Sweet Deals, Stolen Jobs
By Lora Lumpe
Originally published in The Bulletin of the Atomic Scientists, September/October 1994
Let's say you sell cars. It's a competitive market.
You could try to attract customers by offering the lowest
prices and highest quality in town-but that cuts your
profit margin. Instead, you offer gimmicks to persuade
your customers that they're getting a good deal, even if
they're not: CD players, perhaps, or fancy upholstery.
You might throw in things that have nothing to do with cars, like microwave ovens or discount airline tickets.
Now imagine that you sell tanks and guns and airplanes
and bombs instead of cars. How far would you be willing
to go to sweeten your deals? Well, in 1987 (the last year
for which data is publicly available) U.S. arms
manufacturers included a total of $2.987 billion worth of
giveaways-called "offsets" in arms business
parlance-on $3.037 billion worth of weapons sales.
Offsets may seem like an esoteric topic, but they
offer a glimpse into the real world of billion-dollar
corporate and government deal making on the international
arms market. Moreover, the effects of these little-known
side deals on domestic employment, international
relations, and national security are profound.
Arms sales offsets come in two basic varieties.
"Direct" offsets transfer military technology,
typically by granting a license to the recipient country
to produce a U.S. weapon system or its components or
subcomponents. "Indirect" offsets-called that
because they aren't directly military-related-may involve
counter-importing some random product into the
arms-selling country, investing in the buying country, or
transferring commercial technology.
The direct offsets that clinched the $5.2 billion
Korean Fighter Program (KFP) deal of 1991 are
increasingly typical. South Korea bought 12 off-the-shelf
F-16C/D fighters from General Dynamics (which was
subsequently purchased by Lockheed) as well as 36
aircraft kits to be assembled in Korea. But South Korea
wants to produce an indigenous fighter aircraft, and it
held out for the right to manufacture an additional 72
F-16s under license (see "A License to Steal
Jobs," page 32). Korean Air Lines and Daewoo Heavy
Industries had already produced some F-16 parts, and
Samsung Aerospace produced parts for the F/A-18 fighter.
But that manufacturing capability was nothing
"compared to the level of manufacture and production
line management contemplated under the KFP,"
according to the General Amounting Of fire (GAO). On top
of the transfer of manufacturing and assembly know-how,
Korea received ~-30 percent of the contract value-more
than $1.5 billion-in undisclosed indirect offsets.
Indirect offsets may be what Rep. Ron Wyden, an Oregon
Democrat, had in mind when he called some deals
"just bizarre" during a 1985 Congressional
hearing. In order to clinch a $1.8 billion sale of F/A-18
fighters to Spain in 1982, McDonnell Douglas Corporation
offered $1.5 billion in offsets. The aerospace company
agreed to market a wide range of Spanish products in the
United States, including steel coils, chemicals,
sunflower seed oil, sailboats, paper products, zinc, and
marble. The corporation helped publish and distribute a
picture book on Spanish lifestyles designed to promote
U.S. tourism in Spain. And in perhaps one of the oddest
offsets ever recorded, McDonnell Douglas helped establish
a Domino's Pizza franchise in Barcelona.
Offsets in Military Exports, a 1990 report by
the Office of Management and Budget (OMB), said, "It
is hard to conceive . . . a U.S. corporation that is an
efficient producer of aircraft or aircraft engines being
equally efficient in the selling of furniture, shoes,
tourist packages, or education and training ser.
Congress and the executive branch both recognize that
offsets are mostly and that they subsidize foreign
competition with U.S. manufacturers. Yet the government
permits and even promotes such deals because, as
Undersecretary of State Lynn Davis said in the summer of
1993, "the demand for offsets is growing, smith
practically every arms purchaser demanding some form of
offset." Industry, for its part, dislikes having to
provide production technology offsets that may come back
to haunt future balance sheets, but it feels trapped by
the current system. If one company won't provide the
technology transfer, another one will-and it will get the
The U.S. government's longstanding policy of
promoting, or at least ignoring, offsets was born out of
a Cold War desire to build up allied industry. With
economic competitiveness one of the Clinton
administration's stated foreign policy priorities--and
with the Pentagon citing regional instability and
militarism as a primary threat to U.S. interests--it's
time to east a cold eye on offset policies.
More, more, more
In the 1950s, in addition to supplying the European
and Japanese militaries with U.S. equipment, the United
States started to rebuild its allies' arms industries
through licensed production and co-development of weapons
systems. In the 1970s, as the allies began to shoulder
more of the cost, they began to exact a fee for access to
their markets. Offset agreements allowed buyers to tell
their citizens about all the non-defense perks they got
when they purchased weapons from abroad: new
technologies, jobs, investment, a foothold in a new
market. Camouflaging top-dollar weapons purchases with
side deals "makers] the monetary outlays on military
equipment appear lower than they actually are and
therefore more acceptable to both politicians and the
public," according to the OMB.
