It's no secret that the U.S. government is spending well beyond its means. After posting the third-highest budget deficit in history in fiscal 2005, the U.S. will continue to pay for wars in Afghanistan and Iraq in fiscal 2006, while also taking on the cleanup from Hurricanes Katrina, Rita, and Wilma, as well as the new Medicare drug benefit.
The political impact of the budget deficit is now playing out, as public pressure builds to reduce the red ink. On the military side, the conflicts in the Middle East would appear to rule out any reduction in military personnel. However, the low-tech nature of the current enemy would appear to provide an ample excuse to slash big-ticket hardware programs. This is the sort of environment that should have defense companies like Lockheed Martin (NYSE:LMT), Northrop Grumman (NYSE:NOC), and Boeing (NYSE:BA), among others, quaking in their boots.
The latest news from the Pentagon, though, appears to allay these concerns. Recent articles from the Wall Street Journal note that both the Air Force and the Army are looking to trim headcount. The Air Force is mulling over a plan to cut as many as 40,000 active duty, reserve, and civilian personnel, while the Army is considering a reduction in its expansion over the next year by at least one active duty and six National Guard brigades (1 brigade has 5,000 soldiers). Both services are hoping to use the cuts to help pay for ongoing development of new weapons systems.
Still, investors shouldn't be quick to assume the defense industry has dodged a bullet. While the Pentagon may want to cut personnel, politicians may not be so keen on the idea. After all, they're the ones who will have to explain the reductions to the public, which might wonder why the military is cutting manpower when it appears U.S. forces can't control the situation in Iraq. Given the current political climate, hardware programs look vulnerable.
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Fool contributor Brian Gorman is a freelance writer in Chicago. He does not own shares of any companies mentioned in this article.
