Originally published at: Defence spending in the new Cold War – InvestEngine Insights
Defence is increasingly on investor’s radars. The theme’s popularity is easy to explain: military budgets across the world are surging.
According to Stockholm International Peace Research Institute, global military spending is at a record high. The latest figures show that between 2022 and 2023, global defence spending hit $2.4 trillion, representing a growth of 6.8% compared to the year prior.
This uptick in defence spending, it is hoped, will continue to feed through to the earnings of defence companies.
Both these increased military budgets and investor interest are driven by the growing sense of geopolitical instability. This instability presents itself in the numerous high-profile conflicts around the world, from Europe to the Middle East to growing tensions in Asia.
But how much longevity does the defence investment theme have? Were one or more of the globe’s high-profile conflicts to conclude, would military spending dissipate, taking with it the performance of defence companies?
Defence is a theme for the future
Our view is that the defence theme has the potential to last for decades. Broadly speaking, we have entered a new era of international relations – one of renewed Great Power competition.
If we cast our minds back to the Cold War era, the world was gripped by the intense superpower rivalry of the United States and the Soviet Union. Both powers sustained high levels of military spending throughout the period, alongside their various allies within their respective blocs.
For example, between 1975 and 1984, European NATO members spent an average of 3.7% of GDP on defence. The UK spent around 5%, France 4%, West Germany 3.4% and the United States 5.9%.
At the end of the Cold War those figures dramatically decreased. Between 1990 and 1994, the average spend for European NATO members was 2.5%. By the period 2005-2009, the average spend reached 1.8%.
This reflected the more benign geopolitical environment. With the Cold War over, a major war between great powers looked unlikely. Military action principally took the form of US-led counter-insurgency style operations or limited humanitarian interventions.
In such a world, Cold War style spending was not needed. But this era of a more benign geopolitical backdrop was not to last.
Geopolitical analysts and historians are divided on when exactly we can pinpoint the post-Cold War era ending. Some point to the 2012 rise to power of Xi Jinping in China. The burgeoning superpower took a more assertive posture on the world stage, particularly around the South China Sea issue. Others point to Russia’s first invasion of Ukraine and the illegal seizure of Crimea in 2014.
Alternatively, the end of the post-Cold War era can be seen in Trump’s first National Security Strategy in 2027, which explicitly labelled China as a “strategic competitor” for the first time in an official document.
The new Cold War
But whichever year we use to pinpoint the exact end of the post-Cold War era, Russia’s full-scale invasion of Ukraine in 2022 confirmed beyond doubt our entry into a new geopolitical paradigm.
The invasion shocked European NATO to its core. It upended assumptions that had led to military budgets drifting downward over the past three decades.
At the same time, the conflict has proven to be a catalyst for many states across the world converging into almost Cold War style blocs. On one side are, broadly, the world’s Western liberal democracies, wishing to defend the US-led world order. On the other side are a collection of states such as China, Russia, Iran and North Korea, which wish to challenge the US-led order.
With all this in mind, therefore, we have entered something of a new Cold War – and with it, a need for Cold War style military spending. In 2024, 23 of NATO’s 32 members were spending above 2% of their GDP on defence, up from just three members a decade ago.
It is estimated that European NATO (and Canada) will increase their defence spending by almost 18% compared to the previous year. Crucially, there has also been a rapid uptick in spending on defence equipment as countries look to modernise and increase the capabilities of their militaries.
It would, therefore, be a mistake to see the current uptick in military spending as a short-term trend with the potential to reverse should some of the current high-profile conflicts conclude.
Such conflicts should instead be understood as some of the earlier manifestations of our new era of geopolitical instability. After years of chronic underspending, NATO members are having to rebuild and rearm. We have, unfortunately, entered into a new era of Great Power competition, ushering in a new “defence supercycle”.
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