Prime contractors have been willing to play along.
With offset agreements, their products can be sold at
high prices. The real losers are the subcontractors who
lose business to producers in recipient countries, and
companies in unrelated industries who must compete with
the foreign items defense contractors agree to sell in
the United States.
In the late 1970s and 1980s, many developing nations
began to follow the industrialized countries' lead and
routinely require that some raw percentage of their arms
purchase be reinvested in their own economies through
offsets. Some congressional observers describe today's
offsets as a massive foreign aid program being run by
defense contractors. Kuwait, Saudi Arabia, South Korea,
and Turkey, to name a few, have established offset
"guidelines" for arms imports. As American and
other developed nations' weapons industries vie for
sales, countries that were once grateful for the
opportunity to buy sophisticated weapons are now
demanding offsets as well.
The Taiwanese legislature, for example, retroactively
demanded Taiwan's first-ever offset from a U.S. firm in
exchange for buying 150 F-16 combat aircraft in September
1992. After the U.S. and Taiwanese governments completed
the $6 billion deal, the Taiwanese legislature blocked
payments until the plane's manufacture, Lockheed, gave
Taiwan technology and production contracts related to the
aircraft. In July 1993, Lockheed signed a 10 year
"Industrial Cooperation Agreement" worth $1.1
billion. It guarantees that some F-16 parts will be made
in Taiwan and creates depot maintenance centers there.
U.S. manufacturers engage in offset bidding wars with
each other and with European competitors. This past
January, Israel finalized a $2 billion purchase of combat
aircraft. Two U.S. arms manufacturing giants-McDonnell
Douglas and Lockheed-fought fiercely for the deal, each
trying to outbid the other in terms of price, technology,
and offset packages. To cinch the sale, McDonnell Douglas
agreed to offsets that may total 100 percent of the
sale's value. Israel will "pay" for the 20-25
F-15Es with U.S. military aid, which is restricted to
purchases from the United States. In this way, U.S.
taxpayers will have paid for the McDonnell Douglas sale
twice: first with taxes and then with lost jobs.
In a June 1994 report requested by Cong. Cardiss
Collins, the GAO found that U.S. defense contractors
undertook $4.7 billion worth of offsets on $11.G billion
of arms exports paid for with military aid.
On some occasions, the value of offset agreements
exceeds the value of the weapons sold. The $2.3 billion
sale of F/A-18 fighters to Canada in 1982, for instance,
included offsets that could total 150 percent of the
contract value, according to the OMB. Brazil, France,
Luxembourg, and Spain also receive 100 percent or greater
offset obligations on U.S. arms sales during 1980-87.
Since they generally involve the transfer of military
capabilities, direct offsets by U.S. vendors must be
approved by-and usually are negotiated by--government
official. Sometimes Congress is notified, if a deal
exceeds a certain amount of money. Indigent offsets,
however, are not enrolled or even routinely monitored. As
a matter of policy--enumerated by President George Bush
in April 1990--the government leaves these deals entirely
up to industry's judgment.
The Clinton administration has continued the Bush
policy. "We view decisions regarding offsets as
matters best left to U.S. industry to negotiate and
implement as part of their ongoing business
activities," said then-Deputy Secretary of Defense
William Perry in an April 15, 1993, letter to Sen.
Russell Feingold, a Wisconsin Democrat. "The
principal objective of the current policy is to give U.S.
companies the flexibility to structure an arrangements
that allow them to compete effectively for foreign sales.
If U.S. defense manufacturers were unable to provide
offsets, foreign government would often be unable to
raise domestic political support for defense purchases
from the U.S., and U.S. industry would lose sales to
foreign competitors willing to provide offsets."
Every now and then Congress get upset about the
damaging effect of offsets on the economy, generating
what limited information and government oversight does
exist. At Congress's direction, the government surveyed
the U.S. arms industry's offset commitments in 1985 and
again in 1987. The 1988 data shows that for 1980-87,
nearly $35 billion in arms exports entailed $20.1 billion
in offset obligations. If Under Secretary Davis's
assertion that offsets are increasing is true, that they
probably now amount for more than 60 percent of total
arms sales contracts. It's impossible to know for sure,
because the data does not exist.
