* EU has long pursued greater pan-European defence cooperation
* Merger could help reduce duplication, waste
By Adrian Croft
BRUSSELS, Sept 16 (Reuters) - Merging Britain's BAE Systems with EADS to create a global aerospace and defence giant would be a significant boost to European leaders' ambitions for a more efficient defence industry.
The European Union has long sought to foster more cross-national cooperation on defence projects in Europe to plug holes left by shrinking military budgets and to eliminate wasteful duplication of effort.
NATO too is urging members to work together on projects to squeeze maximum value from defence spending that many Western countries have slashed because of the financial crisis.
The combination of Britain's BAE Systems and Franco-German dominated EADS to form the world's biggest aerospace company could be a big step towards achieving those goals.
"We would welcome any reinforcement of the European defence industry and its competitiveness on the international stage," one European Union source said.
Another said the EU backed consolidation of the European defence sector. "We do not favour fragmentation," he said.
The companies have combined sales of $93 billion, with products ranging from Airbus commercial planes to Typhoon warplanes and nuclear-powered submarines.
EU officials would not take an official position because of sensitivities around the proposed merger, which will need the approval of the EU's competition watchdog. NATO declined comment, saying the proposed tie-up was a commercial issue.
The French and German governments have yet to make clear if they will back the merger and it could yet run into political obstacles over concerns about protection for jobs, defence of national interests, and the impact on competitors.
Under the proposed deal, special shares in BAE and EADS would be issued to each of the French, German and British governments to replace the British government's existing "golden share" in BAE and the stakeholder deal that maintains a Franco-German balance of power in EADS.
The British government has said it is working with BAE and EADS to ensure the merger serves the public interest, but senior British lawmakers say Prime Minister David Cameron backs the deal.
"In the broadest terms, this merger does enact what many European governments... have been saying for a long time - that in order for the European defence industry to remain competitive in the long term it needs to consolidate," said Clara Marina O'Donnell, a defence expert at the Centre for European Reform thinktank.
Nick Witney, a former chief executive of the European Defence Agency, an EU body dedicated to improving the bloc's defence capabilities, said he thought both EU and NATO leaders would be pleased with the firms' plan to merge.
"This must be a way to improve the efficiency of what we get out of our taxpayer euros and pounds in Europe," said Witney, who is now at the European Council on Foreign Relations thinktank.
Falling defence budgets mean that hardly any European government, even the biggest military spenders such as Britain, which currently has no aircraft carriers flying fast jets, can deploy a full range of military capabilities.
That has led to increasing stress on European governments working together to share capabilities and plug gaps. Britain and France signed a far-reaching defence agreement in 2010.
NATO is promoting a policy of "smart defence" which encourages members to cooperate in developing and maintaining military capabilities. The alliance approved an initial package of multinational projects at its Chicago summit in May.
In a similar initiative, EU defence ministers agreed last November to pool resources in 11 defence fields ranging from mid-air refuelling to field hospitals.
The EU's internal market commissioner, Michel Barnier, said last November that EU states must cooperate to develop vital military capabilities, keep a defence industry base in Europe and allow European defence industries to stay competitive.
The United States, now increasingly looking towards Asia, has long been frustrated by what it sees as Europeans' refusal to shoulder a fair share of the burden of their own defence.
Last year, in a parting shot at European allies, former U.S. Defense Secretary Robert Gates said NATO risked "collective military irrelevance" unless alliance members reversed declining capabilities.
Europeans led NATO's Libya campaign last year, but depended heavily on the United States for air-to-air refuelling, drones and surveillance.
Defence experts say Europe still allocates a significant amount of money to defence but spends much of it wastefully. Despite European integration in other fields, defence has remained a largely national issue, with countries jealously guarding their competences and reluctant to depend on others.
European governments often pursue competing defence projects or order different versions of equipment rather than agreeing to buy the same version.
In an interview on the European Defence Agency's website, Frank Haun, chief executive of German military vehicle maker Krauss-Maffei Wegmann, said Europe remained a patchwork in defence.
"Is there really a necessity for six types of 8x8 (eight-wheel drive) vehicles (to be) developed and produced within the European Union?" he asked.
A combined BAE Systems and EADS could be a powerful driver for standardisation among the armed forces of Western Europe's three biggest defence spenders, Britain, France and Germany.
"If the suppliers come together then perhaps it will be easier to decide on common capabilities for European armed forces... and if we are doing common capabilities, we might even move towards slightly more unified policies and strategies as well," Witney said.