Future European Security Arrangements and Their Economic Implications

Mr. John P. Weston
Managing Director, British Aerospace Group

With the end of the Cold War and the new era that followed, it would have been logical to expect that NATO would no longer have a significant role in securing Western Europe's peace and prosperity, and that the European Union would receive a strong boost from potential new members, swelling its free market population by 250 million new consumers.

These expectations, however, have not been fulfilled. The Partnership for Peace program and the desire of Central European countries to use it as a path to membership in NATO, together with the real threats to the security of the region that have surfaced in Bosnia and Albania, have resulted in a world where few responsible commentators would question the continuing need for NATO and the relevance of the enlargement program. At the same time, the unity of purpose that once drove the European Union appears to be increasingly under threat. I for one am very confused as to whether EU's main vision is a deepening of the economic and political ties among a core minority of the member-countries, moving in the foreseeable future towards both monetary and political union, or whether the vision is expansion of a free, single market to encompass 24 European nations. When I ask senior politicians which of these goals is the higher priority, I am told that they are equally high. We must accomplish both simultaneously, which to me seems very difficult, particularly since they have two very different objectives.

Despite these issues with the European Union, both NATO and EU stand at an exciting point in their development. NATO is likely to decide to admit Poland, Hungary, and the Czech Republic, and all three of these countries wish to join the European Union, probably by 2002. The addition of these countries, and others to come, will make a significant difference to both institutions.

ECONOMIC AND POLITICAL CHANGES IN EUROPE

Within the European Union, the dramatic development of the economies of Poland, Hungary, and the Czech Republic, plus the embracing of Anglo-Saxon free-market principles, will, I believe, result in new perspectives. The addition of these countries will emphasize the difference between the disciples of deregulation, free-market economies, and open trade and those European nations that prefer a more protectionist approach. This new division within the European Union will fall broadly on a North/South axis and will, I believe, place new strain on the Franco-German axis as Germany increasingly concentrates on the economic opportunities offered by the high-growth, low-wage economies that already receive significant German investment.

In addition to new economic divisions, we are also seeing significant political shifts within Europe. We have seen right-wing governments in the UK and France fall to substantial socialist majorities. And with the difficult unemployment climate that now exists in Europe and the sacrifices that remain to be made to meet the Maastricht criteria, there may be important messages for the German government in their fall 1997 elections--particularly if further significant belt-tightening measures are required to enable the German economy to meet the Maastricht convergence criteria.

The more the criteria must be flexed to allow French and German membership in EU, the more Southern Mediterranean countries will be able to join. And the more Southern European countries that are included, the less support there will be in Germany for abandoning a strong Deutschmark, which underpins personal savings and pensions, in favor of a weaker Euro, which may be better for trade but seems remarkably unattractive to a German population with an inbuilt fear of inflation and fierce pride in their strong currency. Such an unenviable vicious circle must be giving Chancellor Kohl much food for thought, though no one can doubt his determination to introduce the European Monetary Union on time.

The New Labour Administration

The UK's new Labour administration will appear to many fellow European governments as a more center or center-right administration than the average socialist government, and I have been encouraged by the start of its new term in office. All actions taken so far have been much in accordance with the promises made during the election campaign. Particularly encouraging has been the approach to economic policy and to business, including the decision to allow the directors of the company running the National Lottery to collect their bonuses! This decision was especially remarkable as it involved reversing a position initially taken by the Minister responsible for the lottery. The message that the Labour government wishes to maintain its image as a party that recognizes the importance of a thriving and motivated business community, and that this outlook took priority over a more conventional socialist approach to the issue, is important.

The New French Government

Less clear is the impact that the new French government will have, an impact that is particularly important to the European defense and aerospace industry. Since 1993 we have seen our American competitors grow through mergers to around three times the size they were previously. By the end of 1997 we will see the American defense and aerospace industry essentially dominated by three companies.

What lessons should European industry draw from all of this? Clearly, European companies will not remain competitive unless they rise to the challenge presented from across the Atlantic. In 1994 or '95 there was little consensus in Europe on what needed to be done, but since then I believe the need to create a transnational European industry has been recognized by both industrialists and governments. We must consolidate the aerospace and defense businesses within Europe by forming an international business, with the industries of France, Germany, and the UK at its core.  

A EUROPEAN DEFENSE COMPANY TO COMPETE IN THE GLOBAL MARKETPLACE

An essential element of this international company would be a shareholder base spread over a range of private investors in the countries within which it operates. The businesses making up this company must be privatized before being put together. The current French government's policy toward the privatization of both Thomson and Aerospatiale is crucial to this process if France is to play a significant role.

