We Can Afford Security

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We Can Afford SecurityAuthor(s): Jacques S. GanslerSource: Foreign Policy, No. 51 (Summer, 1983), pp. 64-83Published by: Washingtonpost.Newsweek Interactive, LLCStable URL: http://www.jstor.org/stable/1148502 .

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WE CAN AFFORD SECURITY

by Jacques S. Gansler

Guns versus butter has again become an issue in American politics. The apparent consensus on the need for higher military spending has splintered into a many-sided debate over just how much extra money the Pentagon needs to safeguard national security and how much the American economy can provide. The administration is propos- ing a 7 per cent average annual real increase in the defense budget between fiscal 1984 and 1988. Recommended initial increases are even higher. Most opponents appear to be arguing for real annual increases of approximately 4-5 per cent, although some characterize even these levels as excessive.

Almost all proposed increases in military spending draw emotional responses. Critics claim that big Pentagon budgets endanger America's economic health and call for slashing military outlays to reduce the budget deficit or to finance social programs. Others justify large increases with men- acing images of a looming Soviet threat. But these emotional arguments obscure the reality that the proposed defense budgets are both affordable and militarily required.

Contrary to prevailing views, the funding required to solve the military's most urgent problems need not stall a domestic economic recovery. Reductions in defense spending cannot erase projected budget deficits-new fiscal policies are needed. But changes in the weapons acquisition process are also necessary to insure that taxpayers get their money's worth from military spending and that the military gets needed equipment. A congressional compromise may resolve the fiscal 1984 defense-budget debate, but military spending will remain an issue for several years to come.

JACQUES S. GANSLER, deputy assistant secretary of defense, 1974-1977, is vice president of The Analytzc Sciences Corporation.

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America's current national security posture is essentially a product of the 1950s and 1960s, an era when the United States en- joyed clear-cut tactical and strategic nuclear superiority. The strength of its nuclear deterrent permitted the United States to defend itself without enormous investments in nonnuclear forces. Moreover, healthy economic growth absorbed the impact of every military-spending increase that was approved. There is now a growing realiza- tion that today's world of rough nuclear parity and sluggish economic growth requires a dramatically different defense posture-one that not only is more credible but also truly affordable in peacetime. Yet a new national security posture will be slow to emerge.

In fact, the present defense budget increases were conceived not to facilitate long-term structural changes but specifical- ly to address four short-term military problems. First, the United States must spend more on the day-to-day operations and maintenance of its forces and equipment simply to stand still-to replace items that depreciate because of age or that are lost through accidents and other forms of peacetime attrition.

Second, the current build-up is needed to replace and upgrade equipment that the United States allowed to deteriorate badly after the Vietnam war. Between 1969 and 1975 the defense budget's procurement account plummeted from $44 billion to $17 billion in real dollars. Normal depreciation and attrition losses were not replaced, and equipment aged rapidly.

Third, the United States must improve both the quantity and the quality of its forces in order to maintain its military position relative to the Soviet Union. This should be seen not as a matter of "chasing the Russians" but as a response to a Soviet build-up so massive and sustained that the military balance cannot escape its effects.

Finally, policy changes may require increased defense expenditures. The capability to deploy forces rapidly in the Persian Gulf or to wage a conventional war well

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enough to reduce the need to rely on nuclear options can only be attained by increased spending.

The Pentagon normally uses an alternate way to allocate defense dollars. The official classification sets up four different, but

overlapping, funding categories: readiness

(training, spare parts, bullets); force structure (the size of the armed forces); moderni- zation of equipment (from initial planning and research through production, covering tactical and strategic systems); and "sustain-

ability" (stockpiling reserves of equipment and improving the responsiveness of the defense industrial base). But since the Rea-

gan defense program is primarily equipment-oriented, with 13 per cent annual increases in the investment portion of the

budget, primary attention will be given to the first set of short-term problems, as has been suggested by former Assistant Secre-

tary of Defense Leonard Sullivan.

Aging Inventories

To see why defense budget growth is needed simply to maintain existing forces, consider fighter aircraft. The United States deploys approximately 6,000 first-line fight- ers around the world. For military pur- poses, each lasts about 15 years. Thus, on

average, about 400 will wear out and need to be replaced each year. During the 1970s, however, the United States bought only 300 fighter planes annually. The resulting shortage of 100 airplanes a year drove up the average age of the force. In addition, a significant number of aircraft is lost each year even in peacetime because of malfunc- tions and crashes. Finally, aircraft and other military equipment were sold to U.S. allies and not replaced. In 1975, for example, the United States sold many of its tanks deployed in Western Europe to Israel to replace those lost in the October 1973 war.

