On Growing Operating Costs in the Armed Forces

Abstract

Operating costs per unit of input or output are often claimed to grow faster in defence than elsewhere in the economy. In this paper, we outline several possible reasons as to why operating costs increase at higher rates in defence, including differences in the input factor mix and productivity growth, the technological complexity required to maintain the relative effect of weapon systems and a gradual reduction in the number of units and activity. We investigate whether operating costs grow at a faster rate than elsewhere in the economy, by estimating growth in real output unit costs in the Norwegian Armed Forces for the period 1994–2013, using activity as a measure of output. We find no increase beyond general inflation in structural (fixed) costs, whereas activity-based (variable) costs per unit of activity increase significantly.

Keywords:

• Cost growth
• output costs
• operating costs
• operating cost growth

Acknowledgement

The author is grateful for feedback at the Annual Conference on Economics and Security as well as two anonymous referees.

Notes

1. Similar terms are effectiveness, as used by Kirkpatrick (1995), or relative fighting power, as used by Jones and Woodhill (2010).

2. Arena et al. (2006) use customer driven instead of actor-driven. The use of such a term on a general basis could indicate that the entire growth is due to the customer. We suggest the term actor-driven to indicate that, even though the customer decides to upgrade to a more advanced weapon system, this upgrade is a response to actions by other actors. This should in no way be interpreted to mean that customers have no influence over the level of cost growth.

3. Nordlund (2016) uses a different terminology, where defence specific cost escalation = defence specific inflation + customer driven cost escalation.

4. From Table 1, the other three terms would be growth in real input unit costs (GRIUC), growth in nominal output unit costs (GNOUC) and growth in nominal input unit costs (GNIUC).

5. The large variations between years for the DA-20 occur because of heavy maintenance intervals of approximately 18 months apart. Because Norway has three of these aircraft, costs spike (almost) every second year.

6. Of course, costs cannot rise as long as there is no willingness to pay, and cost growth has to be seen in relation to this. Willingness to pay for a 5% increase in quality can be far more than 5%, because the effectiveness of the new system relative to that of the adversary increases by more than 5%.

7. Gaining a competitive edge does not need to happen in the form of an arms race, but can happen through continuous improvement of for example training.

8. A slightly different number is provided by Carlson (2006), claiming that from 1971 to 2006 the increase in Air Force fighter aircraft age increased from 9 to 23 years.

9. A somewhat less important effect of ageing is that, as the lifespan increases with each successive generation, so does the time during which the input factor mix is fixed. During development of a new product, important changes are made with regards to future costs. While the costs of change are initially small and the freedom of choice is great, costs of change increase and freedom of choice is reduced as development progresses. The optimal input factor mix can change dramatically over a 30-year life cycle period. For example, fuel efficiency will be of greater concern if the oil price doubles, but the use of fuel per flight hour cannot be changed until a new generation is developed. A prolonged lifespan can therefore lead to a higher cost growth than would otherwise have been the case.

10. US president Dwight D. Eisenhower coined the phrase military industrial complex in his famous 1960 speech, where he said that ‘we must guard against the acquisition of unwarranted influence, whether sought or unsought, by the military industrial complex. The potential for the disastrous rise of misplaced power exists and will persist’ (http://coursesa.matrix.msu.edu/~hst306/documents/indust.html).

11. Spinney (1980) uses the term military industrial congressional complex and Hartley (2016) the phrase military-industrial-political complex.

12. Costs related to international operations are also included, since international contributions are a large part of the activity in some years.

13. We used (8) in log form in our estimation.

14. From (8), if v _i  = γh _i , where γ ≠ 0, then $r\frac{{\sum }_{\forall i}{v}_i{a}_{t,i}}{{\sum }_{\forall i}{v}_i{a}_{t-1,i}}=r\frac{{\sum }_{\forall i}\mathit{\gamma }{h}_i{a}_{t,i}}{{\sum }_{\forall i}\mathit{\gamma }{h}_i{a}_{t-1,i}}=r\frac{{\sum }_{\forall i}{h}_i{a}_{t,i}}{{\sum }_{\forall i}{h}_i{a}_{t-1,i}}$, meaning that there exists an infinite number of possible solutions, and that the weights can be rescaled without affecting the result.

15. Subsample estimates are not printed here, but are available from the authors upon request.