Australian + New Zealand Defence Directory 20/21

AUSTRALIAN + NEW ZEALAND DEFENCE DIRECTORY 2020/21 SOVEREIGN INDUSTRY CAPABILITY EDITORIALS www. d e f e n c e . d i r e c t o r y 17 AUSTRALIAN DEFENCE INDUSTRY—SWALLOWING THE ELEPHANT T he government released its Defence Strategic Update in July 2020, the first major defence policy statement since the 2016 defence white paper. It put to rest speculation about the future of the defence budget in the age of coronavirus—at least for the immediate term. In the DSU the government re-committed to the robust funding line in the white paper and extended it for a future four years. That funding line isn’t the three or more percent of GDP that some (including at ASPI) have been saying is necessary in an age of growing strategic uncertainty, but it’s well beyond two percent and probably as good as anyone in Defence or industry could hope for right now. The funding line in the DSU provides substantial real growth over the next decade. Moreover, the bulk of the growth is in Defence’s acquisition program. Over the next five years, its share of the total budget hits 40% and then stays there. This means it increases by 150% over the coming decade. That funding is intended to deliver not just greater military capability, but sig- nificantly strengthened sovereign industrial capability. Putting aside the issue of whether that level of funding is sustainable, that increase presents Australian defence industry with a massive challenge—it is going to have to swallow a very large and growing elephant. The government’s defence industry policy doesn’t set a target for Australian industry con- tent in individual projects, although 60% seems to have become the de facto minimum benchmark for individual projects. Nor does it set a target at the program level. But it seems reasonable to assume that as the policy is implemented there is an expectation that the local share of the acquisition program will grow substantially in order to deliver greater sovereign capability. That will take time. Capability Acquisition and Sustainment Group manages the acquisition of Defence’s major capital equipment, which makes up around 75% of Defence’s acquisition spend. Over the past eight years, CASG’s acquisition spend has consistently been split be- tween one-third local and two-thirds overseas. This has remained the case even after the release of the government’s defence industry policy in early 2016. This isn’t to say the policy isn’t working, or that we won’t see shifts in those percentages. Rather, it will likely take time for this to occur. One reason is that there are some big projects happening now that are sending a lot of money offshore, such as the F-35A, which is spending around $2 billion a year, nearly all offshore. But the other reason is that as the total capital program has grown, Australian industry’s contribution has had to grow just to stay at around one-third of the total. Australian industry content is growing in absolute terms, just not in relative terms. As the overall acquisition budget grows by 150%, Australian defence industry will also have to grow dramatically just to maintain its ‘share’. This won’t be too hard in facilities and infrastructure; Australian industry is good at making concrete and steel and assembling buildings. The main challenge there will likely be competition from the states’ ambitious infrastructure programs (assuming they survive the Covid-19 budget hit). It will be more difficult in the area of specialist military equipment where Australian industry will need access to specialised skills, knowledge, machinery, intellectual property and so on. If we also want Australian industry’s share to grow beyond a third, then the size of the elephant it has to eat increases dramatically. In 2019-20 CASG’s local acquisition spend was about $2.6 billion. Just to stay at 33%, Australian industry content would have to grow by 175% to $7.2 billion per year. That will be challenging enough. To hit 40%, it would have to grow by 234% to around $8.75 billion, and 50% would require a 318% increase to a $11 billion. We won’t get there by focusing on steel, which makes up less than one percent of projects by value, or on assembling imported components, which does little to increase local content or sovereign industrial capability. The only way to achieve that spend and a meaningful level of sov- ereign capability is by investing in the indigenous development of the advanced, high value systems that will be essential to future warfight- ing – radars, electronic warfare, cyber, space and guided weapons, for example. Yet Defence still underinvests in R&D; Defence’s innovation funds are still less than half a percent of its total budget. That might have been acceptable when Defence relied on importing or assembling foreign off-the-shelf systems. But it will take much more to drive the development of a sovereign defence industry that can produce $10 billion in military capability every year. Dr Marcus Hellyer Senior analyst defence economics & defence capability Australian Strategic Policy Institute