Successes and uncertainties for the Israeli defense industry

The hitherto booming Israeli defense sector is facing geopolitical strife, supply scarcities and shifting internal demographics.

An Israel Aerospace Industries employee shows how the Kfir all-weather multirole combat aircraft simulation works on June 5, 2023, in Lod, Israel. The simulator is in a training facility and reference center for militaries as well as civilian aviation companies. © Getty Images

In a nutshell

  • The Israeli defense sector has thrived thanks to innovation and government support
  • The growing war with Hamas poses a new set of challenges for the industry
  • Other long-term factors like demographic changes may also prove problematic

2023, a year dominated by war, finds the Israeli defense industry in excellent health. Its exports reached $12.5 billion in 2022, a 20 percent increase over the previous year.

In addition to the main features in its arms catalog – missiles, air defense systems, cyber – Israel has benefited from the rapprochement with Arab countries that signed the Abraham Accords, notably the United Arab Emirates and Bahrain. The deepening war with Hamas, however, will affect these dynamics. 

A quarter of Israeli arms exports go to countries that have normalized relations with Israel. The dividends are both commercial and political. Israel projects an image of power by demonstrating its technological know-how and its ability to develop an effective export policy in the highly sensitive Middle Eastern market, despite the unresolved Palestinian question.

While Israeli companies are thriving in the export market, the Israeli state remains their largest client, in line with the industry’s original mandate to help build and maintain armed forces capable of operating in the heart of an unstable Middle East. The tragedies of Jewish history have given Israel an instinct for survival, and the young Israeli state established solid relations with major powers early on, especially the United States.

Israeli-American cooperation takes place both upstream and downstream in individual projects, from the design of weapons systems to their marketing. The recent $3.5 billion sale of the Arrow 3 antimissile system to Germany – Israel’s biggest defense contract – was made with Washington’s approval. The U.S. has invested $2 billion in the technology. Relations between Washington and the Jewish state are sometimes stormy, but when it comes to the basics, especially defense, there are few gray areas.

Defense ecosystems

Israel’s strength lies in its broad approach to defense issues. It does not merely build tanks. It works to develop ecosystems that encompass multifaceted security issues. 

Israeli defense companies have also proved adept at raising funds. As defense companies are mostly privately owned, they can acquire new technologies through mergers and acquisitions even in countries that have only recently established ties with Israel. High Lander, an Israeli start-up developing a fleet management system for drones, has secured an investment from EDGE, a conglomerate of United Arab Emirates investors specializing in security. 

More than 30 percent of employees in Israeli defense start-ups are veterans, whose field experience contributes to the relevance of innovations. They are joined by reservists and conscripts, who are also in direct contact with the realities of military engagement. By 2019, around 1,000 start-ups had been created by former members of Israel’s military intelligence, such as General Rami Ben Efraim, former commander of the Ramat David airbase, and Colonel Ron Tira, who founded Blue Ocean, a company that develops offensive cyber tools.

Public and private defense players regularly convene with researchers from leading scientific universities to foster the exchange of experience and forward-looking analysis that can broaden the spectrum of innovation. The terms “security” and “defense” are used in their broadest sense, including activities such as high performance computing (Mellanox) or the gathering of intelligence on cyber threats in the maritime sector to prevent maritime terrorism.

Research and development in the defense sector benefits the entire Israeli economy. Drone technology is being used in agriculture, public security and logistics. Flytrex is developing drones to deliver parcels to remote or inaccessible areas of Israel. Asaf Seeds is developing insect-resistant tomato seeds. The use of unmanned aerial vehicles helps to monitor farmland and identify infested areas. 

The transfer of patents from the military to the civilian sector is organized by the Ministry of Science and Technology under the Military-Civilian Technology Transfer Program, which was launched in 2000. The ministry identifies technologies developed by the Israel Defense Forces that have a strong potential for applications in the civilian economy. Companies are approached, cooperative projects (with financial support if necessary) are proposed, as is technical assistance to solve any problems that may arise during the military-civilian transfer. This program has proved highly successful in the field of facial recognition, which is now used in smartphones and security cameras in major Israeli cities. According to a 2020 report by the Global Technology Transfer Center, the financial volume generated by these patent transfers is estimated to be between $5 billion and $10 billion per year.