Protected from the public eye
Congress decided in 1989 that the government should
regularly collect information on indigent offsets. The
National Defense Authorization Act mandated that
contractors notify the Pentagon of indigent offsets
exceeding $50 million. But more than two years later, the
Pentagon had not yet implemented the requirement and had
received only three voluntary notifications from
industry. As an excuse, the Pentagon claimed that new
reporting requirements then being pursued in Congress
would displace the Defense Department one.
The Defense Production Act Amendments of 1992, signed
into law that October, said that any firm offering $5
million or more in indigent offsets on an arms sale must
notify the Commerce Department. Two years later, Commerce
is still waiting for an executive order to implement the
reporting requirement. Guidelines on what information is
required or how it is to be reported were finally drafted
and published for comment in April 1994.
Although the 1992 law was not fully fleshed out, it
was clear on one point regarding offsets: "Such
regulations shall provide protection from public
disclosure for such information, unless public disclosure
is subsequently specifically authorized by the firms
furnishing the information." Even with that secrecy
provision, industry representatives-prime contractors,
anyway-fiercely oppose the law on the grounds that
"confidential business information" will be
disclosed. Industry lobbyists argue that if country X
sees that country Y got a better deal, then country X
will up its offset demands. But purchasing countries
usually disclose what parentage of a contract they
require in offsets, and this information by itself has
not stimulated rising demands. Moreover, the whole point
of offsets-from a foreign government's
perspective-requires spilling the beans in some detail.
How else would the public know what a great buy its
leaders got? In fact, this is currently the only source
of public information on specific offset deals.
Industry is probably more concerned that notification
will lead to regulation. "No one believes this is
just notification," groused an unidentified industry
source to Inside the Pentagon, a military trade paper
(March 16, 1990). "Once the offset is reported,
they're going to want to know much more. It will be
notification and justification." And industry
certainly doesn't want to have to justify its actions.
"Those things need to be business deals among
businessmen.... Government has no business overseeing
offsets," said James MeInerney, Jr., then executive
vine president of the American League for Exporting
Security Assistance, at a government-industry conference
Senator Feingold didn't like the amount of secrecy
surrounding offset deals, so he sponsored a "real
time" notification provision in this year's State
Department Authorization Act. In April, the
provision-Public Law 103- 5 236-passed. It requires
companies to tell Congress if any indigent offset
agreements are being negotiated as part of the sale of |
weapons or services subject to congressional approval.
Specific information on offsets can now be requested
along with the notifications required under the Arms
Export Control Act, which provides Congress with 30 days
in most eases to consider a pending sale. Unfortunately,
even with this step forward, information on offsets will
not be released to the public.
Smoke and mirrors
Feingold became interested in offsets when a Wisconsin
heavy machine manufacturer nearly lost a contract for
paper-making equipment in an offset connected to the 1992
sale of F/A-18 fighters to Finland. Northrop Corporation,
a subcontractor who would benefit from the fighter deal,
offered an "incentive payment" to a U.S. firm
to purchase a paper-making machine from Valet
Corporation, a Finnish company.
If U.S. workers realized that U.S. arms firms were
underwriting their foreign competition, public opposition
to arms sales would boom. In 1990 the Office of
Management and Budget studied F/A-18 aircraft sales to
Australia, Canada, and Spain to assess the economic
impacts of both direct and indigent offsets.
"Certainly, a substantial short term gain in
business was achieved through direct offsets.... Canadian
firms were particularly successful in turning what was
originally offset work into long term business
opportunities," the OMB concluded. "The total
impact that offsets have on U.S. industry is complex and
intertwined with other economic factors. However, it
appears that offsets have contributed to the
strengthening of foreign competitors in Australia,
Canada, and Spain."
Industry lobbyists contend that offsets are essential
to making foreign sales, and they have masterfully argued
that arms exports support U.S. jobs and the defense
industrial base. The arms-sales-for jobs frenzy peaked in
1992, when McDonnell Douglas claimed that if the United
States did not sell 72 F-15E fighter-bombers to Saudi
Arabia, 40,000 jobs would be lost. The highly
controversial sale was pushed through Congress largely on
the strength of this claim. McDonnell Douglas did not
advertise the fact that Saudi Arabia requires a 30
percent offset on all major contracts. Accordingly, the
U.S. economy lost $2.7 billion of business that was
channeled to Saudi workers and the Saudi economy.
