Select Committee on Defence Fourth Report


The defence budget

22. The transformation of the Armed Forces set out in Future Capabilities, will require substantial resources. However, Future Capabilities does not set out how much the transformation is expected to cost. It takes place against a background of increases in the defence budget. On 21 July 2004, the Secretary of State announced that:

23. We were constantly assured during this inquiry that capabilities were not being withdrawn or reduced in the short and medium term in order to fund these longer term improvements. In all cases capabilities were being withdrawn, we were told, because the current threats and challenges did not justify their retention. Nonetheless it was clear that the overall budget was very tight and that some difficult choices were made. As Admiral Sir Alan West, First Sea Lord, told us, 'You have to cut your cloth according to the amount of money that is around'.[15] As we noted above the most immediate consequences of the Future Capabilities proposals are reductions in existing equipment and manpower. In a number of cases, the service Chiefs have expressed regret that those reductions have to be made. It is not initially obvious why this should be necessary when the defence budget is experiencing 'the largest sustained growth in defence spending plans for 20 years'.

24. In addition to the increases to the defence budget—an average of 1.4 per cent a year in real terms over the three years to 2007-08[16]—substantial resources are expected to be produced as a result of MoD's Efficiency Programme; the reduction in orders in the current equipment programme (for example, reductions in the number of Nimrod MRA4 aircraft and Type 45 destroyers); and the reduction in current equipment (for example, Jaguar aircraft, Mine Counter Measure Vessels and AS90 self propelled howitzers).

25. It has not been easy to establish how far the implementation of the Future Capabilities proposals depends on the full release of the predicted sums in each of these different categories. Asked directly whether the ability to fund the proposals would be dependent on achieving the efficiency gains, the Secretary of State replied:

    All of the money that we save in making our systems more efficient… will be available to invest in front-line activity. The more we are able to save from generating capability more efficiently and more effectively the more we have available to spend on front-line activity.[17]

He was also confident that the efficiency targets for 2004-05 would be met. This remains to be seen, but it is far from clear that the achievement of the headline target would actually release the sums implicit in the individual targets. For example, the MoD achieved its overall efficiency targets in both 2002-03 and 2003-04, despite the fact that the Defence Procurement Agency (DPA) had failed to meet its individual efficiency target in both of those years by a total margin of £4.8 billion (£3.1 billion in 2002-03 and £1.7 billion in 2003-04). This appears to have been possible because of the weighting system used by MoD to assess its overall efficiency performance. Under that system each of the five individual efficiency targets contributes a certain percentage to the achievement of the overall target. These five targets cover training, procurement, logistics, managements costs and disposal of land and building.

26. The £4.8 billion failure in the procurement target contributed just half as much to the calculation of MoD's overall efficiency performance as the Defence Estates over-achievement of its individual target which was worth a total of £230 million over the same period. Indeed the individual target of the Defence Logisitics Organisation (DLO) contributes 68 per cent to MoD's overall target on its own, even though in monetary terms DLO's efficiency programme achieved just £297 million in 2003-04.

27. In practical terms of course these sums are not directly comparable. Much of the money raised from sales of the defence estate is presumably available for spending on other priorities in the year in question. The efficiency savings in the DLO may similarly release immediately useable funds. The over-runs in the DPA, on the other hand, largely represent increases in estimated costs to be paid in future years and various other charges (see below). It might seem not unreasonable therefore that MoD gives a proportionately lesser weight to these predicted, even notional, overruns than to the immediate cash-in-hand gains from the DLO and the defence estate.

28. But this may be short-sighted. MoD's ability to fund the long term transformation required under Future Capabilities will be at risk if the additional resources have to be utilised elsewhere. There may already be evidence that this is happening. The Winter Supplementary Estimates 2004-05 proposed a decrease in Net Provision of some £840 million for Commander-in-Chief Fleet, Commander-in-Chief Land Command and Commander-in-Chief Strike Command.[18] The decrease for Strike Command was some 12% of the previous Net Provision. By contrast the DPA received an increase in Net Provision of some £1billion—a 50% increase in the previous Net Provision. On the face of it this reallocation represents a significant in-year shift of resources from the front line to pay for procurement overruns.

29. However, MoD told us that the alterations to the budgetary allocations for Commander-in-Chief Fleet, Commander-in-Chief Land Command and Commander-in-Chief Strike Command in the Winter Supplementary Estimates represent 'decreases in depreciation and cost of capital charges relating to previously planned fixed asset holdings. The changes brought these Top Level Budgets into line with the revised defence programme announced on 21 July 2004 [the Future Capabilities statement]'.[19] In the case of the DPA, MoD told us that the 'budgetary allocation… represents the non-cash consequences of changes in provisions for liabilities and charges and is not linked in any way to cost increases on major defence equipment projects'.[20]


30. In its response to our 2004 Defence Procurement Report, MoD stated:

The cost increases on the four legacy projects represented £2.7 billion of the total overrun of £3.1 billion in 2002-03. Around £1.1 billion of that total was incurred as interest on capital charges. We do not have a similar breakdown for 2003-04, for which the total overrun was £1.7 billion, but it is unlikely that such charges represented a greater proportion of that year's overrun. On which basis it would seem that some £3.5 billion of the total overrun of £4.8 billion in the two years 2002-03 and 2003-04 were not incurred as interest on capital charges.

