The Restructuring of the
International Arms Industry
J Paul Dunne, Maria Garcia Alonso,
Paul Levine, and Ron Smith
UWE, Kent, Surrey and Birkbeck
http://carecon.org.uk/Armsproduction
Context
• Declining military spending and
procurement
• Peaked in mid 1980s fell gradually and then
rapidly
• Arms trade halved mid 1980s-90s
Context
• Production for military not homogeneous
– Large and small etc
• Features:
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Concentration of production
high fixed R&D costs
steep learning curves
mes large relative to size of market
problems when demand declines
Context
• Particular characteristics of major weapons system
production have led to rather particular corporate structures
• Role of government: whether private or public
• Difference from civil
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Performance rather than cost
Risk borne by govt
Elaborate rules and regulations
National ownership
Incumbents favoured
Considerable barriers to entry and exit
Need to get funds out of government rather than produce for
market
End of Cold War
• End of Cold War
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quantitative change in demand: bottomed out
qualitative change in demand
hangover from previous designs
technology: spin off to spin in
national DIB infeasible: structural disarmament
changes in government policy to DIB
Revolution in Military Affairs
Government dilemma
• Introduce Competition
– reduce prices
– problem maintain competition
– problem maintain innovation
• Tension between benefits of scale and
competition
• Problem of security of supply?
Corporate Options
• Firm responses
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convert
diversify
cooperate
concentrate
internationalise
Company Changes
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Systems integrators
Subcontracting
International supply chains
Cross ownership, joint ventures
Hollowing out: role of finance capital
Spin in rather than spin off: COTS
Intra network trade
Marketing and lobbying
Restructuring
• US Defence Mergers
• Concentration evident
• European restructuring different
– Ownership differences
– Still consolidation
– Requires cross country mergers
• BAE systems
• EADS
• Thales: Racal
Restructuring
• Continuing concentration but not so much to
reduce capacity as to gain new capabilities
– Ended for majors
– Still going on for smaller companies
• New companies joining club
– IT, electronics
• Govt attitude changes:
– US concerns home production
– EU concern for industry
restructuring
Explanations of Concentration
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Structural models: SCP Paradigm
Managerial/institutional:
Statistical/dynamic: Gibrat explaining?
Strategic interaction: game theoretic models
sensitive to assumptions
• Particular nature of arms industry
Understanding concentration
• To investigate the concentration we have
used three approaches:
– Abstract structural model of global arms
market: See other papers
– Bounds approach to market structure
– Statistical approach
• Consider the last two here
Observations
• Decline in market means expect increase in
concentration
• Proportionate decline in milex less than
decline in number of equivalent firms.
• So decline in demand not full explanation
for reduced no. firms
• Fall in R&D less than decline in milex so
fixed costs have risen
Bounds Approach
• Sutton Bounds Approach:
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game theory
statistical assumptions
sub markets
lower bound on concentration
Explanations of Concentration
• Sutton approach
– degree of linkage with submarkets: defence low
because government controlled
– elasticity of fixed and sunk costs to quality:
defence low because high R&D
Evolution of Concentration
• SIPRI company database
• Sample top 100 1990 on
• Expect increase in concentration but what
we get is very large
– Herfindahl index doubled for arms sales, bit
less for total
– Lorenz curves concur
Evolution of Concentration
• Concentration
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top5 22%-42% arms production 1990-2000
Sutton lower bound 20%
Others close to lower bound
Total sales more concentrated and increase less
33%-40%
Evolution of Concentration
• Expect increase in concentration following
fall in demand but this rather large
• Suggests nature of market concentrated:
– like pharmaceuticals civil aerospace
• National government’s policies have
prevented inevitable concentration
Evolution of Concentration
• Expect to find that growth of firms:
– showed no clear pattern that suggested
strategic success of companies
– rather a general change across the whole size
distribution
– adjustments to declining demand not leading to
unhealthy industrial profile
Evolution of Concentration
• Analysis of growth rates
– fall in arms sales not reflected in total sales
– suggests not leading to unhealthy market
• Transition matrices
– most exit medium to small size groups
• Corporate strategy and success
– most converters (declining arms sales and
increasing civil) with decreasing arms share
Growth and Size
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Law of proportionate effects
Basic model: log Sit =  +  log S it-1
Econometric problems
Country effects
Results
• In both arms and total sales  not
significantly different to 1
• Total equation fits better
• Some significant country effects
• No specific US effect but further work…
Conclusions
• End of Cold war industry restructured
• Arms industry relatively unconcentrated
– close to lower bound
• Reason: government national procurement
• Decline market and rise R&D intensity led
to increase in concentration
• Still a way to go
Conclusions
• Preliminary econometric analysis did not
reject hypothesis that rate of arms sales
independent of initial level for companies
• Important difference between US and
Europe need further investigation
– US restructuring continues
– EU restructuring some way to go
Conclusions
• Interesting new developments in the
industry
– RMA implications: increased COTS
– New companies and corporate structures
• Implications for the control of international
arms and technology transfer
• Further research needed