To replace aging inventories, as well as the equipment sold to allies, the United States must either purchase old systems as item-for-item replacements or buy new, improved systems. The United States has chosen to buy the more modern weapons

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systems to match continued Soviet advancements. Unfortunately, the generation-to- generation increase in the cost of weapons systems has been consistently rising by 5-6

per cent every year, after adjusting for inflation and annual variations in the number of weapons purchased. Thus, by the end of a 15-year period, a 6 per cent annual increase in performance-related costs would more than double the procurement funds

required to buy the same number of weapons.

Other accounts in the defense budget continue to rise as well. An act of Congress, for example, requires continued growth in retirement pay, which has already risen from $3.9 billion in 1972 to $14.9 billion in 1982, a 60 per cent real increase. Salaries for

military and civilian Pentagon employees must rise as well to remain comparable with the earnings of nondefense workers. Fur- ther, despite their recent decline, fuel costs have risen dramatically during the last decade and now consume more than $10 billion of Pentagon funds each year. These

nonweapon accounts and other operation and maintenance costs, such as spare parts, have been rising at about 3 per cent per year and together represent about one-half of the defense budget.

During the post-Vietnam period of defense budget shrinkage, spending on equipment fell especially sharply, as planners drew from this account to finance legally required pay raises and unavoidable operations costs. Today, as the administration

struggles to increase investment, these other accounts continue to rise. Since weapons acquisition makes up about 50 per cent of military expenditures, the total defense budget must grow 4.5 per cent annually in noninflated dollars just to purchase the same amount of equipment provided in the previous year-even without any investments to prevent the force from aging, to fill in the gaps left during the post-Vietnam period, or to finance the forces to carry out new missions.

Attempts to analyze relative U.S. and Soviet defense efforts should be regarded

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skeptically. Rouble-to-dollar conversions are inherently tricky, as are any comparisons between command and market econo- mies. Bilateral economic comparisons overlook that the North Atlantic Treaty Organi- zation (NATO) as a whole outspends the Warsaw Pact countries on defense, although the Warsaw Pact spends more on equipment. Moreover, simple manpower and weapons tallies ignore the superpowers' markedly different security challenges. Moscow, for example, must worry about Western Europe, Eastern Europe, and China, as well as the United States.

Emotional arguments obscure the reality that the proposed defense budgets are both affordable and militarily required.

Still, a comparison of percentages of gross national product (GNP) devoted to defense indicates that the USSR spends slightly more money on defense than does the United States. American military spending is about 6 per cent of GNP, compared with 12-15 per cent for the Soviet Union, but the U.S. GNP is approximately twice as large. The So- viets, however, have dramatically lower manpower costs, because they have a draft and because labor in the Soviet Union is relatively cheap. These factors give Moscow approximately 80 per cent more each year to spend on equipment than the United States can spend-a difference that, over time, makes available an enormous amount of additional money for weapons. While the defense expenditures of America's NATO allies help to close this gap considerably, they have been very reluctant to spend the approximately 6 per cent per year extra needed to purchase modern weapons to replace systems that wear out or are lost through attrition. Thus their contribution has not even been sufficient to maintain present forces, much less to provide the funds required to offset the improvement in Soviet forces.

The Soviets enjoy another very signifi- 68.



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cant advantage-the stability of their

budget process, which has a decided impact on the efficiency of procurement. Indeed, they continue to produce an average of three times as many weapons systems annu-

ally as does the United States. And while still lagging in the quality of their systems, they have been rapidly gaining on the United States in many areas. If present trends continue, America's technological edge will soon be too small to offset Soviet numbers.

The Soviets also have to pay a price for this improved performance, which some estimates consider comparable to the 6 per cent annual cost increase of each succeeding generation of American weapons. However, the Soviet Union has been willing to increase its total defense spending continu-

ously. For 20 years, total Soviet defense

expenditures have been rising by about 4

per cent annually in real terms. Mounting economic difficulties may require an even- tual reduction in this growth rate, but the Kremlin will probably make every effort to maintain it over the short term, especially during the leadership transition.

