NS3040 Fall Term 2018 Globalization and Defense Industries Federal Reserve Bank of Chicago, Strong Dollar Weak Dollar

Globalization of Defense Industries I Theodore Moran, “The Globalization of America’s Defense Industries,” International Security, 1990 Written at a time when the U.S. was first becoming aware that key segments of the defense industrial base were becoming foreign sources U.S. defense relying increasingly on foreign technologies Foreign sourced products or Domestic sourced products but purchased from local subsidiaries of foreign operations. Dialog between economists and national security experts unproductive Economists viewed attempts to preserve certain companies as inefficient protectionism National security people viewed economists as naïve especially their not considering where production takes place and who controls the process.

Globalization and Defense Industries II Moran felt at the time, the U.S. could learn quite a bit from Europe Continent had been exposed to globalization much longer Major countries had adopted neo-mecanilist policies or tried all the options being proposed for the U.S. Looks at several cases and develops hypothsis based on this experience Hypothesis I: Disregard for nationality of companies and location of critical research and production activates poses unacceptable risks Example of the French Nuclear program – even your friends can turn on you

Globalization of Defense Industries III Hypothesis II: Replacing Reliance on Foreign Companies with Reliance on National Companies Relieves Threat from Globalization. Not unless company is completely vertically integrated European oil companies still dependent on oil from Gulf they did not control Arab embargo in 1973 painful lesson Hypothesis III Insistence on Production of Key Items and Utilization of Key Technologies on National Soil Helps Alleviate Threat of Foreign Dependence Not if home government’s polices run counter to the host country – U.S construction companies in France at time of the Soviet invasion of Afghanistan Caught in the middle

Globalization and Defense Industries IV Hypothesis IV Autarkic Self-Reliance in Certain Key Sectors Offers the Ultimate Protection Not if come up with inferior technologies or Adapt slowly to changing challenges Case of British Nimrod and US AWACS systems Nimrod pure British, but out of main stream of technology Moran’s solution – try to manage situation with some rules of thumb that you can use to monitor developments, changes in trade patterns etc. Based on oligopoly theory proposes a 4:50 rule. Competition exists if the largest 4 firms have less than 50% of the market Vulnerability exists if the largest 4 firms have more than 50% of the market

Effeciency/Dependence

Globalization and Defense Industries V Questions Can we assume all foreign firms similar in their relationship with their own home country ? At the time many argued the Japanese firms are much closer to their government and therefore likely to be agents of national policy rather than stockholders Should state controlled firms be treated differently? Relevant for many Chinese and European firms today Is the market easy to define or are there a number of competing products that make market definition inherently arbitrary What are alternatives – stockpiling? Encouraging production nearby – Mexico?

Globalized Business Links I Rana Foroohar, “Globalized Business is a US Security Issue” Financial Times, July 15, 2018 In US a growing number of people who believe American national security interests will require forcible untangling of the investment and supply chain links between US and China Argue that many industries are important not only to the military but also for private sector growth -- including Artificial intelligence Robotics Autonomous vehicles Virtual reality Financial technology and Biotech

Globalized Business Links II Chinese companies now own key technologies and parts of supply chains that touch US military equipment and services For years these have been increasingly outsourced to the private sector Chinese companies participated in 16% of all US venture capital deals in 2015 In 2013 revealed that US was relying on a factory in China to make a key propellant chemical for the hellfire missile Pentagon officials are studying how to make sure its supply chains are not controlled by strategic adversaries.

Globalized Business Links III Chinese also have an industrial policy U.S. has rejected this strategy as “picking winners” Chinese don’t so much pick winners as use a coordinated approach to harness the technologies they need – do it through Investments and acquisitions but also Joint ventures Industrial espionage and Cybertheft U.S. firms will be under increased pressure to shorten supply chains and move them closer to home