COVID-19 is attacking our defense supply chains and our nation’s security
COVID-19 is leading to rolling shutdowns of commerce across the country and around the world. The result is a serious economic downturn, one that requires policies that respond to this crisis rather than the last. The 2008 crisis started in housing and financial markets, then spread to the rest of the economy. The COVID-19 crisis started by hitting the labor force and quickly disrupted global transportation links, especially air travel. While the resulting economic shock has affected every corner of the economy, the aviation sector is suffering some of the severest impacts.
The damage happening today in the aviation sector is highly likely to spill over into the defense industrial base through defense supply chains. Recognizing and addressing this reality is essential to avoid profound long-term damage to national security.
The economic effect right now on aerospace and defense might seem like a tale of two cities, with defense doing much better than commercial aviation. Escalating travel bans and travelers’ reluctance to fly have dramatically curtailed air travel, hitting commercial aviation with a massive demand shock. The most recent assessment of the International Air Transport Association is that air travel will decline about 19 percent in 2020, and this estimate may be conservative. At the same time, commercial aviation is suffering a supply shock, with massive disruptions of its workforce as social distancing and quarantines affect operations.
Most aviation-related businesses run at tight margins in the best of times, so these shocks aren’t readily absorbed. The current crisis also comes at a time when aviation manufacturing is struggling due to the separate curtailment of 737 airliner production at Boeing. Parts suppliers, component assemblers, airlines and plane manufacturers were already absorbing losses as aircraft production lines slowed and delivered aircraft sat idle. In addition, the entire supply chain is absorbing significant costs reconfiguring to remove all components produced by Huawei by this summer, as mandated by law. Taken together, the cumulative impact of these factors on aviation is crushing, and few if any industry players have the financial resources to ride out the crisis without help.
On the surface, the U.S. defense industry would seem to be in a much better position than commercial aviation. While the defense industry is dealing with the supply shock that comes with social distancing measures, as well as disruptions in supply chains from both domestic and overseas suppliers, the Department of Defense (DOD) is a stable customer.
Ironically, the department’s very stability is a bit of a problem. While defense supply chains are struggling with the supply shock of disruptions in labor and parts, their contractual requirements to deliver to the military continue, and companies cannot lightly stiff the government. Industry is looking for clear guidance on providing paid leave for the contracted workforce and some relief on delivery requirements where contract schedules simply can’t be met. The DOD is working to provide that guidance through its contracting officers and to delegate the right authorities to them to modify contracts. It looks like government and industry can work through these issues, which should make the defense industry a relative source of strength in the immediate future.
But this surface view is deceptive because there are immense interlinkages between commercial aviation and the defense industrial base.
While there are high-profile companies active in both sectors, such as Boeing, General Electric and United Technologies, the main link is the supply chain. Big manufacturers in aerospace and defense pass about 70 cents out of every $1 they earn to their supply chain, to pay for the parts and components that go into their products. Much of this supply chain is common between defense and aviation. In fact, it is typical for companies in the supply chain to earn most of their revenue though commercial work, and a lesser share from defense. These firms will be hit hard. While their defense work is a potential source of strength, there is also substantial risk that they will fail and be unable to meet their defense obligations.
A slew of business failures in the aviation sector inevitably will lead to massive defense industry disruption. Such failures not only will damage national security, they will hit the American workforce hard. The aerospace and defense sector provides high-paying manufacturing jobs with quality benefits, many of which are unionized. Politicians of all stripes work to create these jobs because they can support a family in a comfortable, middle-class life. The industry also is an export all-star that brings in large orders from overseas for goods produced primarily in the United States.
We don’t even have to look back as far as the 2008 crisis to predict the scale of potential losses. When sequestration hit in 2013, defense budget reductions led about 17,000 firms to exit defense contracting, reducing the military’s vendor base by about 20 percent, and these firms haven’t yet returned. The current crisis could have a similar effect on defense supply chains. That would likely bring laws such as the Defense Production Act (DPA) into play. The current discussion of using the DPA is focused on medical supplies, masks, personal protective equipment and ventilators. In a few months, we may need to invoke the DPA to meet more traditional defense production shortfalls unless action is taken to support industry through this crisis.
Congress will consider a variety of ways to support the economy in the coming weeks. It must include the needs of the defense and aerospace sector in its deliberations. Opposition will focus on such support as “corporate welfare,” but there are several mechanisms developed in earlier industry rescue efforts to ensure that taxpayer support is repaid in full. Some of these mechanisms were developed in prior defense industry rescue efforts and can be reused. A key issue will be ensuring that defense experts are included in whatever entity is set up to manage aid to industry. Their expertise must ensure that decision makers understand the link between aviation and the defense supply chain, and adopt policies to respond accordingly.
Andrew Hunter is a senior fellow in the International Security Program and director of the Defense-Industrial Initiatives Group at the Center for Strategic and International Studies, a Washington-based think tank focused on analysis of political, economic, security and international relations issues. He previously was a senior executive in the Department of Defense and a staff member of the House Armed Services Committee.
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