The United States does not need to spend more money just because the Soviets do; but their continuous build-up of more and better military equipment has had a mean-

ingful effect on the military balance and therefore must be countered by the United States just to maintain its relative strength. Moreover, the Soviet Union's failure to

reciprocate during the post-Vietnam period of American "unilateral disarmament" in conventional forces indicates that this is not a solution to America's defense-spending quandary.

Trends in defense expenditures began to be reversed in the early 1980s. But the Soviets are building so rapidly that the United States will lose ground if it settles for maintaining current force levels. Thus, if historical trends continue, the defense budget must rise by significantly more than 4.5 per cent per year just to hold America's relative military position. In addition, any catch-up investments or enlarged capabili-

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ties, such as the Rapid Deployment Force, will require more than the 4-7 per cent increases currently being debated. Changes of this magnitude naturally raise questions about the macroeconomic impact of military expenditures.

Effects on the Economy It is only in the last 30 years that the guns-

versus-butter issue has become prominent during periods of peace. Previously, Amer- ica maintained large standing forces only during wartime. The advent of nuclear weapons and intercontinental ballistic missiles, as well as the presence of a permanent adversary with a large and growing military forced the United States to maintain a significant peacetime military capability, both to deter aggression and to respond rapidly to serious threats. Fortunately, the healthy economy of this era could sustain relatively high defense budgets of about $150 billion in 1980 dollars.

Indeed, the share of the GNP devoted to national security actually decreased from more than 12 per cent in 1953 to about 5 per cent at the end of the 1970s. Meanwhile, nondefense federal expenditures grew from rough equivalence with defense spending to levels more than three times larger and still expanding. Thus defense is no longer the dominant government expenditure. It has become vulnerable today, however, mainly because the proposed increases are so large and because core domestic entitlement programs, such as Social Security and Medi- care, are politically sacrosanct.

Increases in military expenditures are more difficult to sustain in times of slow economic growth. Optimistic forecasts sug- gest that real economic growth in the next four years will average only 3.5 per cent annually. For political reasons, defense budget increases of 4-7 per cent annually cannot be wrung solely out of this growth, let alone the 10 per cent annual increases President Ronald Reagan pushed through Congress in 1981 and 1982.

To be sure, the full economic effect of the two-year build-up has yet to be felt. Only 14

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cents of each defense procurement dollar is spent the year it is authorized, 38 cents the following year, and 27 cents during the third year. Payments for ships and other major purchases can stretch out for more than seven years. In all likelihood not even the short-term impact on employment and inflation is apparent yet. Nonetheless, a defense budget of about $250 billion directly and indirectly supports 6-7 million jobs in the public and private sectors. Moreover, since 1929 the United States has used its full production capacity only during periods of armed conflict. Thus it is natural, when unemployment and international tensions rise, for the government to view defense spending as a possible stimulus to employment. And, indeed, each $1 billion in added military spending creates approximately 25,000-35,000 jobs.

The claim that defense goods fuel inflation simply because they are not used in the civilian economy and are therefore unproductive is an economic myth.

Despite the extensive literature in the area, comparisons of the employment bene- fits of peacetime defense spending with those of other government fiscal or mone- tary alternatives are highly ambiguous. Some argue that defense is a better stimulus, because it is more capital-intensive and thus creates a greater economic multiplier for the dollars invested. Analysts in the Congressional Budget Office find that defense and nondefense federal spending have roughly the same job-creation capability. Still others say that defense cannot absorb most unemployed workers and therefore does not stimulate much employment. De- fense procurements place a heavy emphasis on skilled labor, making a disproportionate demand on the less than 3 per cent of workers who are aerospace engineers, computer programmers, and skilled blue-collar laborers, such as tool and die makers and

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machinists. These ambiguities should cau- tion those who would base the defense debate on the jobs issue.

Inflation is the other major short-term issue raised by defense spending. The claim that defense goods fuel inflation simply because they are not used in the civilian economy and are therefore unproductive is an economic myth. Usefulness, it must be emphasized, is a subjective judgment. The

economy does not and cannot determine whether automobiles, hula hoops, or gar- dening services are more useful than tanks. Rather, the production of each generates income for the producer and removes income from the consumer. Government in- volvement simply requires that the money for the government purchases come through the secondary mechanism of col- lecting taxes. But the question whether the government buys food for distribution to the poor or tanks for distribution to the military is not economically important. Public spending of any kind is inflationary if taxes are not collected to pay for it, and noninflationary if taxes are collected.

