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March 2, 2022

Invasion of Ukraine invokes paradigm shift in German defence policy

By 2024, Germany has now promised to spend 2% of its GDP on defense and has created a special off-budget fund worth €100 billion.

By GlobalData

In the fall of 2021 Germany elected a new Chancellor. Few expected Scholz’s government to make any major alterations to defense policy, yet less than sixth months later the new government is making huge changes, the likes of which have not been seen in Germany for decades. The new budget growth and changes to weapon supply rules, have the power to completely change the European defense landscape.

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Latest Updates on the Ukraine/Russia Crisis

Whilst at its core a humanitarian crisis, the Russian invasion of Ukraine risks adding materially to existing global economic and supply challenges. We are likely heading into a period in which geopolitics will become a regular part of boardroom discussions. Recent developments have seen Russian companies make significant progress around the world to supply countries with equipment in various Aerospace, Defense & Security sectors. This means that countries dependent on Russian arms for their security calculations should review all purchases and clauses regarding their programs and payments. Download GlobalData’s 5th Ukraine Conflict Executive Briefing to learn more. This report is part of a continued series that is renewed monthly with the latest data and analysis, as the conflict develops and has wider implications across sectors. Access the latest macro-economic forecasts, charts with the latest data, and our updated sanctions tracker, as well as our updated sector scorecards to reflect the current views on the impact of the crisis at a company level.
by GlobalData
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Budget increase

There is an ingrained reticence within the German public around increasing military financing. After the collapse of the Soviet Union, defense budgets across Europe were slashed and focus on military strength declined. For most European states, the rate of recovery back to 20th Century levels were far faster than Germany’s, which saw sluggish growth even in the face of growing pressure from international allies. Today, despite being the largest European economy, Germany does not meet the target set by NATO to spend 2% of GDP on defense. The invasion of Ukraine has magnified previous criticisms and concerns levied against the Bundeswehr budget inciting Chancellor Scholz to announce groundbreaking changes to military financing. By 2024, Germany has now promised to spend 2% of its GDP on defense and has created a special off-budget fund worth €100 billion to equip the Bundeswehr. In order to reach the 2% target, the budget will have to increase by 45% against 2021’s budget of $57.5 billion. This will equate to Germany spending $83.5 billion on defense in 2024, making Germany the worlds third largest spender on defense, behind only the US and China.

As a non-nuclear state Germany benefits from being able to invest solely in conventional technologies as opposed to nuclear weaponry that can become a budgetary sink for many nuclear states. As such, the innate practical value of the additional funds is higher than if Germany was required to portion some of the money towards maintaining a nuclear deterrent. Over the past three decades, readiness levels in the German Armed Forces have not been maintained resulting in some areas, such as the Army helicopter fleets, having readiness levels of only 15%. The extent of these issues is highlighted when compared to US readiness targets from comparable fleets, which are set at 80%.

All domains and key programs are set to benefit from the increased spending levels. The aerospace domain has suffered greatly and so investment is likely to involve sustained funding of new platforms. For example, the ongoing FCAS program will likely see significant investment, as will the search for the jet that will replace the Tornado fleet and carry nuclear weapons as part of Germany’s nuclear-sharing agreement with the US. The F-35 is being considered as a serious contender for the replacement. Also in the aerospace domain, funding of the Eurofighter program will continue. UAV procurement has been a contentious issue within Germany, with the Bundestag blocking procurement of combat drones, instead forcing Heron UAVs to be leased from Israel. The current Heron program is ongoing, but the overall shift in defense policy has the potential to force parliament to reconsider the future of combat drones in the Bundeswehr. Contracts for the Eurodrone were signed on February 24, 2022: the program will benefit from increased funding opportunities from the increased German budget.

The German defense procurement agency, BAAINBw, has the potential to reduce the impact that the increased defense budget can have on the operations of the Armed Forces. In the past few years up to 10% of the acquisition budget has gone unspent due to severe systematic failings, overly bureaucratic procedures, and staff shortages (in some years 20% of all roles are unfilled). Due to the size of the new funds, it can be expected that they will have at least some level of tangible impact despite the shortcomings of the procurement department. The BAAINBw has been the examined by the new defense minister Christine Lambrecht. Changes are being put in place to address the current challenges, for example it has been proposed that the limit for direct procurement deals should be increased from €1000 to €5000, that the threshold for projects requiring parliamentary approval (€25 million) should be reviewed, and more general streamlining and stability across the procurement process is required.

Key industry beneficiaries from the sudden budgetary increase will most likely include domestic German companies and their European and US counterparts that are already well established within the German defense market. After the announcement of the increased military spend, many defense companies saw their share price increase. Germany’s Rheinmetall saw a 26% rise in in the following mornings trading, with Leonardo and BAE Systems also experiencing gains of 14% each.

Removal of restrictions on the supply of weaponry

The German practice of blocking the transfer of lethal weapons to conflict zones has been overturned, with Germany agreeing to send Ukraine 1,000 anti-tank weapons, 500 Stinger missiles, 400 rocket-propelled grenades and 14 armored vehicles. Germany also removed the block it had placed on Estonia transferring nine D-30 howitzers that were of German origin to Ukraine. This policy shift denotes serious changes in the German government’s approach to conflict, ending a practice that has lasted since the end of the Second World War.

Key conclusions:

In summation, the future of the German defense industry looks radically different to what has been the norm for the past few decades. The key takeaways from recent events are:

– In order to benefit from increased funding German efforts to fix issues within BAAINBw will need to increase

– The German public and the Bundestag will have to align their views on Germany’s position within Europe, NATO and the wider international arena

– There is the potential that these policy shifts could lead to other unexpected events such as the procurement of attack drones, which has previously been blocked by the Bundestag

– It seems unlikely that in the current scenario German spending will grow beyond 2% of its GDP after 2024 unless the situation in Ukraine dramatically escalates

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Latest Updates on the Ukraine/Russia Crisis

Whilst at its core a humanitarian crisis, the Russian invasion of Ukraine risks adding materially to existing global economic and supply challenges. We are likely heading into a period in which geopolitics will become a regular part of boardroom discussions. Recent developments have seen Russian companies make significant progress around the world to supply countries with equipment in various Aerospace, Defense & Security sectors. This means that countries dependent on Russian arms for their security calculations should review all purchases and clauses regarding their programs and payments. Download GlobalData’s 5th Ukraine Conflict Executive Briefing to learn more. This report is part of a continued series that is renewed monthly with the latest data and analysis, as the conflict develops and has wider implications across sectors. Access the latest macro-economic forecasts, charts with the latest data, and our updated sanctions tracker, as well as our updated sector scorecards to reflect the current views on the impact of the crisis at a company level.
by GlobalData
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