9.8 Defence and national security

Background

The Commonwealth Government’s expenditure on Defence and national security totalled $37.4 billion in 2013-14 (Department of Finance). The largest component of this spending was for the Department of Defence and the Defence Materiel Organisation (DMO), at $30.6 billion. Other significant agencies included the Department of Foreign Affairs and Trade, the Australian Federal Police (AFP), the Australian Customs and Border Protection Service (Customs) and the intelligence agencies.

The Department of Defence was one of the original departments of state at Federation in 1901, assuming control of the state militias. Over the intervening century, this largely part-time force progressed into a standing professional force we recognise as today’s Australian Defence Force (ADF). While legally the Department of Defence, the ADF and the DMO are separate bodies in practice they work together so closely that organisational boundaries are often blurred.

Over the past few decades, the law enforcement agencies (notably the AFP and Customs) have transformed from focussing on specific Commonwealth crimes to organisations that deal with a broad range of threats including terrorism and control of the borders. The decision in 2009 to change the name of the Australian Customs Service to the Australian Customs and Border Protection Service is illustrative of this change of focus.

Generally, all the organisations involved in national security enjoy a reputation for high levels of competence and professionalism in their core tasks.

Rationale for government intervention

The Government’s election policy states that ‘the first priority of government is to ensure the nation’s defence and security’. Defence is the classic ‘public good’, which would not be provided by the market. And while law enforcement proper is also a public good, security and guarding functions that protect private assets are not (such as security at airport terminals). Furthermore, government responsibility does not necessarily mean government provision. Opportunities may still exist for outsourcing.

Two important principles underpin budgeting for defence and national security. First, it is not possible to decisively counter all possible threats to national security with Australian capability. At best, governments can develop capabilities to counter the most significant threats, after which some risk will remain, which it can try to manage through diplomacy and alliance relationships. Second, all government expenditure ultimately involves a balance of priorities. What government chooses to spend in one area is not available in another or needs to be raised through debt or taxes. Defence and other national security expenditure is no different in this regard.

Current structure of the programme

The key government decision-making body on national security is the National Security Committee (NSC) of the Cabinet. The NSC is chaired by the Prime Minister and includes the Deputy Prime Minister, Treasurer, Attorney-General and the Ministers for Defence, Foreign Affairs, and Immigration and Border Protection. Other ministers, such as the Minister for Finance, are invited to attend meetings as required.

The NSC focuses on major international security issues of strategic importance to Australia, border protection policy, national responses to developing situations (either domestic or international) and classified matters relating to aspects of the operation and activities of the Australian intelligence community. Government guidance is found in a number of white papers and other policy documents.

An overarching leadership, policy guidance and coordination role for national security is provided by the national security area in the Department of the Prime Minister and Cabinet. In a similar way, the Director-General of the Office of National Assessments (ONA) undertakes a coordination role for the Australian intelligence community.

The boundaries of ‘national security’ are blurred. The National Security Strategy (Department of the Prime Minister Cabinet, 2013) states that ‘national security is a broad and evolving concept’ and mentions food security, natural disasters, pandemics and trade benefits. The Commission has focused on a more conventional understanding of the term, centring on threats to state sovereignty and engaging the state’s capacity to use force.

Defence’s budget arrangements are different to that of all other government agencies. Most Defence resourcing is classified as departmental and in Outcome 1. This allows Defence to reallocate funding internally at its discretion, essentially providing a ‘single line budget’. Further, Defence estimates include funding for future capabilities. Other agencies would need to produce a new policy proposal and business case for the Expenditure Review Committee (ERC) of the Cabinet before new funding is allocated. In contrast, Defence funding is released by the NSC and the threshold for referral to the Committee is higher for Defence projects than applying to other agencies bringing capital business cases to the ERC.

Trends

Spending on national security, including Defence, grew by 3.1 per cent per year in real terms from 2001-02 to 2013-14. Government policy decisions reflected, inter alia, increased concerns about international terrorism and the number of overseas operations involving Australian forces. Over the last few years, spending growth has moderated.

