A Pentagon report released earlier this month warns that concentrated supply chains, offshoring, and a “business climate that has favored short-term shareholder earnings” have all “severely damaged” America’s ability to arm itself.

Earlier this month, the Pentagon released its annual Industrial Capabilities report to Congress, outlining what the Department of Defense views as the biggest risks to and vulnerabilities of America’s defense industrial base. The report, not exactly a major news event even in normal times, received very little coverage in the tense lead-up to President Biden’s inauguration. But, it is worth paying attention to because in addition to major developments like Covid-19 and long-standing security threats like cyber attacks, it also highlights two other major threats to America’s defense capabilities that have so far remained under-acknowledged: industry consolidation and the pursuit of short-term shareholder profits. 

The report, which follows a 2017 Executive Order by the Trump administration, aims to assess how the decline of American manufacturing has affected the resiliency of the country’s defense industrial base and its supply chains. Its findings are rather bleak. The report cites dozens of examples in which the vitality and resiliency of the US industrial base—“once the wonder of the free world”—had been “acutely affected” by trends like deindustrialization, noting extreme consolidation of supply chains in areas like aircrafts, ground vehicles, machine tools, missiles, and printed circuit boards, and the risk of dependence on sole source vendors in many others. 

The decline of American manufacturing—from 40 percent of US GDP in the 1960s to less than 12 percent today—has received a lot of attention in recent years from both economists and policymakers, and is often partly attributed to the rise of China as a global manufacturing superpower. The Pentagon report acknowledges this as well, noting for instance that only 12 percent of the global manufacturing of semiconductors takes place in the US, compared to one-third 30 years ago. It projects China will dominate the global semiconductor production market by 2030.

But while the Pentagon report does partly attribute the decline of US manufacturing capacities to the “steady rise of an aggressive and militant China,” it attributes much of the current crisis to domestic policy choices. It takes particular aim at the “radical trade policies” of the 1990s, which it characterizes as a drastic departure from long-established industrial priorities that “made earlier presidents, such as FDR, Eisenhower, and JFK, all advocates of free trade, look, with their prudent tariffs, like protectionists.” 

Another major factor is shareholder primacy: 

“Together, a US business climate that has favored short-term shareholder earnings (versus longterm capital investment), deindustrialization, and an abstract, radical vision of free trade,” without fair trade enforcement, have severely damaged Americas ability to arm itself today and in the future. Our national responses—off-shoring and out-sourcing—have been inadequate and ultimately self-defeating, especially with respect to the defense industrial base.”

In a 2019 piece, Matt Stoller and Lucas Kunce criticized the corrosive effect that the offshoring of critical industrial capabilities, together with a financial industry that created strong incentives for consolidation, have had on America’s national security, leading the military to rely on fragile, monopolized supply chains largely controlled by China. The Pentagon report echoes these concerns, quoting a recent report by the American Society of Mechanical Engineers (ASME) that criticizes corporate strategies that focus on short-term cost savings through offshoring: 

In such cases, corporate strategies often diverge from national interest, where better information on the effect of such decisions on the supply chain may lead to more mutually beneficial proactive decisions. It is also prudent to develop an ability to rapidly standup manufacturing capability in sectors that have been downsized in the US or to develop new flexible manufacturing capabilities so that rapid reconfigurations can be realized.”

In particular, the report issues an acute warning regarding the “drastic consolidation” that occurred within the defense sector, reducing the number of the largest defense contractors from fifteen to five since the end of the Cold War and leaving critical defense supply chains particularly vulnerable: 

“…the number of cases, typically three to seven levels from the top of the supply chain, where there is just one—often fragile—supplier is staggering. This represents a significant deterioration from just a decade ago when three-to-five suppliers existed for the same component, let alone several decades ago, when the US military generally enjoyed dozens of suppliers for each such item.”

This is not the first time the Pentagon has warned about the negative impact that consolidation could have on America’s defense industrial base. Its 2018 Industrial Capabilities report, for instance, noted the consolidation of supply chains and the risk of sole source vendors in aircraft, shipbuilding, and missiles. A separate 2018 report noted the increase of consolidated supply chains. Over 80 percent of Army and Marine Corps combat vehicle production, it noted, are now manufactured at one assembly facility. It also warned of an acute foreign dependency risk, as China has become “the single or sole supplier for a number of specialty chemicals used in munitions and missiles,” often leaving the military with no other source or replacement material. 

In its 2019 Industrial Capabilities report, the Pentagon warned of America’s growing reliance on sole source suppliers, citing “numerous studies by the US Government, foreign governments, private industry, and trade associations” that highlighted single points of failure within commercial and defense supply chains that could cause disruptions if an unforeseeable force majeure event was to occur—a prediction that came true with the onset of Covid-19 in 2020.

The fragility of America’s industrial system has entered the forefront of the political discourse in recent years, even before the pandemic spurred a newfound reckoning with the dangers of concentrated supply chains and America’s reliance on Chinese manufacturing for critical needs like medicine, telecom, and military equipment. Similarly, the last few years have seen a growing awareness of the dangers that arise when financial incentives are geared toward short-term profits for shareholders above all other stakeholders (and we at ProMarket have covered this debate at length, in an article series and a subsequent e-book). The latest Pentagon report is a stark warning that the combination of the two is harmful not only to the economy, but to America’s national security as well.