Despite having one of the most innovative defense industries in the world – Israel Aerospace Industries (IAI) alone has a portfolio of over 1,000 patents – the country is facing an unexpected shortage of metals. Since Russia, one of the world’s largest producers of metal, invaded Ukraine, prices have soared. The price of one ton of nickel hit a record $100,000 in March 2022, directly affecting Israel’s industrial base. Nickel and titanium are essential to the production of its F-16I Sufa and F-35I Adir fighter jets and the Merkava IV tank. Not only has the volume of Russian metal production been affected by international sanctions, but competition between the giants of the propulsion sector (Boeing, Airbus, Rolls Royce) has intensified.

Ultra-Orthodox Jews
Israel’s ultra-Orthodox population, which traditionally does not undertake military service, is rapidly growing due to high birth rates. Projections suggest a significant increase in the coming decades. © Getty Images

Drastic cost-cutting initiatives are surfacing. The Israeli company Elbit Systems is developing a technology called pyrometallurgy to recycle rare metals. This involves heating electronic scrap to high temperatures to extract the rare metals, recover and purify them so they can be reused. IAI is exploring new sources of supplies around the world. Rafael Advanced Defense Systems has developed missiles (Spike NLOS, David’s Sling) that use fewer rare metals. Moreover, smaller engines are considered, as they tolerate composite materials.

The “start-up nation” must also adapt its production to wars of attrition, beyond expensive, high-tech “knockout” strikes. Spike missiles, which sell for between $100,000 and $1 million each, may be versatile and accurate, but the war in Ukraine has shown that a simple grenade-carrying drone can do considerable damage to enemy armor. In all-out war, low-cost weapons are needed to saturate trenches and exhaust the enemy.

Growing uncertainty

These strategic considerations will feed into the renegotiation of the future Israel-U.S. defense agreement. The current agreement provides for $38 billion in U.S. military aid to Israel for 2019-2028, including an obligation to purchase a minimum number of American weapons. A reduction to $450 million annually is planned for 2025. According to the terms of the agreement, the Israeli state will soon find itself with less money to spend on the defense companies it has chosen to work with.

The defense agreement will be renewed, but its renegotiation will potentially reflect constraints and even disagreements between two partners accustomed to speaking frankly with each other. Even before the Hamas attack, there were uncertainties surrounding the Israeli political context. In the spring, the country entered a period of deep division over a proposed reform of the judicial system. The divide is so great that Israel’s economic health has been affected, and Moody’s has warned of a “significant risk of negative consequences.”

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The Israeli Institute for National Security Studies (INSS) acknowledges that it is difficult for Israel to keep up with the AI race and that “due to a lack of infrastructure and resources, Tzahal (Israel Defense Forces) – especially Unit 8200 – is not at the cutting edge of technology.” Although Israel counts three firms in the world’s top 100 defense contractors and has a dynamic start-up ecosystem, it has not yet secured a position near the top end of the heap. The bureaucracy of the Israeli state has been described as “burdensome” in the World Bank’s Doing Business rankings. And now, after the unprecedented events of October 7, the defense industry is facing profound uncertainty. 

The escalation of hostilities initiated by Hamas, marked by the launching of rockets into Israeli territory, has heightened concerns about the security of key infrastructure. These attacks pose a direct threat not only to civilian areas but also to Israel’s defense apparatus, including its weapons production facilities. Despite the high interception rate of the Iron Dome system, the relentless barrage of projectiles increases the probability of a successful strike, causing apprehension about potential disruptions or damages to these critical defense assets.



More likely scenario: The Israeli defense sector remains strong

The Israeli defense industry only partially benefits from the rise in global defense budgets and the protracted war in Ukraine, while recent attacks by Hamas add an additional layer of operational risk, further jeopardizing the industry’s stability. The disruption to supply chains caused by the return of war to Europe, the rise in the cost of raw materials, the increase in wages and inflation, causes profits to fall.

Less likely scenario: The Israeli defense sector is gradually eroded by demographic changes

The Israeli defense industry is affected by demographic changes. The ultra-Orthodox Jewish community is set to grow rapidly in the decades ahead. Contrary to the bulk of employees currently in defense start-ups, the more religious segments of the population are disinclined to serve in the armed forces and view the defense industry with suspicion. This change in the available workforce has a negative impact on Israel’s defense industry. It will adapt and survive, but its capabilities will gradually erode.

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