Prices rose at an average annual rate of 3.7 per cent during the first three years of the last four military build-ups-World War I, World War II, Korea, and Vietnam. So, increased inflation does tend to accom- pany spurts in defense spending. However, inflation can be held down if nondefense spending is cut or if taxes are increased- which Washington failed utterly to do during the Vietnam war. Analyses over- whelmingly indicate that the defense build- up's impact on inflation will be dwarfed by the effects of nondefense spending. If Rea- gan's proposed build-up continues through 1987, defense will still consume only 7.7 per cent of the GNP. These levels are not trivial; marginal reductions in defense spending may indeed have important and positive psychological effects on the financial markets. But the effect of military spending on overall inflation will be determined by the speed of economic recovery. If, contrary to most expectations, the civilian economy surges dramatically-and particularly if

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this expansion is led by high-technology industries - competition between civilian and military demands on resources could generate inflationary pressures.

The government's ability to pay whatever is required for defense can crowd out comparable civilian efforts in capital-intensive industries, in the labor market for scientists and engineers, in electronics and computer fields, and in the aircraft industry. But crowding out is not expected to take place quickly, mainly because spending defense dollars takes time and because the factories in defense-intensive areas now operate well below capacity-only 70 per cent in the aerospace and shipbuilding industries and lower in the metals industries. Even rapid civilian economic growth would not produce significant pressure until 1986. The defense build-up is thus not likely to touch off general inflation. Within selected defense sectors, however, inflationary effects on defense goods are most likely by 1985. Some specialized defense-parts suppliers already have raised prices as defense spending has increased in the late 1970s and early 1980s. This trend will accelerate as the military build-up continues.

The arguments surrounding longer-term national growth are similarly complex and ambiguous. Many claim that the low percentage of GNP spent by Japan and West Germany on defense-in 1981, 0.9 per cent and 4.3 per cent, respectively, compared with approximately 6 per cent for the United States-accounts for their much higher productivity growth rate. Others argue that nonmilitary factors amply account for their post-World War II economic miracles. Moreover, no one has demon- strated that defense spending per se saps national productivity. In fact, during the 1970s American productivity growth and defense's share of the GNP both declined.

Those who investigate the productivity and growth issue tend to look in more detail at two specific areas: the machine-tools industry and research and development (R&D). Some argue that machine-tools man-

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ufacturers have neglected to control the costs of their products because the military, a major customer, does not allow price increases to affect its purchases. Civilian customers must pay the same high prices for machine tools, which damages productivity in the nondefense economy. Others, however, note that defense's need for high- technology products has spurred major innovations throughout the machine-tool industry. The revolution in numerically controlled machine tools, for example, was sponsored by the military.

Defense's effect on the U.S. R&D effort is also debatable. The Pentagon contributes more than one-quarter of all R&D dollars and employs between one-quarter and one- third of the country's scientists and engineers. Many complain that defense R&D

work displays no cost sensitivity and thus does not train engineers for the cost-con- scious civilian economy. But others note that immediately after World War II military technology accelerated the creation of totally new civilian industries, such as com- puters, jet aircraft, nuclear power, and satellite communications.

Clearly, capital-equipment investment and R&D are both required to insure long- term American productivity and economic growth. Yet those who argue that defense is constricting civilian investments in these areas overlook the fact that the United States has no coordinated nondefense program like Japan's Ministry of International Trade and Industry to stimulate industrial development. Nor, the record shows, has there been sufficient incentive for private industry to make the very expensive, high- risk, long-term investments required. In many cases the choice is not between defense and civilian stimulation, but between defense and no stimulation.

Reductions in defense expenditures are no panacea for the record budget deficits confronting the United States. The spending gap will remain near $200 billion until 1985 and grow to $270 billion by 1988. These enormous figures result primarily from broad tax cuts and from continued

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high levels of federal nondefense spending. The defense build-up is only a minor con- tributor. Even the largest proposed reductions in defense spending of up to $20 billion or more a year are far too small to shrink the deficit significantly.

Improving Efficiency In the meantime, defense growth needs

still appear to exceed the 4-7 per cent annual defense budget increases currently being debated. Over time, improving efficiency may enable the United States to resolve this

budget problem. Options abound on the

manpower side, including reducing rotation rates, changing retirement and salary struc- tures, and closing some of the country's inefficient military bases, which alone could save $2-3 billion per year. Nonetheless, political factors dictate that the principal savings likely to be realized in the next few years are in the weapons systems.