The average U.S. company in our sector has grown by 300% during the last few years. U.S. aerospace companies will have sales volumes of between $30 and $40 billion per year, compared to the largest European aerospace companies, such as British Aerospace and DASA, with sales of between $12 and $15 billion per year. The U.S. budget of around $270 billion now supports around one third the number of defense contractors found in the United Kingdom, Germany, France, Sweden, Italy, and Spain. These countries, which are home to the bulk of European defense business, have a combined defense budget of $125 billion. In short, we are trying to support three times the number of contractors on less than half the budget. In addition, in the U.S. there is only one customer with one set of requirements; in Europe there are many. Demand as well as supply is divided into too many parts.

Elements of the Proposed Company

A restructured European aerospace industry should include the merged and privatized Aerospatiale and Dassault Aviation, Daimler-Benz Aerospace, and British Aerospace. The industries of Italy, Spain, and Sweden must also be viewed as essential partners, although an entity that includes them can be constructed only on a step-by-step basis, not in one "big bang." The resulting European company should be owned directly by a distributed international shareholder base. The existing companies would disappear. Simply put, the private shareholders in each of the three initial merging companies would exchange their shares for shares in the European company at agreed-upon parities.

I recognize, however, that loss of national control in a restructured aerospace industry will be universally acceptable only if there are barriers to the assumption of control by other parties. To ensure this, I propose that the Articles of the European company would forbid any one shareholder from holding more than a certain percentage, say in the range of 8% to 15%. The shareholders would also be forbidden by company statute from acting in concert. Government influence might be focused on golden shares but with limited rights, perhaps exercisable only in situations where a national emergency has been declared or where specific national security interests are involved.

The European company I speak of will own all the assets, intellectual property, and other resources necessary for business. It must also be under a single and unified management. Like any good business, it will have to be responsive to its customers, and will remain highly dependent on governments for investment and contracts; the democratic process will therefore continue to play a determining role in the way the business is run. Governments will rightly expect a return on their investments in terms of employment, their national technology base, and returns from export sales. In bidding for contracts it will be the job of the company's unified management to respond to these requirements and to distribute work in a way that is both equitable and industrially rational. We must get away from the kind of intergovernmental juste retour arrangements that have hampered collaborative programs in the past.

Satisfaction of these requirements will require that the company preserve national identities: it will need to be perceived to a large extent as German in Germany, French in France, British in the UK, and so on, much as Airbus is today. Headquarters in each participating country's capital and directors drawn from the three nations would symbolize this identification, but would also ensure that each government had a national focal point for dialogue with the company. The various national authorities would also assume responsibility for ensuring compliance with security and export control regulations.

The company will also have to retain major national production facilities in each country to preserve and, where possible, generate employment. In addition it will need to have centers of excellence in each country, such as research offices and test centers, to preserve each national industrial and technological fabric and to secure genuine interdependency among the nations to meet their military requirements.

Partnership Possibilities

A European defense company could play a significant role in integrating into the European network of collaborative programs the defense and aerospace industries of the Central European countries that enter NATO and the European Union. This assistance would help these countries develop and maintain the key systems design and engineering skills necessary for real capability in our industry, and help with some of the major equipment decisions that these governments will be making over the next few years. The initial partnerships and the economic offset activities that such purchases generate will be very important in setting future partnership patterns for their industries. As we know, there is a big difference between a partnership whose members are given full access to the technology involved in a certain system as well as the ability to modify and further develop the system as requirements change, and an off-the-shelf purchase of an offset program that delivers build-to-print work to the factory floor but does nothing for the engineering skills and resources necessary to sustain the business.

Finally, I wish to make the point that European consolidation and restructuring are not directed against the U.S. We are not creating a "fortress Europe" to compete with "fortress America." We Europeans must maintain and develop our transatlantic links. But to be a satisfactory partner for American companies we need to achieve something on their scale. We also must remember that the process of globalization is beginning to draw in Asian partners, and to contribute to global partnerships we must first reorganize and restructure.

THE FUTURE OF THE EUROPEAN AEROSPACE INDUSTRY

The future of the aerospace and defense business is a global one. By the end of 1997, the U.S. aerospace industry will be dominated by three companies, and in 10 to 15 years' time the global aerospace industry will also be dominated by just two or three big players. We at British Aerospace see the first step along this path as the formation of the European entity that I just described. This step would be followed by a transatlantic link, when the U.S. industry and government are ready to see such a relationship put in place. The time it will take to reach this point will be longer than it would be for a consumer business, but it will still be short compared with the development time and product life cycles of our major defense systems. We need to start planning for the structural changes now.

The successful introduction of the more streamlined supply industry we envision should have important economic consequences for all of our customers. We will be able to supply them more efficiently, spread the development load for the crucial technology base over a wider range of government contributors, and counter the effects of further budget squeezes. While the work will be a challenge that will require the support of the government community, the benefits will certainly be worth the effort.