A Successful Defense Industry Cluster
By Mirlis Reyes Salarichs, Ph.D., professor of Economic Studies at the Inter-American Defense College March 16, 2018Innovation is the key to economic development. In the security and defense sector, innovation is also a basic requirement since it allows for increasing operational capacities and reducing uncertainties. Just like in the business sector, where technological capital becomes more relevant than the labor force, having a high-level of military technology is preferred to having a large number of troops.
Generally, innovation prospers in areas or cities where agglomeration economies may be maximized by means of industrial clusters. The paradigmatic example is Silicon Valley in California, where there is a concentration of various companies in the vanguard of the biotechnology, microelectronics, and information technology sectors. Another major example in the United States is the Science Applications International Corporation (SAIC), which is in charge of research and technology applied to the military and civil sectors. SAIC works closely with the U.S. Department of Defense, which is one of its main clients.
In Latin America, there is an industrial and innovative know-how concentrated in the military sector, which represents an advantage that must be preserved and fostered. The challenge in this case is having insufficient sources of financing, which forces the industry to specialize in certain market segments or the concentration of large-scale production. It is specifically here where clusters play a crucial role.
Within industrial defense clusters, companies share technology and information creating an environment of mutual trust. Greater diversity among industrial defense clusters multiplies possible sources of financing for investment and fosters innovation with a greater variety of strategies and technologies. To that end, industrial defense clusters must become a space which promotes collaboration between military and defense sectors dedicated to technological innovation.
Where does the success of Embraer as a cluster lie?
Since the beginning, the Brazilian Aeronautics Company (Embraer, per its Portuguese acronym) had the unique distinction of being conceived by the Brazilian government to drive aeronautics technological development together with two other entities: The General Aerospace Technology Command (CTA, per its Portuguese acronym) and the Institute of Aeronautics Technology (ITA, per its Portuguese acronym), located in São José dos Campos. The background to the company's founding lies in the CTA developed IPD-6504 Project, also known as EMB-110 Bandeirante. The result was the construction of a small twin-engine transport airplane that could be used on unpaved airstrips, which fit the conditions of various regions of the country very well. Operating costs were low and required minimal navigation support.
The need then arose to create a corporate system to implement mass production of the Bandeirante. The initial intention was to leave it in the hands of the private sectors, but due to their refusal, the government created Embraer in August 1969. The company was founded as a joint venture (51 percent state capital), and a series of policies were implemented to attract investment from the private sector. One of the greatest obstacles was the lack of trust in the project since Brazilians underestimated their own innovative capabilities. The government took the following key steps:
· The National Bank for Economic and Social Development extended lines of credit for production and demand with low interest rates and preferential terms.
· The State guaranteed the purchase of the "initial series" through the Armed Forces and other regional airlines. Also, the Brazilian Air Force cooperated with advance payments and assumed the risk of investments in new products.
· The company's sales on the international market were protected through tariff policies.
· The State granted total administrative autonomy to the corporate group.
All these government measures not only attracted private investors, but were also crucial for the proper operation of the cluster in its first stage. It must be considered that at that time Brazil did not have a strong industrial base in the sector. Despite the benefits, some authors, such as Aureliano da Ponte, stressed the negative effects of these measures in marketing products at the national level.
This is reflected by the fact that Embraer sold many more airplanes overseas than in Brazil. However, the government's industrial strategy of respecting private investor space, even in defense clusters, led to the public and private sectors complementing each other exceptionally well, which promoted technological innovation.
Throughout its history, Embraer has faced different adverse scenarios, such as the crisis of 1990, after some failed projects, which was resolved with privatization and a change in corporate strategy. Currently, it is still operating as a joint venture and is a leader in commercial, executive, and defense aircraft markets, which fly over more than 90 countries.
Within the defense sector in particular, Embraer develops systems for air and ground missions, counting the Armed Forces of Brazil, Mexico, India, and Greece as main clients. The proven flexibility to adapt to the latest demands; the cooperative relationship with state, private, and research entities; as well as the focus on external markets have contributed to Embraer ranking third among the most important companies in the world in its sector (only surpassed by Boeing and Airbus).
Super Tucano and beyond
For example, Embraer is the manufacturer of the Super Tucano A-29, the only light attack aircraft in the world with United States military certification. In September 2014, 20 of these aircraft arrived at Moody Air Force Base, Georgia, to be used for training Afghan pilots.
"Embraer has established itself as a leader in the aeronautics industry. We are very proud to have been conceived from a Brazilian Air Force (FAB, per its Portuguese acronym) project, with whom we have maintained a fruitful relationship for more than 40 years. We have a wide range of products and solutions that are present in several Latin American countries, with an emphasis on the A-29 Super Tucano," said Jackson Schneider, president and CEO of Embraer Defense and Security. "We are currently developing, together with the FAB, the tactical military transport plane, the KC-390 in-flight refueling aircraft, representing significant advances in terms of technology and innovation," he concluded.
*Article adapted from: “Industrial Defense Clusters as Technological Innovation Drivers in Latin America” (Reyes-Salarichs, 2015).