William Pfaff

Public interest must control marketplace

PARIS -- The natural tendency of the unregulated marketplace is to produce monopolies. Monopolies serve their own interests, which may not be those of the consumer.

Defenders of market doctrine will naturally challenge this by saying that monopolies are self-canceling because they provoke new competitors to enter the market with better products or services.

The latest to discover that in crucial cases this reassuring theory is not true is the United States Department of Defense. In late March the Pentagon filed suit to block Lockheed Martin from purchasing the Northrop Grumman Corporation. It claimed that this $12 billion acquisition "would result in substantially less, and in several cases eliminate, competition in major markets critical to the national defense"

That represents a striking reversal in Defense Department policy. Since 1993 the Pentagon has not only promoted but actually subsidized mega-mergers in the U.S. aerospace industry, following another currently fashionable theory about the demands of the globalized marketplace.

In 1993 former Secretary of Defense William Perry demanded a huge restructuring in America's defense industry on grounds that only enormous defense conglomerates would have the resources and efficiencies of scale to produce, at acceptable costs, what American forces would need in the 21st century.

Industry responded, and there now are only two major military aerospace producers in the United States, Lockheed-Martin and Boeing-McDonnell Douglas. Lockheed's purchase of Northrop Grumman would logically complete a vast industrial realignment which the Pentagon said it wanted.

These strategic maneuvers in the American defense industry have convinced West European politicians and military aerospace manufacturers that, to survive, they too have no alternative to massive realignment and corporate mergers. The European Union told the major companies to produce a plan for this, which was due at the end of March but has not yet been submitted.

What changed the Defense Department's mind was its discovery that instead of creating a hyper-competitive aerospace industry, it had, at considerable taxpayer expense, overseen the creation of quasi-monopoly suppliers whom it cannot control.

Before, the Pentagon had dealt with the defense manufacturers from a position of power. They had to compete on design and costs to get contracts. Now, their survival is assured, and their corporate and stockholder interest is in maximizing profits.

Ann Markusen, of New York's Council on Foreign Relations, published an analysis saying this last year. The mergers, she argued, were actually the result of "a strategy initiated by ... investment bankers and a select group of corporate CEOs."

"Although the mergers have been rationalized as cost-saving moves ... they have been chiefly motivated by expectations of short-term financial gains and long-term enhanced market power and political clout."

The industry is now answerable to Wall Street demands for steadily increasing quarterly profits which will meet the approval of fund managers and push the stock price up (and with it, the value of the managers' stock options). Without intending it, the Pentagon has made the defense industry into just another American business, accountable to Wall Street.

Moreover, when a company is a quasi-monopoly producer, with a single prime customer, stockholder value does not come from research and innovation, but from selling to that captive customer the goods you already produce and have already amortized.

Market economists' theories about self-canceling monopolies do not work when the product is high-performance military aircraft, commercial transport aircraft, or space vehicles, since virtually no private corporation has the capital to start up in these businesses. Even if the capital existed, the stock market would not permit a company to invest in the development of complex, high-risk, and extremely expensive products which could not become profitable until decades into the new century. The time-span is not a commercial one.

Europe is in the aerospace business today only because certain European governments put up enormous sums of money to create the European Airbus consortium and the Ariane space launcher. Both now are commercially successful, but are only now paying off the government investments and loans given at the beginning of the 1970s. No commercial investor would have supplied the necessary capital over such a period.

The Pentagon has discovered the hard way that the market, left to itself, is a mechanism for making money for investors and managers. It is not a self-correcting system that ultimately serves the public interest, as some have seemed to think.

It is not even patriotic, since its natural tendency is toward international consolidation. The head of Lockheed-Martin, Vance Coffman, called for internationalization of the industry at the annual Wehrkunde conference on military issues in Munich in February.

However his predecessor, Norman Augustine, who actually restructured Lockheed, now asks what would happen if "national" defense were internationalized. "If industry is to globalize, who will decide what is to be sold to whom? ... Should the U.S. let itself become technologically dependent on offshore software and electronics?"

They are important questions which go against the logic of the marketplace. They serve to emphasize that the public interest must control the marketplace, and not, as seems to have happened here, the market set, or override, public priorities.

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