Libya Defence and Security Report Q2 2009

Libya has, for the past few years, been reforming its image within the international community. The decision in September 2003 to lift the UN embargo, following an agreement for compensation of Lockerbie victims, has been noticed within the arms trade and political arenas. The lifting of the US and UK economic sanctions followed this, and major deals were struck with western oil companies. Recent developments have seen European defence companies moving to establish themselves in what could emerge as a very lucrative Libyan defence market. Libya’s extensive array of military equipment was mostly purchased from the Soviet Union before its collapse at the start of the 1990s, and it is in desperate need of modernisation. In late 2007, France and Libya agreed to a defence accord, worth a potential EUR4bn (US$5.4bn). This is likely to be the largest defence package Libya has signed since the normalisation of relations with Europe. In further signs of Libya’s increasing openness to the west, United Kingdom Limited confirmed in May 2008 that it had signed a GBP85mn (US$165mn) contract to supply a tactical communications and data system as part of the United Kingdom's initiatives to improve economic, educational and defence links with Libya. Libya also has ongoing contracts with Italy, and in 2008 began talks with South Korea over arms procurement.

In 2008, Russian President Vladimir Putin visited Libya for the first time. The Russian president signed an agreement on the writing-off of Libya's US$4.6bn debt to Russia, in exchange for the conclusion of new deals, from which up to US$2bn goes to the quota for military and technical cooperation. However, the signing of the package is being held back by the fact that the issue of repayment of the Libyan state debt has not been settled. Over the past two years, Rosoboronexport, a Russian state arms exporter, prepared more than 20 contracts to supply Russian aircraft, air defence weapons, naval equipment and ground-based weapons to Libya. In technical terms, most of these contracts have been fully prepared, and some have even been initialled. Their signing, however, is continually being delayed because it has yet not proved possible to agree on the financial aspects.

Despite some downward revisions to our forecasts, our outlook for the Libyan economy remains broadly unchanged from last quarter. Lower oil prices and OPEC-mandated production cuts imply slightly lower growth, but the government appears determined to spend its way through the global downturn, even at the cost of a huge budget deficit. We believe that the slump in oil prices and the collapse of real estate markets in the Gulf will make investors think twice before entering the Libyan market. That is not to say that investment is drying up, just that greater caution is likely over the next year or two. Overall, we see real GDP expanding by 4.7% in 2009, rising to 5.6% in 2010. Like neighbouring Algeria, Libya's lack of economic diversification, while detrimental to its long-term health, will actually shield it from the worst of the global crisis.

Libya's hints about nationalising foreign oil company assets will cause nervousness among some foreign investors. Libyan leader Muammar Qadhafi has been inconsistent in his attitude toward foreign investment and economic policy. However, Libya is unlikely to suddenly seize assets.

Overall, we remain optimistic about the growth potential of Libya’s defence industry. Defence expenditure was estimated at about US$670mn in 2007, and it is forecast to rise to some US$730mn by 2010. Import figures will rise substantially over the coming years, as Libya updates and replaces its ageing Soviet equipment. We expect that the Libyan government will increase defence spending by nearly 7% annually, in real terms, over the coming years – although this will depend on how the country’s economy fares in the face of the global financial crisis, and on the extent to which oil prices recover in 2009.