Providing that Congress oversees it-and this is far
from assured-real-time reporting of offsets would help
torpedo false or exaggerated claims of employment
benefits. "Foreign military sales are often
justified on the basis of the employment produced for the
defense industry by such sales," said Feingold in a
July 1993 fact sheet on his proposed amendment. "If,
however, such sales are accompanied by offset agreements
that result in the loss of American jobs and business in
defense and other sectors, that information ought to be
made available to Congress at the time the sale is being
considered." But if workers and subcontractors who
stand to lose are not alerted of offsets before arms
sales are finalized, the deck remains stacked in the
Exporting military know-how
Industrially advance countries prefer technology
transfers to indirect offsets. Arms sales are now
routinely accompanied by arrangements for foreign buyers
to produce weapon systems or their components. If a buyer
cannot rope with technology transfer, a service and
maintenance depot for the weapon system might be
Currently, U.S. law actually encourages the transfer
of production technology to NATO and "major non-NATO
allies." This law treats the transfer of technology
no differently than the sale of armaments, merely
requiring that Congress be notified of contracts worth
$14 million or more. Congress is then given 30 days
within which to contest the arrangement (15 days for NATO
The result is a different kind of
proliferation-proliferation of military-industrial
complexes around the world. In the 1950s, only five
developing countries made small arms, ammunition, or
major military equipment (aircraft, armored vehicles,
missiles, or naval craft). By the early 1980s this number
had skyrocketed to 54, with 36 countries producing major
military equipment. The developing countries of Brazil,
India, Israel, Singapore, South Africa, South Korea,
Taiwan, and Turkey all have a significant arms industry
In 1991 the Congressional Of See of Technology
Assessment (ETA) chronicled this co-production phenomenon
in a seminal study, Global Arms Trade. "In 1988 the
United States was engaged in transferring the production
technology for approximately 70 major weapons systems to
foreign countries, about the same number as its NATO
allies and the former Soviet Union combined," the
report noted. Even top-of-the-line equipment-U.S. MlA1
tanks, Russian MiG-31 fighters, and advance French,
Dutch, British, and Swedish diesel submarines-are now
licensed for production. In fact, U.S. licensing has,
over the past two decades, "contributed to the
emergence of new centers of advance defense industry and
technology, first in Europe, next in the Western Pacific,
and increasingly in developing nations around the
globe," the OTA testified in June 1993.
Glenn Rudd, deputy director of the Defense Security
Assistance Agency (DSAA)-the Pentagon's sales
department-defended the direct offset policy in a 1989
House Armed Services Committee hearing. "Selective
use of co-production has facilitated the achievement of
U.S. goals of enhanced cooperative defense," he
said. "It's helped to rebuild NATO and Japan.... It
has helped standardization of equipment with friends and
allies and promoted regional stability through the
improvement of industrial capabilities of certain
But co-production isn't a free ride. There's the cost
of building the necessary infrastructure, as well as
licensing, royalty, and technical assistance fees.
Licensed production or co-production costs the buyer more
than weapons bought off the shelf-but the ability to
manufacture high-tech weapons is alluring. To recoup
their investment costs and to reduce the unit cost, the
buyer frequently seeks to market the weapon, undercutting
the U.S. firm from which it was originally purchased-as
well as undermining the interests of the selling
The decision to help establish a new military industry
in another country is strictly a business decision.
Little attention is paid to national security, although
arms exports by U.S. allies are increasingly viewed as a
security threat. The chief of Naval Intelligence, Rear
Adm. Edward Sheafer, Jr., testified before Congress in
February 1992 that "Western Europe, our closest
military partner and one of our largest economic
partners, poses no military threat to the United States
except through export of arms that are roughly equal to
ours in overall lethality and technical
Arms control implications
The burgeoning number of arms suppliers profoundly
complicates efforts to limit international arms transfers
through negotiations or embargoes. A frequent
justification for U.S. arms transfers has been that, by
withholding parts, servicing, or ammunition, the United
States can control the recipients' use of the weaponry.
However, the increasing number of licensed suppliers
of weapons and components has eroded any such leverage.
Sixteen countries, for example, now assemble or produce
parts for F-16 fighters. It was no surprise when the
Pakistani defense minister said in February 1993 that,
although the U.S. government had cut off sales of spare
parts for Pakistan's F16s (because of concerns about
Pakistan's nuclear weapons program), "no plane has
been grounded." Pakistan, he said, was
"acquiring necessary spare parts from the open
market," though they were quite expensive. (Pakistan
even acquired spares directly from U.S. manufacturer.)
Perhaps the most important security implication of
co-production deals is the irrevocable transfer of
industrial technology and manufacturing know-how needed
not only for conventional weapons production, but also
for the possible development of long-range missiles and
weapons of mass destruction. U.S. sales of production
technology to the Shah formed the basis of Iran's current
military industry, and licensed production from the Soviet
Union, China, Brazil, and others provided the foundation
of Iraq's weapons industry.
