The right amount to spend on defence should, of course, primarily be a decision based on the benefits to our security. But could more defence spending also be good for growth?
The short answer is ‘not necessarily’. The overall impact on the economy will depend on how the additional spending is financed, and on whether there is enough spare capacity to meet the additional demand. Nonetheless, there are some good reasons to think that boosting defence spending will be a net positive, especially once the regional impacts are taken into account.
As a first step, the Government has committed to raising defence spending from 2.3 per cent of national income to 2.5 per cent by 2027-28, funded by cutting overseas aid. This switch should provide a small boost to the UK economy, for two reasons.
First and most obviously, far more of the defence budget is spent at home. A significant proportion of the overseas aid budget has also been spent in the UK in recent years, notably on the initial support for refugees from Ukraine. But this is unusual.
Looking ahead, the Office for Budget Responsibility (OBR) has assumed that 85 per cent of the additional money for defence will be spent domestically, whereas just 5 per cent of the change in overseas aid would have been.
Second, far more of the defence budget counts as capital rather than current spending. This is particularly helpful now when the Government is so short of headroom against its main fiscal rule, which is that the current budget must be in surplus by 2029-30, so that day-to-day spending is covered by tax revenues and the government borrows only to invest.
The switch from aid to defence has therefore provided the Chancellor with another £2.6 billion of wriggle room, which might otherwise have to be plugged with more tax increases or spending cuts elsewhere. Given that the total headroom is just £9.9 billion, every little helps.
Admittedly, the sums here are still small in the context of the size of the economy. Total UK national income is currently around £3,000 billion, so a few billion more in defence spending is not a game changer.
A more substantial boost may have to wait until the next Parliament, when the ambition is to raise defence spending to 3 per cent of national income. If this happens straightaway, the OBR estimates that this would cost an additional £17.3 billion in 2029-30.
Clearly, this will be good for the defence sector, which will grow more quickly than it would otherwise have done and add more jobs too. But this cannot be the whole story.
There is a danger here of repeating the mistake made by those who argue that the ‘booming net zero economy’ proves that green energy can be a driver for growth. In reality, all this really shows is that increasing amounts of scarce resources – including labour and capital – are being diverted to activities classified as ‘net zero’.
This is a risk with defence spending too. Compared to public investment in, say, infrastructure projects, defence spending is less likely to increase the productive potential of the economy. More investment and jobs in defence might then just mean less investment and fewer jobs elsewhere. Inflation could also be higher.
Moreover, there is still the question of where the money will come from to pay for raising defence spending to 3 per cent. Under the current Government, the most likely answer is some combination of higher taxes and higher borrowing (the latter allowed by the fact that so much of defence spending can be classified as ‘investment’). This could simply divert spending from the private sector and push up interest rates even further.
But there is still a positive story to tell. For a start, defence is a textbook example of what economists call a ‘public good’. In particular, no-one can be prevented from benefiting even if they fail to contribute to the cost. This means that even a Government that is determined to reduce the size of the state should be willing to spend more on defence, ideally funded by spending less on goods and services that can be left to the markets.
There is an important regional dimension too. An increase in defence spending will probably favour regions outside London and the South East, helping areas with more military bases and which are more dependent on manufacturing than services.
It is also likely that that these areas might have more spare resources to divert to defence-related activities, including more people who would otherwise be unemployed, as ongoing deindustrialisation frees up more capacity in manufacturing and allied sectors like steel production.
This leaves plenty of questions unanswered. What is the appropriate amount of national income to spend on defence? What will count as ‘defence spending’? Could the existing budget be used more efficiently? Will an increase in spending (inputs) actually improve defence capabilities (outputs), and ultimately make us safer (the desired outcome)?
More positively, will higher defence spending in the UK have additional benefits, such as encouraging allies to raise their spending too (providing more business for UK defence companies as well), while maintaining good relations with the US?
In short, there is a lot to consider here. But at first sight, boosting defence spending could indeed be good for the UK economy, as well as the nation’s security.
This piece was first published in the Daily Telegraph on 29 March 2025
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