  • Most of this growth was in the period to 2009-10 and has plateaued since then.
  • Non-Defence national security spending grew by 5.2 per cent per year in real terms from 2001-02 to 2013‑14. Within this group, spending by the Australian Security Intelligence Organisation (ASIO) grew most rapidly at just under 14 per cent per year in real terms.
  • The Government’s election commitments included that there be no further cuts to Defence spending and within a decade Defence spending will be 2 per cent of Gross Domestic Product (GDP) – a figure which includes the departmental appropriations for the Department of Defence and DMO but not administered funding (mostly military superannuation, see Box 9.8.1). Currently, this spending is at 1.66 per cent of GDP and the current estimates indicate that it will grow to 1.75 per cent of GDP later in the decade.

Charts 9.8.1 and 9.8.2 below show historical and projected national security expenditure, in the absence of policy change.

 

Chart 9.8.1: National security, 2001-02 dollars and nominal spending

This chart shows the increase in National Security spending since 2001-02 in nominal and real terms.

Source: Department of Finance.

 

Chart 9.8.2: Breakdown of national security spending

This chart shows the breakdown of National Security spending since 2001-02, with the largest portion being Defence spending.

Source: Department of Finance. Data for ADF operations includes only operational commitments to end June 2014.

Box 9.8.1: How much does Defence spend?
Public sector accounting practices provide several different presentations for how much an agency is spending. The choice of measure depends on what the information is intended to show. In the case of Defence, the main presentations are:

• spending based on the defence function ($25 billion in 2013-14) as included in Statement 6 of the annual budget papers. This functional classification of expenditure incorporates methodology used by the Department of Finance and provides a standard framework for comparing expenditure by purpose across function and through time. It is unaffected by reorganisation of departments. However, some Defence spending is mapped to other functions — in particular military superannuation.

• a Defence funding envelope, based on departmental appropriations ($26 billion in 2013-14). This includes the total departmental appropriations provided by Parliament to the Department of Defence and DMO but omits administered appropriations, the largest component of which being military superannuation, and any own source revenue. Statements about Australian defence spending as a percentage of GDP typically use this number.

• all parliamentary appropriations to Defence and DMO including military superannuation but excluding own source revenue (around $31 billion).

Drivers

Changes in the strategic environment have implications for the nature of threats that Australia might have to counter.

Defence also faces ongoing cost pressures. This includes the increasing real costs of military equipment, often driven by increased capability and increasing personnel costs, reflecting a desire to attract and retain high quality personnel. The 2008 Defence Budget Audit estimated that military equipment costs would grow by 3.5 per cent per year in real terms (Department of Defence, 2009). The real average annual growth in Defence personnel costs (including employee benefits) — military and civilian — over the past 10 years (to 2011-12) was 3.4 per cent.

Issues

Strategic priorities, resourcing and transparency

The Government’s commitments on not cutting Defence spending and for Defence spending to reach 2 per cent of GDP within a decade provide an important context for the Commission.

The level of resourcing for Defence and the national security agencies involves a strategic choice for government. Different choices on resourcing provide for the development of sets of capabilities that can each counter a particular range of threats, but ultimately some strategic risks will remain. Government needs to balance its security priorities against other Budget priorities.

Making a long-term funding commitment has both benefits and risks. It recognises the essentially long-term nature of developing capability. Military equipment is expensive, can take years to acquire and may have a useful service life of decades. Likewise, recruiting and training the personnel that are integral to capability can take many years, particular for highly skilled and senior leadership roles. A clear funding envelope and stable priorities allow for the planning needed to develop capability efficiently.

However, the strategic environment, technology and the economic environment can change, at times rapidly. The best long-term plans still require regular adjustment to ensure that they align with the realities of the situation.

The credibility of spending commitments is also an important consideration. In its submission to the Commission, the Australian Strategic Policy Institute (2013b) noted that over the past thirty years governments have consistently failed to deliver the funding commitments Defence has used to formulate plans.

