I noted in the previous post ^[1] in this series that planned increases to the Defence Department budget are concentrated in its capital investment program, which rises to nearly 40% of the total budget. Since the capital program traditionally is the area that gets hit when Defence has to take a budget cut, that area could be a tempting target should the government need to find funds.

But there’s another potential threat to the capital program, and that’s an internal one. Since the 2016 defence white paper, the capital budget has underspent by around $4.8 billion. Meanwhile, the sustainment program has overspent by a very similar amount. There’s a lot going on behind those numbers (exchange rate adjustments, changes to accounting methods, and so on), but overall it looks like sustainment costs have increased more than expected and Defence has had to dip into capital funding to cover it.

The pressure on the capital budget could get worse as sustainment costs increase. Let’s look at Defence’s four megaprojects. (For the purposes of this exercise, I’ve normalised all costs to real 2019–20 dollars to compare apples with apples.)

The first is the Attack-class submarine. Sustaining the six Collins-class submarines over the past seven years has cost on average $615 million. There will be twice as many Attack-class boats, and they’ll be around 50% bigger. They’ll be more complex, with more subsystems and more software, and will operate more unmanned and autonomous systems. So, it’s reasonable to assume the sustainment cost for the Attack class will be at least three times more than Collins, or $2 billion. Granted, that spending’s a long way off; the first boat won’t be handed over to the navy until 2032, and the twelfth 22 years later.

The second is the Hunter-class frigate. Sustaining the eight Anzac-class frigates has cost on average $361 million over the past seven years. The nine Hunter-class frigates will be more than twice as big (around 8,000 tonnes compared to 3,600 tonnes). They’ll have more capability, like 32 vertical launch missile cells compared to the Anzacs’ eight. Doubling the Anzacs’ sustainment cost would be $700–750 million, and that’s probably understating it. Again, those costs are a fair way off, with the first Hunter expected to be operational around 2030 and the ninth somewhere in the mid-2040s.

The third megaproject is the F-35, but we’ll look more broadly at the air combat fleet. In contrast to the previous two programs, these costs are increasing right now. The air force is in the middle of a long transition from an air combat force consisting of the F/A-18A/B ‘classic’ Hornet and the F-111 to one consisting of the F-35, the F/A-18F Super Hornet and the EA-18G Growler. The total for the air combat fleet in 2007–08 was $335 million. Because the force is in transition, there isn’t a steady state to compare it to, but the cost last year was $691 million and Defence predicts $832 million this year. If we project out to the end of the transition when the classic Hornets have retired and all F-35s are in service, the number could reach $946 million, if the F-35’s hourly flying costs don’t come down. So, overall, the cost of the air combat fleet is at least doubling and coming close to tripling.

The fourth is the army’s armoured vehicle program, LAND 400. Here there’s some worrying new news. Phase 2 acquires 211 Boxer combat reconnaissance vehicles to replace the ASLAV fleet. An economic impact study commissioned by Defence was recently released ^[2] in response to a freedom of information request. The study was completed in March 2018, the same month the government announced it had selected the Boxer, so we can assume it was based on tendered cost data. The study presents a $9.6 billion out-turned whole-of-life sustainment cost for the Boxer. If we convert that to a constant, or real, number, it’s around $225 million per year (or $1 million per vehicle). According to data provided by Defence to ASPI, the average sustainment cost of the ASLAV fleet over the past seven years is $43 million. So that’s a five-fold increase.

The really worrying bit is when we project that onto phase 3, which will acquire up to 450 infantry fighting vehicles ^[3] to replace the army’s obsolete M-113 fleet. These tracked vehicles are likely to be even bigger than the Boxer. That suggests they’ll cost at least as much as the Boxer to operate. So, the cost for the fleet will be at least $450 million. The average annual operating cost for the M-113 over the past seven years is only $17 million.

In short, the annual sustainment cost of the armoured vehicle fleet is going from around $60 million to potentially $700 million. Granted, Defence likely hasn’t been using the M-113 much; it’s not a deployable capability so it’s probably being allowed to gracefully degrade. So $60 million might not be a complete picture. But $700 million is more than the Collins, currently Defence’s most expensive capability.

It’s not just the megaprojects and things being delivered far in the future that are showing big increases. The offshore patrol vessels will be around $200 million per year, based on information Defence provided to the Senate, compared to the Armidale-class patrol boats at around $100 million (and a doubling seems underdone to me in light of the disparity in size and capability). The army is now completely dependent on software-driven systems (for example, communications, battle management, and fire control systems) all of which will need frequent updates. And there’s new capabilities in Defence’s force structure plan that aren’t replacing any existing capabilities, so they’re entirely new costs.

Defence is making big bets on the affordability of its future force, but is it bound to lose those wagers? Not necessarily. Overall, the economy grows in real terms. Over the past two decades, GDP has grown by around 80% in real terms, with the defence budget growing by 95%. So, even if Defence’s budget stays at around 2% of GDP, its government funding too will grow in real terms.

The problem is that the cost of military equipment also grows in real terms, but generally much faster than inflation. That’s why virtually every Western military is shrinking. While Australia’s defence budget has nearly doubled over 20 years, the Australian Defence Force hasn’t come close to doubling. The number of uniformed personnel has grown by only 14%, and platform numbers have remained fairly stable (albeit with some entirely new capabilities added, like the Wedgetail early warning and control aircraft).

Therefore, the scale and duration of the impact of Covid-19 on the economy will be crucial. A short, sharp recession that’s a temporary blip on the trajectory of Australia’s GDP will make it easier for the government to honour its commitment to increased defence spending. But the affordability of the future force will still be under pressure from the spiraling cost of systems. A prolonged, grinding recession or even depression will affect both GDP and the defence budget, making it very unlikely that Defence will be able to both buy and operate the planned force, even with 2% of GDP.