The military question of which systems to buy greatly affects defense efficiency. But

political problems quickly emerge. During the 1980 campaign, for example, Reagan attacked then President Jimmy Carter's cancellation of the B-1 bomber as a symbol of the diminution of U.S. military might and proposed to build 100 B-Is at a cost of more than $20 billion. Such weapons must be fully justified as militarily necessary if they are to win public support.

Interservice rivalries also politicize the weapons acquisition process, often threaten- ing opportunities to improve military capa- bilities significantly. While technology has changed dramatically over the last 30 years, the roles and missions of the services have been adjusted only marginally. Today, the services jump at any opportunity offered by technology to make systems bigger and faster. Yet they reject or delay the introduc- tion of new technology whenever it requires changes in traditional service roles and missions or threatens traditional theo- ries of equipment usage. Innovations such as antiship missiles, remotely piloted vehi- cles, or "electronic battlefields" may be disregarded, even when they offer the op-

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portunity for dramatic breakthroughs in military capability. Service roles and missions must therefore be overhauled. Some of the current proposals to reorganize the Joint Chiefs of Staff represent a good start in this direction.

Finally, weapons procurement often becomes an exercise in providing defense contracts for the districts of powerful con- gressmen and senators rather than a pursuit of high performance and efficiency. Con- gressional doves are just as guilty of this practice of military pork barrelling as congressional hawks. The resulting systems and subsystems are usually produced at uneconomically low rates, reducing defense efficiency even further.

Interestingly, the Department of Defense is generally acknowledged as one of the best managed and least political of all government agencies. Defense cost overruns are comparatively lower than those of other federal agencies. But clearly there is room for improvement, as studies from sources as diverse as the U.S. Air Force, the Heritage Foundation, and military-reformer Frank- lin Spinney have shown. While the United States continues to improve the quality of its systems, the quantities produced have been falling dramatically. In the 1950s, for example, the United States bought about 3,000 fighter planes per year. But this figure nose-dived to about 1,000 planes annually during the 1960s and to about 300 planes annually during the 1970s. Extrapolating these data leads to some astonishing conclu- sions: Private defense analyst Norman Au- gustine notes that at this rate the United States will produce exactly one very high- performance plane in the year 2054.

What is particularly alarming is that even though the defense procurement account has been increasing since the mid-1970s, fewer planes result from these dollars. But this is not due to fraud or intentional abuse. Rather, it stems from a variety of problems in the way that defense business is done, the structure of the defense industry, and the budget process itself. Some of these problems were recognized by then Deputy Sec-

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retary of Defense Frank Carlucci in 1981, but extensive reforms in the weapons acquisition process have yet to be implemented.

If not properly handled, the proposed defense-spending increases may themselves constrain an efficient build-up. Although today's overall increases are actually less rapid than the build-ups for either the Vietnam or Korean conflicts, the Reagan administration's proposed procurement increases are more rapid, almost doubling this account during the five-year plan. Such a rapid procurement build-up could create

production bottlenecks. Individual industries may have shortages of various workers, production equipment, parts, or raw mate- rials, which can delay entire projects. As

output stalls and demand rises, inflationary pressures will mount.

The United States is one of the few countries, if not the only country, in the world with a one-year defense budget.

However, bottlenecks will not emerge everywhere. Today's high unemployment and low plant and equipment utilization rates have created some slack in most of the biggest defense-intensive industries. Capac- ity utilization in most of these sectors is

expected to grow only to about 81 per cent, whereas full employment is defined as 85 per cent. Nevertheless, in some sectors, such as aerospace and shipbuilding, and in sectors where civilian demand is likely to grow rapidly, such as electronics and instru- ments, selected capacity utilization rates may grow to 87 per cent by 1985. Bottle- necks will begin to develop unless capacity is expanded further. Despite the consider- able slack still present in these sectors, the multiyear nature of the build-up will permit expansion only if manufacturers are con- vinced that they can rely on stable business in the years ahead.