The Commission considers that the starting proposition for Defence funding should be to determine the defence capability required to successfully counter the various strategic risks Australia could face and then match this with appropriate funding to address the highest priority ones. Determining what is required to secure Australia’s defence interests – and estimating what it will cost – should be the job of the 2015 Defence White Paper.

The Commission considers a sensible way of approaching this task is for the Government to use the White Paper process to consider the strategic risks and associated capability requirements that different levels of funding can address. This should allow for a better balance between risk and resourcing — and implies a force structure focused on the most important threats.

Current Defence spending plans are ambitious and there is merit in considering a narrower view of strategic priorities.

The funding commitment will put pressure on the remainder of the Commonwealth Budget. Depending on the profile, it could cost around $25 billion in additional funding for Defence over the period to 2023‑24 (see Chart 9.8.3).

 

Chart 9.8.3: Projected Defence departmental spending

This chart shows the projected growth in Defence expenditure to 2023-24, and the Commission assessment of the additional growth needed to reach 2 per cent of Gross Domestic Product.

Source: National Commission of Audit.
Excludes administered expenditure, mostly military superannuation, which is not part of the 2 per cent of GDP spending commitment.

A series of previous Budget decisions has pushed Defence funding into the out years, resulting in a bow wave of spending and very rapid real growth in the later part of the decade.

Additional budget pressures can come from changes to military superannuation and military operations. Traditionally, Defence funding guidance only relates to departmental expenditure (not administered) and funding for the net additional cost of military operations has been provided in addition to the funding guidance. Presenting Defence expenditure inclusive of expenditure on pensions would be consistent with the methodology for international comparisons of military expenditure (see Stockholm International Peace Research Institute, 2013).

However the Government chooses to address the balance of resourcing and strategic interests, a guarantee of funding growth brings with it a requirement to show that this money is being used efficiently.

A dedicated funding envelope runs the risk of reducing the quality of the policy justification of spending proposals within the envelope, as the proposals do not need to compete with those from other agencies. Further, increased funding poses implementation challenges. Defence and defence industry have found it difficult to absorb previous funding increases.

In between white papers, governments need to be in a position to monitor implementation, ensure that value for money is being achieved and be cognisant of the triggers for a more fundamental review such as embodied in a white paper.

The 2000 Defence White Paper (Department of Defence, 2000) aimed to provide improved accountability by Defence to government through a new planning and budgeting process based on a new product, an annual Defence Financial Management Plan (subsequently retitled the Defence Management and Finance Plan). While the Defence Annual Report still lists producing the plan as a key performance indicator for Defence, it has not been produced for several years.

The Defence Management and Finance Plan did not necessarily meet the objective of helping ministers make informed strategic and budgetary decisions on Defence. The Kinnaird Review (Department of Defence, 2003) observed that:

Although… a large amount of material is provided to government, it is dense, not strategically or top-down focussed, and often not sufficiently directed at what government needs to know to ensure that it remains in control of the process.

We are also not confident that government has been receiving adequate advice and information to enable it to make strategic decisions on an informed basis, in terms of the balance of funding between capital and through-life support for existing and proposed capabilities. In particular, there has been inadequate attention given to managing and costing defence capabilities on a whole-of-life basis and this has manifested itself in a large logistic funding shortfall.

As noted above, Defence funding is mostly departmental and allocated to a single outcome. This gives Defence significant discretion to reallocate funding internally – in effect a single-line budget. In the absence of agreed plans and performance reporting, this provides Defence with the capacity to reallocate funding, particularly if projects slip.

To ensure that reallocation of funding aligns with the Government’s strategic objectives, the process would be reinforced if the Government exercised stronger oversight of resource allocation.

Governance, processes and organisation

Organisational arrangements provide an important context for driving improvements in efficiency. It is not clear that Defence headquarters in Canberra has the capacity to drive efficiency and better policy outcomes. In particular, the Defence organisation has grown more complex and top-heavy over the years.

