Changing U.S. Aid Terms Hit Israeli Defense Industry Harder Than Expected, Report Says

State Comptroller says local procurement could be reduced by $1.6 billion in 2028, and Israel hasn't prepared local arms industry for drop

Hagai Amit
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An Israeli soldier looking through Binoculars, illustration.
An Israeli soldier looking through Binoculars, illustration. Credit: Elbit Systems

Israel’s Defense Ministry is expected to reduce procurements from the domestic arms industry by a larger-than-expected 5.6 billion shekels ($1.6 billion at current exchange rates) by the year 2028 due to the changing conditions of U.S. aid, the State Comptroller estimated in a report released on Monday.

The estimate is higher than those that have been cited until now and, if correct, will pose a bigger problem for the Israeli defense industry than had been expected. Moreover, the comptroller said, the Defense Ministry has not acted to prepare the local arms industry for the drop.

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Under a 10-year military aid agreement signed with the United States four years ago, the percentage of aid Israel can convert into shekels to spend domestically gradually declines, mostly after 2025, from 26% of the total to zero.

Share of U.S. aid.

The comptroller’s higher estimate is due to the fact that it expects the United States to limit the extent to which Israel can use aid money to buy raw materials in the U.S. on the grounds that purchases like that don’t help the U.S. defense industry. In addition, the comptroller assumes that the purchasing power of the component of the aid that must be spent in dollars as against shekels will decline. Although the aid agreement was signed in 2016, Israel’s Defense Ministry has done almost nothing to date to prepare the local defense industry for the sharp drop in procurement spending. Officials have yet to examine the impact of the drop on Israeli industry, in the Israel Defense Forces capabilities, its ability to prepare for emergencies or on national security in general, the report said.

The Defense Ministry hasn’t examined which domestic research and development facilities and production lines are critical for Israel’s national security and should be given priority for remaining in operation as local procurements fall.

“The IDF has not mapped out or prioritized the weapons whose manufacturing must remain in Israel and has not submitted its position on the matter to the Ministry of Defense,” the comptroller said.

The report didn’t mention it, but part of the delay may be due to the fact that Israel has had no fewer than four defense ministers since the new aid agreement was signed in 2016. Avigdor Lieberman held the portfolio at the time of the signing. He was replaced by Prime Minister Benjamin Netanyahu and after that by Naftali Bennett. The post is now held by Benny Gantz, who is also serving as alternate prime minister.

In response to the report, the Defense Ministry said it had been examining the issue since the agreement had been signed. “The comptroller commented favorably on the work of a committee headed by the ministry’s chief economist, established in January 2017 in cooperation with the IDF, defense industries and the Economy Ministry,” it said.

“The committee’s recommendations were adopted in 2018 in the Defense Ministry’s work plan and include: multi-year procurement for major industrial projects, targetted aid for small and medium-sized companies for procurement and exports, optimal utilization of the shekel budget in favor of local procurement with an emphasis on Israel’s periphery, assistance in linking dozens of Israeli industries to large American companies and more.”

Gantz issues a statement at the Defense Ministry in Tel Aviv, Israel, Monday, July 27, 2020.
Gantz issues a statement at the Defense Ministry in Tel Aviv, Israel, Monday, July 27, 2020. Credit: Tal Shahar,AP

To illustrate the importance of U.S. aid to the Israeli defense industry, the State Comptroller noted that in recent years it has accounted for between 34% and 43% of the IDF’s total purchases from Israel’s three biggest defense companies – Israel Aerospace Industries, Elbit System and Rafael. The three account for 94% of all local procurement by the IDF.

The comptroller recommended that the Defense Ministry, together with the IDF, begin examining the implications of the reduced aid by considering various scenarios for how it would impact the army’s preparedness and planning as well as national security, and devise a plan for coping with it.

The report noted that a team formed by the Economy and Industry Ministry, with representatives from the treasury and Defense Ministry, was examining the implications of the reduced aid on Israeli industry in general as well as the defense industry. It said the panel must work to ensure to minimize the fallout. The Defense Ministry and the IDF should be developing a program for the defense industry in particular, including allocating funds for keeping designated R&D and production operating in the new era.