Far more worrisome bottlenecks are likely to appear at the lower level of subcon-

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tractors and parts suppliers. Major defense contractors survived the post-Vietnam period, often by shifting to foreign military sales or by absorbing the business of their suppliers. But many smaller firms left the defense industry permanently, even during the defense build-up that began in the late 1970s. Small companies find it more difficult to cope with fluctuating demand and government procurement regulations than do their larger counterparts. Thus bottlenecks in such critical areas as castings, forgings, electrical components, and preci- sion bearings emerged in 1979-1980, and more can be expected throughout the forth- coming defense build-up.

The few remaining highly specialized suppliers at the lower tiers are frequently the sole sources of critical items for many different defense programs. But demand increases cannot be expected to generate new suppliers as they would in a normal market, because the tenuous and difficult nature of the defense business serves as a great barrier to entry. Prime contractors must often use the same suppliers as equipment orders increase, permitting these firms simply to add the new orders to their growing waiting lists and frequently to raise their prices. In the absence of competition, lower-tier contractors can avoid making the capital investment that would reduce their backlog but also lower their profits. These suppliers can also delay deliv- ery, often as much as three years, with impunity, thereby stretching out major weapons system deliveries and increasing costs dramatically. Thus inflation for defense equipment in recent years has far exceeded the already high rates for civilian goods. From 1976-1982, inflation for Penta- gon purchases from defense industries out- stripped rates for civilian durable goods by 40 to 100 per cent.

The other two causes of defense bottlenecks that have been observed in recent years, both of which are expected to worsen in the near future, are shortages in selected categories of skilled workers - aerospace engineers, computer engineers, skilled ma-

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chinists, and tool and die makers-and shortages in selected pieces of large production equipment. The most expensive ma- chinery available is already producing at maximum capacity, so additional demand cannot significantly increase production. Long-term stability in defense orders would greatly alleviate the problem by giving the defense industry incentives to eliminate bottlenecks. Unfortunately, stability is probably the most important major charac- teristic that is missing from the American defense budget.

Imagine a business changing all of its purchasing commitments every year. Pri- vate companies could not and do not operate this way; multiyear purchasing agree- ments are the rule. And the U.S. government cannot operate this way either, if it has any interest in becoming efficient. In- credibly, the United States is one of the few countries, if not the only country, in the world with a one-year defense budget. Worse, members of Congress and their staffs pore over every new budget, making innumerable adjustments, stretch-outs, re- directions, and other add-ons. Rationalizing this process hinges on establishing a stable, multiyear defense budget.

But even before this enormous task is undertaken, very useful improvements can be made, starting with the Defense Depart- ment's own planning and budgeting system. The Defense Department traditionally fo- cuses almost all its attention on next year's budget. This practice encourages the services to devise ways to squeeze down and stretch out each and all their programs to make them fit within the amount allotted for the next year, in hopes of somehow finding the remainder in future years. Among the results are such phenomena as an aircraft production rate of one every two months-it is almost impossible to build systems this slowly-and 15-year development periods for new weapons, which make them obsolete by the time they are ready to be deployed. When future budgets fall short of anticipated or hoped-for levels, defense planners are left with the unpleasant choice

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of canceling some programs or stretching them all out. The time-honored latter approach creates a vicious circle: Still greater inefficiencies lead to further cost increases, which in turn encourage further stretch- outs. An estimated savings of 20 per cent could be achieved by stabilizing the Depart- ment of Defense budget.

The so-called cost overruns on individual weapons systems are probably the best- known inefficiencies in defense procurements. On average, program costs double during the acquisition cycle. The most obvious explanation is the initial economic optimism surrounding the planning of each new program. Further, lower cost estimates make the program appear more attractive. Congress makes matters worse by demand- ing and permitting unrealistic estimates in program justifications. And the problem is compounded by the government's winner- take-all bidding policy. Only the low bidder wins each new contract and from that point on becomes the sole developer and producer of the new item for up to 20 years. The losers are effectively exiled from that market for years. Thus there is great incentive to buy in by bidding low. History shows that changes are almost inevitable, voiding original contracts and requiring the Penta- gon to renegotiate with a monopoly supplier. It is obvious why program costs grow in this environment. But why the government does not expect it is not obvious. Defense costs cannot be controlled without requiring more realistic cost estimates, even though that will mean higher initial budgets for programs, and the ability to start fewer programs within budget limits.

