S9 Ep34: Making defence spending pay

Episode Summary

Executive Summary: The episode argues that rising defence spending is unavoidable in a more dangerous world, but it should be designed to maximize growth through innovation, smarter procurement, and European coordination. John Van Reenen says defence can crowd in private R&D, improve productivity, and generate civilian spillovers if spending is made more open, competitive, and strategically planned.

Main Topics: Why defence spending is rising (Priority: 5/5): Van Reenen links higher spending to Russia’s invasion of Ukraine, broader geopolitical instability, and reduced US security support for Europe. How to fund higher defence budgets (Priority: 5/5): He says the UK cannot rely on borrowing and will likely need a mix of tax increases and cuts to other spending, with overseas aid already used once. Defence as a source of innovation (Priority: 5/5): The conversation emphasizes that military spending can generate spillovers into civilian technologies and broader productivity growth if R&D is designed well. Evidence on defence R&D spillovers (Priority: 4/5): Van Reenen cites research showing defence R&D can crowd in private R&D and raise long-run productivity, though results vary across studies. Problems with current procurement (Priority: 5/5): He criticizes centralized, top-down procurement and cost overruns, arguing that current systems often lock in incumbent winners rather than foster innovation. Open, decentralized procurement reforms (Priority: 5/5): He highlights open innovation programs, especially in the US Air Force and lessons from Ukraine, as models for attracting startups and generating better technologies. European coordination and industrial strategy (Priority: 4/5): Van Reenen argues defence should be part of an explicit industrial strategy, with more interoperability, joint procurement, and variable-geometry cooperation across Europe.

Key Arguments: Defence spending must rise because the security environment has fundamentally deteriorated, especially after Russia’s invasion of Ukraine and amid US disengagement from Europe. The UK lacks fiscal space to finance large defence increases through borrowing alone; higher taxes and/or cuts to other spending are unavoidable. Defence spending need not be purely defensive waste; if structured properly, it can support growth through innovation and civilian spillovers. Historical examples such as GPS, the internet, and nuclear power illustrate how military investment can create major civilian technologies. Research by Van Reenen and co-authors finds defence R&D increases public R&D, crowds in private R&D, and boosts productivity over time. Current defence procurement is often centralized, specific, and dominated by repeat winners, which reduces dynamism and innovation. Open procurement models that ask firms and universities to propose solutions can attract new entrants, startups, and better technologies. European cooperation should focus on standards, interoperability, and joint procurement to reduce duplication and inefficiency while preserving innovation for new technologies.

Data Points: UK defence spending share of national income (2019): about 2% - Van Reenen says defence had fallen sharply by 2019 after the post-war decline and peace dividend. UK defence spending before current government: about 2.2%–2.3% of GDP - He says the government inherited spending at roughly this level. UK defence spending commitment: 2.5% of GDP - Current government increase already delivered. Longer-term ambition: around 3.5% of national income - He cites an ambition aligned with NATO targets over the next decade. Estimated cost of 1 percentage point of GDP: about £30 billion per year - He uses this to illustrate the scale of a further increase in defence spending. UK aid cut used to fund rise: overseas aid spending reduced - He notes the rise from 2.3% to 2.5% was financed by cutting aid. Historical defence share of national income: about 7% - He compares current spending with levels 30–40 years ago. War duration in Ukraine: longer than the First World War - Used to stress the scale and longevity of the conflict. Number of economies in study: 23 major economies - Referenced in the paper on defence R&D spillovers. Time span of study: two or three decades - Describes the period covered in the cross-country industry analysis. Open innovation program start: 2018 - The US Air Force pilot program began running three times a year from 2018.

Pivotal Quotes: "This is the age of hard power. And rising threat. This is not the moment for calibration or incremental change." — John Healey: Quoted in the episode’s opening to underscore why the UK defence investment plan was criticized and why ministerial resignations followed. "Given we have to increase spending on defence, we should be really thinking about strategies to do that in a way which can be supportive of growth." — Tim Phillips: Introduces the episode’s central question: how to make higher defence budgets pro-growth rather than purely burdensome. "I think the hard trade-off we face is that if you want to raise spending, there's three ways to do it. One is through raising taxes. The other is by reducing other parts of non-defence spending. And the third is by borrowing more money." — John Van Reenen: Explains the fiscal constraint facing the UK and why defence expansion cannot be funded painlessly.

Implications: Listeners are left with a clear message: higher defence spending is likely unavoidable, but its economic cost can be softened if governments prioritize innovation, competition, and European coordination. The big challenge is turning security necessity into long-run productivity gains.