31. We appreciate that resource accounting creates charges on assets and capital which in some senses do not represent real expenditure. Nonetheless they have to be managed within overall limits set by the Treasury. In-year increases in one area need to be off-set by decreases elsewhere. And, as we understand it, if they cannot be, 'real' money must be found to make up the difference. MoD appears to be arguing that operational commands saved depreciation costs because they did not have the equipment which through continuing delay was still stuck on DPA's books and thereby giving rise to some of the cost increases identified by the NAO. In this area at least the introduction of Resource Accounting and Budgeting (RAB) has not increased transparency. Although RAB may capture more information in total, it makes tracking individual items of expenditure between years on a comparable basis considerably more difficult. But whatever accounting practices are applied to these overruns, in the end, they will translate into real increases in the total lifetime costs of defence equipment. So both the transfers in the Winter Supplementary Estimates and that proportion of the total procurement overruns which are charges on capital may be seen as illustrative of the cost to MoD (and more pertinently the Armed Forces) of the DPA's failure to provide equipment on time. The consequences may have a limited effect on affordability, but they still represent a poor use of tax-payers' money.

32. However, the greater part of the overruns (on our estimation around £3.5 billion in 2002-03 and 2003-04) must have a more direct impact on the programmes themselves. Lieutenant General Fulton, Deputy Chief of Defence Staff (Equipment Capability) explained to the Committee of Public Accounts how these impacts might be managed:

    There is not a one-to-one relationship between the change in one programme and the effect because there is a range of impacts that it will have. The first thing that we need to do is to trade performance within a project and therefore we might in a particular programme reduce either the capability or reduce the numbers of that. Next we might build the capability rather more slowly, so that we profile it over time. Next, we might contain it within a group of projects so that, for example, cost or time overrun within one intelligence gathering system might be offset by capabilities in other parts of the capability… we are very well aware of the need also to take account of the need to run on old equipment so as to fill the gap if there is a delay because that is the other way we can fill that gap.[22]

These are all real impacts on real programmes intended to deliver real capabilities to the Armed Forces.

33. MoD must press ahead with the full implementation of its plans to re-invigorate the Smart Procurement initiative, which it continues to maintain will deliver equipment projects to time and cost. Only if these plans are successful will it be able to exploit the forecast savings from reductions in existing equipment. MoD must also ensure that its efficiency programme delivers its targets as useable additional funding. Those funds will be needed to deliver the ambitious programme of transformation set out in Future Capabilities within the proposed timescales.

Service accommodation

34. Future Capabilities projected that total Armed Forces personnel would be reduced by about 10,000 over the period to April 2008.[23] Over the same period the MoD's civilian workforce is expected to be reduced by a similar figure. There are approximately 300,000 people in the MoD and the Armed Forces combined. A reduction of 20,000 would be a little under seven per cent of that total. According to the Secretary of State the proportion of the budget spent on equipment 'will remain roughly consistent in the years ahead'.[24] If the operational tempo in the future remains broadly similar to that of the recent past (as is foreseen in Delivering Security and Future Capabilities), there should be greater opportunity to allocate funds to other areas, such as accommodation, which have not received the attention they deserve.

35. On our recent visit to Cyprus we saw examples of very poor married quarters housing. We were told that Commanding Officers' budgets did not include provision for their refurbishment and that, in some cases, essential repairs (for example to make houses water-tight) could only be afforded by delaying statutorily required works, such as water supply and drains maintenance. The Secretary of State admitted that one of the factors which would determine when the arms plot (see paragraphs 66-74 below) could be ended was the need to bring Army accommodation up to an acceptable standard.[25] Future Capabilities also proposes that the RAF will concentrate onto fewer larger bases.

36. We regularly heard about (and were shown) poor accommodation during visits in connection with our Duty of Care inquiry. In some cases, funds for refurbishment or improvement promised at the start of the financial year had subsequently been withdrawn. Although the primary focus should be on operational needs, we should not lose sight of the drip down effect that poor accommodation will have on morale, state of training and discipline, and hence operational effectiveness. Service accommodation across the defence estate is too frequently of a poor standard. Although the Future Capabilities proposals focus on operational needs, MoD must not lose sight of the necessity to find funds to bring accommodation for all service personnel up to an acceptable modern standard. We recommend that MoD commits itself to a clear timetable within which the necessary improvements will be made.

14   HC Deb, 21 July 2004, c 343 Back

15   Q 504 Back

16   National Audit Office-Ministry of Defence: Major Projects Report 2004. HC 1159-I. Session 2003-2004. Para 2.4. Back

17   Q 711 Back

18   There was also an increase of a little under £38 million in the budget of the Chief of Joint Operations, leaving a net decrease to the front line of some £800 million. Back

19   Ev 180 Back

20   Ev 180 Back

21   The Government's Response to the House of Commons Defence Committee's Sixth Report of Session 2003-04 on Defence Procurement, para 12. Cm 6338. Back

22   Committee of Public Accounts, Ministry of Defence: Major Projects Report 2004, Minutes of Evidence, Session 2004-05, HC 294-i, Q 18 Back

23   Cm 6269, p 12. This calculation includes a reduction of about 1,500 in the Army. See eg Q 4. Back

24   Q 710 Back

25   Q 23 Back

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