June 06, 2013

The 7 Deadly Sins of Defense Spending: How the Pentagon can cut costs - and come out stronger

By Jacob Stokes, Joel Smith, Nora Bensahel, David W. Barno, USA (Ret.), and Katherine Kidder

The Department of Defense faces a stark budgetary choice that will profoundly affect the future of the U.S. military. During past drawdowns, DOD chose to save money by cutting force structure, readiness, and modernization, while retaining the fundamental ways in which it does business. This time, however, skyrocketing internal costs are consuming so much of the defense budget that this path would require even deeper cuts to military capabilities. The resulting military would be much smaller and far less capable, and would almost certainly require the United States to change its long-standing global strategy. difficult path exists, which preserves as many capabilities as possible by addressing the underlying causes of DOD cost growth. It involves reforming the structural underpinnings of the department, adopting modern business and personnel practices, and eliminating excess capabilities. This path requires difficult and unpopular decisions, but it would preserve a strong and highly capable U.S. military and thereby sustain the current global strategy for years and even decades to come.

We have identified seven categories of business and management issues -- what we call the Seven Deadly Sins of defense spending -- that must be reformed in order to ensure that the U.S. military can continue to conduct its core missions. We estimate that reforms in these seven areas could save between $340 billion and $490 billion over the next 10 years, which would offset some, if not all, of the currently planned cuts to DOD spending

Sin 1: Redundant Overhead, Layering, and Workforce

Defense budgets grew rapidly over the last decade, directly fueling an explosion of headquarters and staff manpower. A recent report from the Government Accountability Office notes that, combined, DOD now employs more civilians and contract workers -- 807,000 and 710,000, respectively -- than it does active-duty servicemembers.

As the services draw down, the bureaucracy must do the same -- otherwise, combat power will suffer. The Defense Business Board estimates that cuts of 5 to 15 percent can be achieved without affecting future mission readiness. Similar efforts in the private sector have found 15 to 20 percent savings while improving effectiveness. Reducing overhead costs by 5 percent would save approximately $100 billion over the next decade; 10 percent reductions could save $200 billion.

Sin 2: Inefficient Business Practices

DOD spends much of its money on standard goods and services widely available in the private sector, such as cars, tax preparation, and food. Yet DOD has not adopted many of the best practices of modern businesses. DOD lacks complete data on inventories and costs, and cannot assess the data it does have. DOD has also been unable to pass an audit.

DOD should modernize its business practices through "strategic sourcing" -- combining orders for similar goods in order to achieve economies of scale in pricing. In addition, the practice of "reverse auctioning," or creating online real-time bidding platforms for commoditized goods and services, also promises significant savings. DOD should also prioritize making itself auditable and do so in a way that improves readiness and drives savings across the department. These initiatives could save $46 billion over the next decade.

Sin 3: Excessive Acquisition Costs and Overruns

The acquisition system is in disarray. As DOD itself notes, "Programs continue to take longer, cost more and deliver fewer quantities and capabilities than originally planned." The cost of DOD's current weapons portfolio has grown by more than $400 billion, or about 38 percent, beyond initial estimates. Timelines for delivery have slipped an average of 27 months. DOD abandoned $46 billion worth of programs during the last decade.

Fixes have been long sought-after and elusive, but DOD should nevertheless focus on four areas. It should streamline the process for generating requirements and make real trade-offs on systems upfront, continue to develop the acquisitions workforce, foster a productive, two-way dialogue between DOD and industry, and keep the rapid acquisitions process for fast-changing capabilities and technologies while fixing the "normal" process. Savings will be hard to measure, but could reach $50-100 billion over the next decade.

Sin 4: Excess Infrastructure, Installations, and Management Costs

DOD estimates that it operates roughly 20 percent too many domestic bases, a number that will continue to grow as the force draws down. In order to close those bases, Congress must authorize a round of the Base Realignment and Closure process (BRAC). DOD currently saves $12 billion per year from previous rounds of BRAC -- $4 billion for the 2005 round and $8 billion for the four rounds before that. BRAC does cost money in the short term, but those costs pale in comparison to savings over time. Some argue that instead of BRAC, which focuses on domestic bases, DOD should close bases overseas. The choice is not either/or. DOD has been closing bases overseas for two decades; it is time to remedy domestic over-capacity. Combined with savings from closing DOD schools in the United States and reducing base support and facilities maintenance costs, authorizing and conducting a BRAC round could save up to $17 billion over the decade, with much greater savings afterwards.

Sin 5: Unaffordable Increases in Cash Compensation

Over the last 12 years, pay increases for military personnel have grown by 52 percent, compared to only 24 percent in the private sector. Military personnel are now compensated at a rate that equals or surpasses what servicemembers one rank above them received in 2001. DOD should slow the rate of growth in pay (not reduce pay) in order to put it on a more sustainable trajectory. DOD should also rely more heavily on targeted pay to address challenges in recruiting and retention. Modest changes could save $25 billion over the next decade.

Sin 6: Unsustainable Growth of Military Retirement System Costs

The current military retirement system was designed 65 years ago, and is now inequitable, inflexible, and unaffordable. Only 17 percent of those who serve receive retirement benefits -- meaning that the overwhelming majority of servicemembers who have fought in Iraq and Afghanistan will receive no benefits at all. Military retirement accounts currently face an unfunded liability of $1.3 trillion, which will grow to $2.7 billion by FY 2034. DOD should adopt a new system for all future recruits based on a defined contribution that would vest after four years. Current servicemembers should be able to decide whether they remain in the old system or opt into the new one. These reforms could save $38 billion during the next decade.

Sin 7: Escalating Military Healthcare Costs

Military healthcare costs are one of the fastest-growing parts of the DOD budget, and their current trajectory simply cannot be sustained. These costs have more than doubled since FY 2001 -- not because of the recent wars, but because more people have become eligible for and are enrolling in TRICARE, while beneficiaries are paying fewer costs and using medical services more frequently. DOD should adjust TRICARE fees to reflect growth in healthcare costs, introduce some fees and deductibles for TRICARE for Life, and establish pharmacy co-payments for all TRICARE beneficiaries except those who are serving on active duty. These reforms could save $64 billion over the next 10 years.

Addressing the Seven Deadly Sins of defense reform will not be easy. It will require a strong consensus for change, accountability for results, united leadership from the White House and Pentagon, and, most important, support from Congress. DOD already has the authorities it needs to address the first three sins -- overhead, business practices, and acquisition costs -- but the others will require congressional authorization. These reforms may be painful and will almost certainly be unpopular. But the alternative is to let inefficient and wasteful business processes and runaway personnel expenses continue unabated while cutting the capabilities that the U.S. military needs in order to react to crises, deter enemies, and rapidly defeat a wide range of potential adversaries. And that is a price that the United States cannot afford to pay.