The main problem with the defense acquisition process is that real competition virtually ends after the initial R&D contract for a project is awarded. From then on, the Pentagon finds itself stuck with a single supplier that can raise prices almost at will. The way to lower prices is not by imple- menting more regulations but by providing the Defense Department with alternative suppliers throughout the weapons acquisition process. One promising scheme is

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called dual sourcing: It forces two or more producers to compete continuously for an annual share of total production, with the percentage awards based upon the prices bid and the prior year's equipment performance. Dual-sourcing experiments tried in the past have yielded net program cost savings of 30 per cent. Unfortunately, the critical distinction between competition for an award and the continuous presence of competitive alternatives is largely lost on the Defense Department and on Congress.

In addition to holding down the rising costs of individual defense programs, changes in the acquisition process should also focus on the high cost of striving for maximum system performance and on the exorbitant growth rate of costs from one generation of equipment to the next. Squeezing the final 5-10 per cent of performance improvements out of new systems usually adds 20-50 per cent to their total cost. Thus only slight reductions in performance can cut the price of a weapons system dramatically. The marginally reduced performance of each individual weapon would be more than offset by the far greater quantities the Pentagon could purchase. Ad- vanced technology should be used not only to improve performance but also to lower costs.

Another desirable way to reduce the performance-based cost growth of succes- sive generations of weapons systems is to borrow the West European idea of creating new systems by modifying existing equipment as new technology for subsystems evolves rather than constantly building new systems from scratch. This approach was used in the United States for the F-4 fighter aircraft. Costs actually fell in constant dollars and constant quantities from one generation to the next, but performance increased dramatically as new radars, new navigation systems, and new missile systems were added to the basic airframe. This modifica- tion approach also puts improvements into the field much quicker.

Finally, a revitalization of the defense industrial base is also necessary to improve

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efficiency. Unfortunately, the United States is the only country in the world that does not treat its defense industry as a vital national resource. It has been assumed that the market will create the economic efficiency and, strategic responsiveness needed in this sector. However, it is simply not realistic to expect such a response in a market with only one buyer-the government-and at the most very few suppliers for any given product.

In addition to adopting a stable long-term defense budget and dual sourcing, the government should institutionalize an approach that explicitly introduces industrial- base considerations into long-term Penta- gon planning and into specific program acquisition decisions. The government must also help restructure the defense industrial base by creating conditions in each sector that can exploit natural market forces and permit the free enterprise system to remove industrial bottlenecks and allocate resources rationally. This restructuring would have to take place gradually, but some reforms can be introduced almost immediately. In over- crowded sectors of the industry, for example, the market must be allowed to operate honestly and winnow the field down to a few competitive firms. They could then be encouraged to modernize, through appropriate incentives, including targeted tax and profit policies. By contrast, additional firms should be encouraged to enter markets where there is only one supplier.

The Big Economic Danger

History shows that the country can afford considerably more defense spending than the 4-7 per cent annual increases currently being debated. Even 7 per cent annual increases would only raise defense spending to about 7.7 per cent of the GNP in 1987, compared with the 10 per cent level sustained during the Eisenhower administration and the 9 per cent figure achieved by the Kennedy administration.

The United States can also increase defense spending without touching off a new

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burst of inflation, without choking important nondefense federal programs, and without endangering future GNP or productivity growth. There is a necessary penalty to pay, however, in the form of a tax increase to cover the projected deficits. The

inflationary impact of the overall spending gap, not of the defense budget, is the big economic danger.

If historical defense acquisition trends continue, however, even proposed defense

budgets beyond the Reagan levels will be insufficient to cover national security needs. Leonard Sullivan estimates that if historical trends continue it will take about 8 per cent of the GNP simply to prevent force aging and to keep up with the technological advancements required in U.S. equipment. Expansion of the force to include some of the new missions covered by Defense Secre-

tary Caspar Weinberger's posture state- ments would require approximately 9 per cent of the GNP. The long-range solution to this problem is to establish a broad new set of credible and affordable national security strategies. In the short run, however, the size of the discrepancy between military needs and the defense budget will be determined by which U.S. weapons are pro- cured, how rapidly defense acquisition reforms can be effected, the Soviet rate of defense expenditures, and how quickly the defense industrial base can be restructured.

The highest short-term priority is to combine increases in the defense budget with improvements in the defense acquisition process-even if the latter requires increased funding. But pouring money into the Pentagon under existing conditions will

simply raise the prices of defense equipment, not provide the greater quantities required. The longer the wait, the more the current inefficiencies will cost, in dollars and in security. The changes are required now, and the taxpayers deserve them.

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We Can Afford Security