Wall Street Hot on Weapons Makers

It may be too soon to talk about a global arms race, but the shopping spree is on. Nations of the world are buying weapons at the fastest pace since the Soviet Union collapsed 16 years ago. In 2005, according to the latest U.S. government data, the value of signed weapons agreements reached $44.2 billion, up more than 43 percent since 2001 and more than at any time since the cold war ended in 1991, when the figure hovered in the $50 billion range. The global arms bazaar got even busier in late July, when the Bush administration announced it would offer some $20 billion in new weaponry for its Gulf allies, with the lion's share for Saudi Arabia. Largely unnoticed was that Riyadh, its eyes cast warily on rival Iran, already has $28 billion in arms purchases in the pipeline from European suppliers.

The implications are as big as the deals. While the U.S. spends more money on new weapons than all other nations combined, it is no longer doing so at the brisk pace it was in the first few years after 9/11. Meanwhile, a host of developing nations, wary of a post-Iraq global power void, are bolstering their own defenses. The result is that the world's top defense contractors are turning to the high-growth markets of the Middle East and Asia, where robust economies coexist with ancient and seemingly intractable animosities. As the competition for new deals heats up and prices go down, analysts say, a potentially destabilizing arms race is all but inevitable.

Yet unlike during the cold war, when the U.S. and Soviet Union could regulate the quantity and lethality of the weapons they sold their client states, there is little the world's sole superpower can do to control this buildup. Not only is Washington bogged down militarily and diplomatically in Iraq, American arms makers no longer enjoy unchecked commercial clout. Since the cold war ended, their share of global arms exports has nearly halved, owing to challenges from rival producers in Western Europe, Russia and Asia. For now at least, America's big four defense contractors—Seattle's Boeing Co., Los Angeles-based Northrop Grumman Holdings Co., Raytheon Co. of Massachusetts, and Lockheed Martin—aren't hurting. They still dominate the United States' $100 billion procurement budget the way they once all but monopolized such overseas markets as South Korea and Saudi Arabia. So far, the growth in that market has offset the dip in others. Since 9/11 and the U.S.-led wars that followed, shares in American defense companies have outperformed both the Nasdaq and Standard & Poor's stock indices by some 40 percent. Prior to the recent cascade of stock prices worldwide, Boeing's share prices had tripled over the past five years while Raytheon's had doubled.

Business has been just as good on the other side of the pond. Absent a common threat like the old Soviet Union, European governments no longer feel pressured to "buy American" and over the years have been patronizing local companies like EADS, which in 2003 won a $25 billion mandate to develop a military-transport aircraft for the North Atlantic Treaty Organization. The enlargement of NATO in 1999 only deepened NATO Eurocentrism, as new members Hungary and the Czech Republic shunned U.S. fighter jets in favor of Anglo-Swedish made Gripen fighters.

But it is in the developing world where European contractors are really closing in on their American rivals. From 1992 to 2005, the U.S. share of the developing world's demand for weaponry declined from 54 percent to 29 per-cent. American arms producers have been losing ground most conspicuously in the Middle East, where defense spending has recovered along with record-high oil prices and where British, French and Chinese contractors are slowly replacing the U.S. as the dominant arms merchants.

The trend is most obvious in Saudi Arabia, America's oldest and most important Gulf ally. The desert kingdom has been distancing itself from Washington since 2000, when Israel's crackdown on the second Palestinian intifada turned the monarchy's close U.S. ties into a political liability, and the Europeans have eagerly filled the void. Even as U.S. lawmakers oppose the Bush administration's bid to include Saudi Arabia, a country linked to radical Islamic groups, in its Gulf arms giveaway, Riyadh is negotiating with France's Dassault Aviation and BAE for a $20 billion fighter-jet deal and is close to signing deals worth $8 billion for combat aircraft, battle tanks and submarines with French contractors like Rafale, Giat Industries S.A. and DCNS.

"The [Persian Gulf] monarchies want to send a message to the Iranians that they are developing their own capability," says a Neil Quilliam, a London-based Middle East expert. "But they also want to signal to their own people that they aren't over-reliant on the Americans like they were a generation ago."

The same trend is emerging in Asia, where Washington has frequently sanctioned prospective buyers for their autocratic ways, refusing to barter away key technologies as sweeteners for major deals. Others arms-exporting nations, like Russia and China, have no such inhibitions. In the late 1990s, when Congress blocked a deal to sell F-16 fighters to Islamabad because of its rogue nuclear weapons program, Pakistan began looking for other weapons suppliers. In May 2005, Pakistan—by then a key Washington ally in the war on terrorism—snubbed a new U.S. offer of F-16s and instead joined with Beijing to coproduce its own front-line fighter, which it may export.

Meanwhile, this past April, Russia announced it was selling 18 Sukhoi fighters to India, its former cold-war client, as part of a $700 million co-development deal. For its part, Delhi has expressed an interest in buying superior jets from Boeing or Lockheed Martin, but is concerned the U.S. government might not release the aircraft's core technology.

Even South Korea, where the U.S. has some 20,000 troops deployed as a deterrent to its hostile northern neighbor, is weaning itself away from U.S. arms suppliers. In April, Seoul announced it would purchase $1.2 billion in secondhand, Raytheon-built Patriot missiles from Germany. The South Korean military had originally planned to buy 48 new Patriot missiles from Raytheon in 2000, but later reneged because of a dispute over the cost.

Of course, there are still plenty of big sales battles to be won as developing nations continue their arms spending spree. India, in response to China's massive military buildup, is putting billions of dollars into aircraft carriers, frigates and submarines, part of an expansion program that will make it the dominant maritime power from the Persian Gulf to East Asia. Singapore and Malaysia are seeking advanced fighter jets, attack helicopters, unmanned aerial vehicles, and coastal patrol boats to strengthen the security of the Malacca Strait, through which much of the region's energy supplies transit. Japan, which in July issued a defense white paper highlighting its own concerns about China, has invested more than $3 billion in new aircraft, including upgraded maritime patrol and anti-submarine aircraft, as well as a next-generation cargo plane.

As these nations shop for arms, the increasingly competitive marketplace will embolden them to do more negotiating than they had in the past. Take Japan's quest for a new combat jet. Tokyo is speaking with Boeing Co., France's Dassault, and Franco-German EADS about an order of 80 aircraft, but it is particularly keen on the F-22 Raptor, the $260 million next-generation fighter built by Texas-based Lockheed Martin Corp. The only hitch is that the high-tech Raptor is banned for export, so Tokyo is lobbying for a new law that would allow a sale.

If the deal comes through, it would only strain already tense relations between Japan and its old foe, China. But it would certainly make Lockheed happy, which needs just such an export order to keep its F-22 production lines running. "It's an increasingly common pitch for making a sale in the face of intense competition: 'If they don't buy it from us, they'll buy it from someone else'." says Winslow T. Wheeler, director of the Strauss Military Reform Project at the Center for Defense Information, a Washington watch-dog group. In today's red-hot arms market, a growing number of buyers can make their deals with any number of eager-to-please contractors all over the planet.