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The defence budget and the IIP –

status and outlook

Andrew DaviesASPI

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Outline

Where we were: the 2016-17 defence

budget & DWP 2016

What’s changed since (MYEFO and

beyond)

Risks to the forward budget

The IIP and the looming train wreck

ASPI-RMIT Symposium: Jobs, growth and innovation in Defence IndustryADM Conference 2017

Where we were: the 2016-17 defence

budget & DWP 2016

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Operationsfunding

Baseline funding

Defence Spending

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Time

GDP share

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2016-1

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OperationsfundingBaseline funding

Defence Spending + $14.8

billion

4.3% p.a.

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Capital Investment

Sustainment

Employee

Operating Expenditure

7.7% p.a. growth

5.7% p.a. growth

0.25% p.a.

growth

0.5% p.a.

growth

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What’s changed since (MYEFO and

beyond)

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GDP forecasts

2015-16 2016-17 2017-18

Budget 2.5 2.5 3.0

MYEFO 2.7 2.0 2.75

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Defence spending as % GDP

2016-17 2017-18 2018-19

Defence budget $32.4b $34.5b $36.8b

GDP % (budget) 1.88 1.92 1.94

GDP % (MYEFO) 1.93 1.96

NO EXTRA MONEY

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Risks to the forward budget

If things don’t go as well as planned: the cash problem

If things go as well as planned: the surplus trap

Who knows what’s going on in the global economy?

They the people (and their inconvenient expectations)

Externalities

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Debt Reduction =

Economic SecurityVoter Expectations

=

Political Security

Defence Spending

=

Strategic Security

$

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Fiscal challenges: each dollar can only be spent once

2002-2012 PBO

2016 Budget

Budget Share

Social services 3.70% 4.95% 27.60%

Health 4.80% 3.13% 14.30%

Education 4.60% 4.37% 8.60%

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Policy makers can neither explain nor manage the economy we are in today.

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For many years economists have been predicting stronger future growth

For many years that has not been happening

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8…

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0…

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2…

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4…

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6…

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8…

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2…

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4…

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Receipts (%GDP)

Payment (%GDP)

And yet: very

optimistic fiscal

projections

Budget 2016-17

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If a miracle happens…

•Treasury currently projects a surplus in 2020-21

•Worth looking at defence spending the last time that ‘happened’

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2009-10 2010-11 2011-12 2012-13 2013-14 2014-15 2015-16 2016-17 2017-18 2018-19 2019-20 2020-21

Bill

ion d

olla

rs

Deferrals

Savings cuts

Reductions in Defence Spending

since the 2009 Defence White Paper

-5

-4

-3

-2

-1

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2009-10 2010-11 2011-12 2012-13 2013-14 2014-15 2015-16 2016-17 2017-18 2018-19 2019-20 2020-21

per

cen

t G

DP

Underlying cash balance

as budgeted May 2012

? ? ? ? ?

The surplus trap…

once upon a time (2010 – 2012)

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The IIP, the industry policy and the looming

train wreck

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What does the (not very transparent, thorough or helpful) IIP tell us?

Key questions

Cost – is there enough money?

Schedule – will the stuff be delivered in a timely

way?

Capability – is it what we need to meet our

Defence aims?

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Capital Investment

Sustainment

Employee

Operating Expenditure

7.7% p.a. growth

5.7% p.a. growth

0.25% p.a.

growth

0.5% p.a.

growth

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Money

$160+ billion for capital investment

over the next decade

Compares with $70 billion over

past 10 years

Capital will be 40% of budget

in 2025-26 (28% now): $18.8B

versus $9.5B this year

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Conclusion is that money is unlikely to be a limiting factor (though the ability to spend it

all might be)

Artist’s impression of

Defence CFO circa 2023

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Which brings us to… schedule

“The fact that we are not getting cost blowouts

after 2nd pass does indicate that most of the

projects have been de-risked to an appropriate

level. The area we’ve identified as a problem

though is schedule”.

Stephen Gumley, 2011

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Schedule delays mean

ADF does not receive capability when expected

Older equipment has to soldier on and/or there is a

capability gap (e.g. air-to-air refuelling)

Monetary impact due to old equipment and project

overheads

Often (not always) associated with real cost

increases

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Schedule delays

Pre-approval – largely Defence’s

responsibility

Post approval – largely industry’s

responsibility (unless Defence changes its

requirements)

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Approvals

Two pass process has been streamlined into a

three pass process…

Gate 0 1st

pass

2nd

passProject delivery

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Catch Up

Second Pass

First Pass

Approvals – past, present and (near) future

So far this FYHistorical average

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Getting approvals is just the first step

“There is no question that this is a matter of profound national importance, that as far as possible we use our defence dollars to drive Australian industry, Australian innovation, because the benefits go well beyond the defence budget.”

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Innovation

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None of the developmental projectshave been delivered without a 40% overrun in schedule, and the average is 92%—almost double the planned time.

ANAO data

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Hurry up!

The first pass approval for the offshore patrol vessels, with construction to begin in Adelaide in 2018, following the completion of the Air Warfare Destroyers program and then the OPVs construction will transfer to Western Australia when the Future Frigate construction begins in Adelaide in 2020.

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Link

“Valley of death”

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… but hurry slowly.

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Programs with requirementchanges

Programs without requirementchanges

Program delay (months)

(US) GAO data

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Augustine* says:

Law Number XXIV: The only thing more

costly than stretching the schedule of an

established project is accelerating it, which

is itself the most costly action known to man.

*Norman, not Saint

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How MOTS will the designs be?

Submarines – not at all

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How MOTS will the designs be?

OPVs – substantially(?)

As part of the Competitive Evaluation Process (CEP) three designers have been shortlisted; Damen of the Netherlands, Fassmer of Germany, and Lürssen of Germany to refine their designs. This program is estimated to be worth more than $3 billion.

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How MOTS will the designs be?

Frigates – somewhat

First pass approval for the Future Frigates under Sea 5000 has also been granted. Three designers -- BAE Systems with the Type 26 Frigate; -- Fincantieri with the FREMM Frigate-- Navantia with a redesigned F100have been short-listed to refine their designs.

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How MOTS will the designs be?

Frigates – somewhat, but…

The frigates will all be built in Adelaide, incorporating the Australian-developed CEA Phased-Array Radar.

(Much) more modification than for AWDs

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We will likely need foreign purchases

The alternative is to return money to portfolio –

and to tempt future governments to renege on

funding.

But even if we ramp up foreign

spending Australian industry can

still get more money.

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As overall defence funding increases,

Australian industry funding will increase

over the next decade.

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Questions & Discussion

2016 Defence White Paper Masterclass