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More from the Defense Spending Report in WSJ:

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<img src="http://www.suite101.com/files/mysites/je..." width=204 height=228 align="left"> The Ripple Effect

Economists have long debated whether military spending boosts the economy. They're still debating it

By ANNE MARIE SQUEO

When Lockheed Martin Corp., the nation's largest military contractor, planned its supplier conference last November, officials expected weak attendance due to post-Sept. 11 travel fears. But 650 people -- more than expected -- traveled to the Hyatt Regency Hotel at the Dallas/Fort Worth International Airport in Texas to hear the company describe potential business opportunities, including its recently won Joint Strike Fighter contract, a potentially $200 billion-plus program.

The suppliers weren't just eager for more work. For some, their survival depends on the Bush administration's push to ramp up the nation's weapons-procurement program. The Sept. 11 terrorist attacks further depressed already declining demand for new commercial jetliners. Hundreds of small manufacturers around the country started cutting jobs to prepare for an extended drop in business.

A fatter military budget "is really going to be a savior for a lot of the small businesses," says William Lewandowski, vice president of supplier management at the Aerospace Industries Association in Washington, D.C, an industry trade group. "The bulk of these aerospace guys will use the defense increases to get through this time while keeping their eye on the commercial market, which is where the biggest sales tend to be long term."

The Bush administration is seeking congressional approval for increases over the next five years that will boost the Pentagon budget more than 48% by fiscal 2007 to $470 billion from $329 billion in fiscal 2001. Of the $398 billion being sought for fiscal 2003, which begins in October, the administration expects to spend more than $120 billion on new weapons and research and development, and most of that money will find its way into the coffers of military contractors and their suppliers.

Costs and Benefits

The debate about whether military spending benefits the overall economy has raged for decades. Critics of defense spending say money allotted for social-service programs and civil-works projects produce more economic growth than the manufacture of products whose intent is to destroy. Defense spending is money that "is being withdrawn from somewhere," says Gary Becker, an economics professor at the University of Chicago, "possibly meaning less spent on health care, high-tech and building roads."

Proponents of military spending, meanwhile, say that the types of products the Pentagon is buying nowadays actually might have beneficial effects for the economy. Huge amounts of money are earmarked for things like wireless communications for soldiers, technologies that may eventually yield commercial benefits. What's more, they argue, the political backing needed for defense spending has resulted in a wide national dispersion of defense contractors. Even after the post-Cold War consolidation within the industry, the big contractors continue to operate facilities and rely on suppliers in many states to garner political support for their programs.

Lockheed, based in Bethesda, Md., has suppliers in 46 states for its expensive and often-controversial F-22 fighter-jet program. So when the company recently received a $2.68 billion contract to build 13 of the supersonic Air Force jets, the money was parceled out within days to the program's suppliers operating in New Hampshire, California, Vermont, West Virginia and Georgia, among other states.

"Most industrial sectors, such as autos and computers, are concentrated in particular geographic areas," says Loren Thompson, chief operating officer of the Lexington Institute, a defense-industry think tank in Washington, D.C., citing Detroit and California's Silicon Valley. "And a substantial part of the money spent on consumer products ends up offshore. Defense spending, though, for the most part, stays right here in the U.S."

Setting Up Shop Nearby

Over the years, many top-tier defense companies, including Lockheed and Chicago-based Boeing Co., have reduced the numbers of parts made in-house in an effort to reduce their work forces and focus on higher-end integration jobs that yield more profits. And that has boosted suppliers, ranging from mom-and-pop operations to billion-dollar companies, which specialize in making a few parts used in a wide variety of vehicles, such as airplanes or tanks.

The small suppliers often set up shop around facilities operated by major manufacturers like Boeing or Lockheed. In the aerospace industry, clusters of suppliers based themselves near Boeing's main jet-making facilities near Seattle and Wichita. Among military contractors, there are several highly concentrated areas including central Florida, Dallas-Fort Worth, Southern California and the Washington, D.C., area.

In Florida, where Lockheed's Orlando operation has long been one of the state's largest employers, the increased military spending "is a nice offset to problems at Disney World," says Mark Vitner, vice president and senior economist at Wachovia Securities in Charlotte, N.C. In general, though, he sees defense dollars having a meaningful impact on only a handful of areas, almost all of them in the Sunbelt.

But perhaps the most telling measure of economic impact is job creation. Despite the Bush administration's talk about spending more on homeland-security equipment as well as weapons procurement, most major contractors say it will still take a while before they see an influx of new orders -- and enough to offset the loss of commercial business. Plus, the December approval of the fiscal 2002 budget, three months late, delayed a number of contracts from being awarded for this year.

The work that has materialized, say company executives, was already in the pipeline. As a result, big and small military contractors are delaying capital expenditures and hiring decisions until there's more concrete evidence the funding is on its way.

Not Hiring Yet

Vought Aircraft Industries Inc. fired 1,200 employees, or about 20% of its work force, last fall and closed a manufacturing facility amid the decline in commercial-aerospace manufacturing. The Dallas-based company makes parts for almost all of Boeing's commercial jetliners, as well as Savannah, Ga.-based Gulfstream Aerospace Corp.'s business jets. The company also works on several military aircraft, including Boeing's C-17 cargo plane and Los Angeles-based Northrop Grumman Corp.'s Global Hawk unmanned reconnaissance aircraft.

That's good news for Vought, given that the U.S. government has expressed a desire to step up purchases of both of these aircraft and others that Vought works on. But right now, there are no hard orders.

"We're looking to use military work to fill in the gap," says Judy Northrup, vice president of materials at Vought. "But we haven't seen enough work to hire anyone back. That'll probably take another 18 months to two years."

Ms. Northrup and other suppliers say it's the comeback of commercial work they're really looking forward to. Work on jetliners, they say, often lasts for decades and doesn't suffer the funding swings that big military programs often go through as administrations in Washington come and go. Industry analysts are now expecting the commercial market to bottom out and start to grow again sometime next year.

--Ms. Squeo is a staff reporter in the Wall Street Journal's New York Bureau.

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.....Jen

-- posted by JenL_2