Presentation: Remarks by Loren B. Thompson, Ph.D., to the Reuters Aerospace & Defense Summit
(Source: The Lexington Institute; issued Dec. 5, 2007)
Samuel Johnson once remarked of a contemporary that, "He was dull in a new way, and that made many people think him great."

I try to keep that remark in mind when preparing my thoughts for forums such as this one, because it is very easy to be boring when talking about the defense budget.

Our military posture may involve matters of life and death on a daily basis, but people who follow it with that degree of frequency often over-estimate how much others want to hear on the subject.

I plan to avoid being dull today by only speaking for ten minutes, and then responding to questions so that you can set the agenda for most of what gets discussed.

What I'd like to focus on in my opening remarks is recent trends in U.S. spending for military technology, assessing how those trends will shape demand for weapons during the rest of the decade.

The United States spends about as much money on advanced military technology as the rest of the world combined, so knowing what the Pentagon plans to buy in the years ahead tells you a lot about the character of the entire global arms market.

Let's begin by looking at the scale of U.S. defense spending.

The buying power of the Pentagon's baseline budget has increased by about a third since the year 2000, from $364 billion to $482 billion in constant 2008 dollars. If we add in the $22 billion to be spent this year on nuclear weapons by the Energy Department, the military budget tops half-a-trillion dollars.

And if we then also add supplemental appropriations to cover the cost of wars in Iraq and Afghanistan, the total approaches $700 billion.

That is more after-inflation buying power than we have seen in the military's budget since the end of World War Two, and it has enabled the Pentagon to wage a multi-front war without having to give up on ambitious plans for leaping ahead to a new generation of weapons.

But the Bush-era surge in defense outlays is now coming to an end.

Even if war-weary Democrats do not win the White House in 2008, the Bush Administration's own plan envisions no significant growth in the buying power of military budgets after 2009.

In fact, if all the administration's budget plans for the so-called "out-years" to 2013 came to fruition, total defense outlays would decline from four percent of gross domestic product today to three percent early in the next decade.

I think there is a real possibility that will happen if the Iraq war winds down and the economy keeps growing.

But what I want to examine today is not trends in the "top-line" of defense spending, but rather trends in the composition of defense spending, especially within weapons accounts.

Here are the three big trends I see at work...

-- First, the cost of pay and benefits for military personnel will continue rising inexorably, meaning that if defense spending levels off, consumption outlays will tend to crowd out investment outlays.

-- Second, the role of unconventional threats such as terrorism and weapons of mass destruction in driving demand for defense goods is waning, while the impact of conventional threats is rising.

-- Third, the influence of "military transformation" as a driver of defense demand is disappearing fast, even though transformation was supposed to be the chief defense legacy of the Bush years.

Let's look at each of these trends in turn.

Consumption versus Investment
The first trend I identified was that rising personnel costs would increase the level of consumption outlays in the defense budget at the expense of investment accounts.

What that means in layman's language is that as the cost of maintaining the existing military establishment goes up in a static defense budget, the availability of money for investing in future weapons goes down.

Now, the cost of maintaining current equipment and infrastructure doesn't have to go up, because we can accept reduced readiness in order to limit outlays in those areas.

But the cost of personnel will rise for at least four reasons...

-- First, the active-duty headcount of the ground forces is programmed to increase by 92,000 personnel in response to manpower shortages in Iraq.
-- Second, the need to recruit and retain personnel for an all-volunteer force means the Pentagon must match levels of compensation in private job markets.
-- Third, the cost of military healthcare benefits is rising faster than the rate of inflation, just like in the private sector.
-- Finally, Congress can't seem to restrain itself from offering military personnel an ever-increasing array of new entitlements.

Put those four factors together, and you have a prescription for continuously rising personnel outlays. Thus, if the defense budget levels off, personnel costs will start to eat into funds that had been set aside for weapons spending.

Conventional versus Unconventional
The second trend I identified was the waning of unconventional threats as drivers of demand for defense goods, and the corresponding increase in the role of conventional threats.

If you review defense-department strategic pronouncements since the end of the cold war, and especially since 9/11, you will find a growing preoccupation among policymakers with unconventional threats -- terrorists, insurgents, rogue regimes bent on obtaining nuclear weapons, and so on.

That concern was formalized as a rationale for cutting outlays on conventional warfare during the 2005 quadrennial defense review, when policymakers produced a matrix of future threats supposedly demonstrating the need to redirect defense preparations to unconventional dangers such as nuclear proliferation.

But at the same time the department was re-orienting its warfighting priorities, the unconventional threats driving the change were beginning to recede.

Consider what has happened in just the last year...

-- We learned Iran abandoned its nuclear-weapons program the same year we invaded Iraq.
-- North Korea agreed to give up its own nuclear aspirations in return for aid.
-- Israel destroyed a nascent nuclear project in Syria.
-- A change of strategy in Iraq greatly reduced insurgent violence.
-- And for the sixth straight year, Al Qaeda failed to mount a follow-on attack to 9/11 in America.

Whether this remarkable progress reflects the wisdom of Bush security policies or the weakness of the threat, it's obvious the danger posed by unconventional threats is receding.

That enables military planners to focus on the threats they prefer to address -- conventional forces fielded by other industrial powers.

So in the years ahead, you can look forward to renewed funding of conventional weapons systems like the F-22 fighter, the Virginia-class submarine, and the Armed Reconnaissance Helicopter.

Transformation versus Tradition
The third trend I identified was the rapid disappearance of military transformation as a driver of demand for defense goods.

You remember transformation -- that mystical blend of jointness, agility and mania that was going to posture our military for quick defeat of any adversary.

Donald Rumsfeld thought transformation was going to be his biggest achievement as defense secretary, before bin Laden and Zarkhawi came along to demonstrate the narrowness of his vision.

America's near-death experience in Iraq has thoroughly discredited transformation, with devastating consequences for the net-centric programs begun on Rumsfeld's watch...

-- Space Radar, one of Rumsfeld's two big space initiatives, is effectively dead.
-- Transformational Satellite Communications, the other big space initiative, will be severely pared back in the 2009 budget.
-- The Navy's radical project to construct a modular, networked littoral warship is being delayed by years.
-- The Joint Tactical Radio System conceived to put the entire joint force on the same wavelength is melting down.
-- And Army insiders are hinting darkly that it is just a matter of time before the hyper-networked Future Combat System is dismembered.

As Richard Aboulafia and I predicted at last year's summit, military transformation is most sincerely dead -- so much so that policymakers are increasingly reluctant to even utter its name for fear of sounding ridiculous.

The bottom line on all three trends I mentioned to you is that the Pentagon is reverting back to its pre-9/11, pre-Rumsfeld investment priorities, with weapons expenditures likely to shrink as a share of defense outlays in the years ahead -- even as the twin pillars of transformation and counter-terrorism that drove Bush-era spending on military technology crumble away.

Seven years after the Bush Administration began, the future of demand for military technology looks surprisingly similar to what prevailed before the President took office.


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