Brexit and UK Defence: Put the Equipment Plan on Hold?

While advocates of Britain’s continued membership in the EU were frequently accused by Brexit enthusiasts of ‘scaremongering’ before the referendum, the aftermath has borne the pessimists out: the fall in the value of the pound has been precipitous, with quite possibly more to come. And this will have serious implications for the country’s defence efforts.

Even before the referendum, the Ministry of Defence was struggling to produce the efficiency savings required to make affordable the Equipment and Support Plan (which includes the renewal of the nuclear deterrent programme).

Also, according to US State Department figures, the UK has had an established demand for defence imports of more than $10 billion a year at current prices, mostly from the US. Much of this must be for spares for the UK’s significant holdings of US equipment, but in this period there have also been large off-the-shelf purchases, including of C-17 transport aircraft  and the 10 Predator (Reaper in the UK) unmanned aerial vehicle (UAV) fleet. While these figures may be contested by the British government, the State Department has a reputable publication record on such matters, and is certainly well informed on the military list licences issued in the US.

The table summarises the State Department’s view of UK defence imports of goods and services, in current dollars, from the latest (2015) issue of World Military Expenditures and Arms Transfers. According to the US, the UK clearly imports more than France and Germany combined and significantly more than Saudi Arabia.

    UK        France Germany Saudi Arabia 2002 $7.2b $2.4b $2.2b $5.8b 2003 $7.8b $2.4b $2.3b $7.8b 2004 $7.9b $2.0b $2.3b $5.8b 2005 $7.2b $2.4b $8.8b $4.9b 2006 $8.0b $2.1b $4.4b $5.0b 2007 $8.4b $1.4b $2.7b $2.0b 2008 $10.1b $1.6b $3.8b $2.5b 2009 $10.6b $1.4b $3.2b $4.9b 2010 $10.9b $1.5b $3.4b $5.9b 2011 $11.5b $1.6b $3.6b $4.8b 2012 $11.8b $1.8b $3.8b $5.3b

At the time of publication of the last Equipment and Support Plan in October 2015 the pound was well below its post-2000 peak, at just over $1.50. By the end of 4 July this year, the pound was below $1.33, a drop of over 11%. While there were forecasts that it would fall to $1.20 by the autumn, even an 11% increase – in British currency terms – in the costs of defence spares’ imports represents a significant additional burden for the Ministry of Defence.

Moreover, the UK has firm plans to buy a series of off-the-shelf products from US factories, including a fleet of 50 Apache helicopters, nine P-8 long-range anti-submarine aircraft, 138 F35Bs, and more than twenty of the next generation of Reaper UAVs (designated Protector in the UK). Given such tall orders, even the deterioration of the value of the pound against the dollar must give the Ministry of Defence a major financial challenge.

Also, the Army is committed to buying the Ajax family of vehicles for £3.5 billion for which most of the costs will be in euros, although some work is to be done in the UK. Compared with the date of the Equipment and Support Plan’s publication, the pound had dropped even more against the euro than the dollar (by 14% from €1.40 to just under €1.20) by 4 July 2016. Obviously, if the contract was signed in sterling, this will be a problem for global aerospace and defence company General Dynamics rather than the UK.

Clearly, British defence companies buying spares and components could have done some hedging before the referendum, although such services would not have been free. The British government too may have bought dollars in advance, although the formal government position was that it did not plan for a successful Brexit vote. Any such provisions would moderate the immediate impact of the pound’s devaluation, but the purchases in the defence pipeline will involve payments over years. It would then be extremely optimistic for the Ministry of Defence to plan and set up contracts on the assumption that the pound will soon recover to its 2015 levels.

In addition, it is hard to find forecasts of economic growth in the UK in the foreseeable future, so a defence budget at 2% of GDP will not increase for a number of years. There is also the need to note (but not here analyse) the increased possibility of Scotland opting for independence, and the role of Type 26 frigate construction and the fate of the Faslane submarine base.

The referendum result has placed the 2015 Strategic Defence and Security Review in disarray: a reasonable forecast is that until at least the end of the year and perhaps beyond, the Ministry of Defence might well postpone decisions rather than cancel programmes. However, with public statements unavoidable at the Farnborough Air Show, the government may well feel under pressure to support national and international confidence by presenting a ‘business-as-usual’ stance.

The Conservative–Liberal Democrat coalition that came to power in 2010 prominently chastised the previous Labour governments for allowing the development of a defence equipment programme that was around £38 billion more than could be expected to be available. It also took pride in generating an affordable plan, the last version of which was published in October 2015. If this regime leaves another overheated programme to a future government, the UK’s defence problems will only deepen.