U.S. co-production contracts usually limit production
levels and prohibit sales or transfers to third countries
without U.S. government consent. But overproduction and
illegal transfer is common.
Japan Aviation Electronics Industry (JAR) was fined
$10 million in 1992 for illegally selling weapons
components produced under a U.S. license. JAE was
authorized to manufacture gyroscopes and accelerometers
for the Japanese military's F-4 fighter jets, but from
1984 to 1987 JAE transferred more than $7 million of the
navigational components to Iran-in defiance of the U.S.
policy prohibiting arms sales to that country.
In 1988 the GAO disclosed that South Korea had
violated the terms of a license for the manufacture of
M-16A1 submachine guns, producing many more than they
were supposed to and exporting them without U.S.
approval. The State Department classified the names of
the recipients, but Tong. Larry Hopkins, a Kentucky
Republican, disclosed that they were "hostile
countries." The Pentagon maintained it had been
unaware of any violation. The DSAA's Glenn Rudd claims
that the K-2 rifle is a "Koreanized" version of
the M-16, "different enough according to our Army
people that it could not be considered the same
"Indigenous" production is often based on licensed designs. Allegations have long persisted that
Israeli arms manufacturers have illegally incorporated
U.S. designs and technology into their weapons and
exported them to countries the United States would not
sell to for human rights or foreign policy reasons, such
as China, South Asia, Chile, and Ethiopia.
In a 1989 report, the GAO examined 18 co-production
programs and found at least five eases of unauthorized
transfers. In addition, the GAO examined five programs
that were supposed to have closed down. Four continued
These examples and others illustrate a lack of
enforcement of licensing terms. The Defense Department is
responsible for negotiating most major co-production
agreements and managing their implementation, although
military technology transfers are licensed under the
State Department's Direct Commercial Sales program as
well. The State Department is responsible for oversight
of resale of U.S. supplied defense equipment, including
all co-production output, and for resolving issues of
However, former congressman Nicholas Mavroules stated
at a 1989 House Armed Services Committee hearing that
"there is virtually no ability of our government to
monitor or enforce compliance." At the same hearing,
the GAO reported that "with few exceptions, no
co-production programs were directly monitored to ensure
Time for a change
After World War II, liberal co-production and licensed
production of weapons was justified in order to rebuild
the European arms industry and standardize allied forces.
But today the United States is rightfully more worried
about regional instability than the spread of communism.
Co-production deals spread not only weapons, but
weapon-makers. Creating new sources of competition simply
insures that there will be less and less discriminate
sales in the future.
Indirect offsets are just as damaging. By assisting
foreign industries with commercial technology and giving
them access to the U.S. market, indirect offsets export
jobs. In effect, U.S. arms firms are subsidizing foreign
competitors, both military and commercial.
It's impossible to calculate how much total economic
damage has been caused by offsets. But you can be sure
that the lack of data is intentional.
Sidebar: A License to Steal Jobs
When Congress was considering the Korean Fighter Program in August 1991, the GAO was unable to calculate whether the sale would mean more or fewer U.S. jobs. U.S. production would be limited, and South Korea would manufacture most of the the airframe for 72 of 120 aircraft. Of the remaining 48 planes, European partners in the F-16 program were entitled to a 15 percent work-share from a previous offset. Only 12 planes were to be wholly U.S.-made; the other 36 would be exported in kits to be assembled in Korea.
On June 25, 1992, thousands of F-16 production line workers gathered at the gates of General Dynamics' Fort Worth, Texas factory for a "Fairness Rally" to protest the deal. George Kourpias, international president of the Machinists and Aerospace Workers union, told them, "GD originally wanted to bring 500 Korean workers here.... Our union put a stop to that scheme. At least for now. But the state of mind of the company hs not changed. They still see no merit in working with us to convert to become a part of the post-Cold War era.
"Right here in Fort Worth, 3,000 of our brothers and sisters have been laid off in the past two years.... This week, another 500.... And the company wanted those of you left to teach Koreans how to do your jobs." The Samsung Aerospace workeres were later trained in Turkey, where General Dynamics has another F-16 co-production facility.
Members of Congress had pushed for South Korea to purchase planes manufactured in the United States. Cong. Richard Gephardt, a Missouri Democrat, said, "General Dynamics, not unlike McDonnell Douglas in my district, has had to ... lay off a large number of U.S. workers in the past year.
These workers are capable of manufacturing a majority of the parts to be used in the F-16 and the KFP, and they should be re-employed for this purpose."