate that 20% of French exports are defence-related, which is consistent with France's comparative advantage in aerospace. At the level of individual firms, exports make it possible to supplement national orders and thus guarantee the skills required to meet the needs of the French armed forces, but also to finance R&D programmes.
The discussion between Olivier Martin and Julien Malizard was followed by a sequence of questions / answers The main findings are set out below (some of the responses below expand on the answers given at the meeting):
- One of the positive effects of defence is peace and security, and support for the industrial fabric and R&D is an objective to ensure a form of industrial sovereignty. I can only dream of the demonstration that State spending on defence could have a positive fiscal effect, but why isn't this the case with 15 billion in acquisitions?
The total volume of acquisitions by France cannot be taken into account because it is considered that France will always have to finance these defence materials, either mainly from French industry if its existence is ensured by the financing of the corresponding R&D, or from foreign suppliers if this R&D is not financed (Martin, 2013).
Q. How do you explain the reluctance of banks to finance and support the DTIB?
R. There are many reasons for this. Without going into this complex debate, which will be the subject of a forthcoming webinar, it should be noted that, due in particular to major societal changes, banking establishments no doubt still see the same positive aspects in supporting defence activities, but may see the negative aspects becoming more pronounced. It is therefore important for the players involved in this area to get closer together to gain a better understanding of the issues involved in industrial defence operations.
Q. What is behind the DTIB's strong economic performance (VA, exports, etc.)? Is it the influence of R&D?
R. The economic literature shows an unequivocal relationship between the performance of companies and their capacity for innovation, often measured by R&D expenditure (the innovation process being more difficult to assess). The importance of R&D is crucial when competitive pressure is strong. Two elements specific to defence should be mentioned:
- Defence players concentrate a large proportion of innovation resources in France (Belin et al., 2019 or Moura and Oudot, 2017).
- DTIB companies are central to the «national innovation system» because they are at the intersection of multiple entities (private sphere, public laboratory, universities, etc.) and their ability to capture innovation is preserved by their investment in fundamental research (Belin et al., 2019).
There are several reasons for the DTIB's strong economic performance. These include
- the increase in defence budgets seen for several years, and even more recently in Europe.
- growth in the export market, where France's share has increased in recent years.
- but also a well-functioning defence ecosystem where solid processes ensure good overall control of programmes, strengthened relations between prime contractors and their supplier base, as seen again recently during the COVID crisis, and effective action by government departments in relation to arms exports. Of course, progress can always be made to improve the competitiveness of companies, but the French system provides a range of defence products that are generally high-performance and therefore competitive on the export market, which is a major source of growth in sales and profits.
Government investment in R&D, possibly supplemented by investment from industry, is making a vital contribution to this success, both in terms of the development and maturity of future technologies and the development of manufacturers' future product offerings.
Q. Do you have a macroeconomic assessment of the relationship between defence industry turnover and the number of jobs in the industry (differentiating perhaps between production and engineering)?
R. We are not aware of any general studies in this area, the main difficulty being to identify defence-related jobs within the industrial world. These data are already difficult to determine for manufacturers with dual activities. While it seems easier to determine this for pure player In defence, measuring the number of jobs in their own supplier bases, which often accounts for a significant proportion of the total, comes up against the same difficulties.
We can, however, cite a study carried out several years ago (2013) by MBDA on the workforce in the missile industry, based on a detailed analysis of its tier 1 supplier base, and in some cases even tier 2. This revealed that development and production activities corresponded to an average turnover of €200k and €110k per employee respectively.
Q. What is the impact of Industry 4.0 on the evolution of the economic benefits of defence investment?
R. Industry 4.0 technologies encompass all the practices associated with the digitisation of the value chain throughout the product life cycle. This includes technologies such as Big Data, the Internet of Things, additive manufacturing and robotisation. These have and will have a major impact on the design and production process for defence equipment (Droff and Rademacher, 2019). However, to date, no study has specifically looked at the impact of the spin-offs of technologies associated with Industry 4.0. In the civil domain, it seems that no major trends are emerging at the macro level (Acemoglu and Restrepo, 2019).
Q. Can you imagine a significantly lower economic return for European funding (EDF?) given the partnerships imposed, or can we expect other European prime contractors to return to our subcontractors?
R. The economic return is generally measured by comparing the financial effort made by the customers and manufacturers concerned with the value of the studies carried out thanks to this funding. As far as the economic return on EDF funding is concerned, the answer to this question is still difficult to give. However, the following points can be highlighted as initial indications:
- as studies carried out in cooperation are generally less «effective» than those carried out in a traditional prime contractor-subcontractor scheme, the return on EDF studies will automatically be less effective if the countries participating in this study consider EDF funding to be a substitute for, rather than a complement to, domestic funding.
- If EDF budgets supplement domestic budgets, their economic return will then depend on three criteria which are still under discussion: the amount of the share of the indirect costs of manufacturers not covered by EDF studies, the intellectual property rules applicable to the results of these studies, and any rules imposed on the use of these results in export operations.
On the other hand, in the best-case scenario, the use by participants of all the results of EDF studies, even though they have only financed part of the costs incurred, should lead to a positive economic return.
Finally, if this EDF funding ultimately leads to the creation of European champions capable of competing on the world market, the economic result will obviously be very positive.
You can watch the entire debate in the webinar replay, available at here.
[1] Study by researchers at the Cercle des économistes (2017): The multiplier is equal to 2 in 10 years in France (i.e. for 1 billion in spending, there is 2 billion in additional economic activity in 10 years).
[2] Tax multiplier equal to the ratio between the direct or indirect tax benefits of the missile industry in France and the amount of government R&D funding received by the industry (Martin, 2013).
Bibliography :
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Andrieu Y.-M., T. Aunay and S. Moura (2021), Les entreprises fournisseurs de la défense : 18 Mds € d'achats en 2020 aux entreprises résidentes, EcoDef n°182
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Belin J., M. Guille, N. Lazaric and V. Mérindol (2019), Defense firms adapting to major changes in the R&D funding system, Defence and Peace Economics, 30(2), 142-158
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