Since 2000 the number of Senior Executive Service (SES) officers has grown by 63 per cent and the number of star ranked officers by 58 per cent. Civilian executive level grades have increased by 104 per cent (Australian Strategic Policy Institute, 2013a).

  • This growth in complexity makes it even harder for Defence’s two chief executives - the Secretary and the Chief of the Defence Force (CDF) — to provide clear direction to the organisation. Prior to the 1997 Defence Efficiency Review, Defence had four 3‑star (Lieutenant General equivalent) officers and four Deputy Secretary equivalents. Now the numbers are seven and 14 respectively
  • Growth in civilian and military personnel based in Canberra is shown in Chart 9.8.4. Essentially, public service numbers have grown by about 4,000 while military personnel have grown by about 1,000 (military figures are obscured by the closure of the helicopter school at RAAF Fairbairn in the period 1998 to 2003).

 

Chart 9.8.4: Defence staff – Australian Capital Territory (ACT) and total

This chart shows the Defence staff in the Australian Capital Territory (military and civilian) and total civilian staff from 1998. Notably, Civilian staff in the ACT increase from just over 5000 to around 9,500.

Source: Department of Defence, various years.

Former Defence Deputy Secretary, Professor Paul Dibb, recently commented ‘that it is about time to revisit the huge bureaucracy that has been created in the defence organisation on Russell Hill’ (Dibb, 2013). Dibb has further noted that DMO ‘has become a hugely complex and ponderous bureaucracy’ (Dibb, 2014).

The efficiency and effectiveness of Defence capability development and procurement processes has been a longstanding issue, commented on by previous reviews. The Australian National Audit Office (ANAO, 2013a) listed 10 major reviews and audits of Defence capability development since 2000. The ANAO identified a number of common themes – such as capability development skills shortages; the lack of independent scrutiny; the need for clear and consistent risk assessment, whole-of-life cost estimates, and rigorous analysis of costs and risks. These are outlined in Table 9.8.1 for five of the major reviews.

While the creation of DMO as a separate entity was a recommendation of the Kinnaird review (Department of Defence, 2003), it has not worked well in practice. There is little evidence of improved accountability, while it allows for duplication of corporate services and reduced transparency between the two organisations. A number of submissions were highly critical of DMO’s activities in relation to project management and the lack of longer term contractual relationships with industry (Ai Group, 2013, Dibb, 2014).

Efficiency and performance

Maintaining the momentum for reform in Defence will be a critical issue. The history of Defence implementing reform shows the magnitude of the challenges. The ANAO (2013) noted that many previous reviews had highlighted the same issues. The Review of the Defence Accountability Framework (Department of Defence, 2011) listed 10 previous major reviews of Defence accountabilities, dating back to 1982.

The areas in which savings can be found are generally well known and articulated in several reports. The Strategic Reform Program established after the 2009 Defence White Paper, and originally envisaged as a decade long programme of reform, listed work streams covering logistics, smart sustainment (including inventory), Information and Communications Technology, ADF reserves, non-equipment procurement, shared services and workforce. In addition, it envisaged cost savings coming from a zero-based budgeting review, cost reductions in minor capital programme, cost reductions in the facilities programme, administrative cost reductions, productivity improvements, reduction to net personnel and operating costs guidance, and refinement of personnel initiatives.

The Defence Management Review 2007 looked at the question as to why Defence was ‘not as dynamic and responsive as it should be.’ It attributed this to ‘accountability structures, business processes, the quality and availability of management information, the preparation of senior managers and prevailing attitudes’.

 

Table 9.8.1: Recurring themes in reviews of capability development in Defence

Theme

2000: Defence Governance,
Acquisition and Support

2003:
Kinnaird Review

2008:
Mortimer Review

2009:
Pappas Review

2011:
Black Review

Turnover of capability development staff

High turnover of capability development staff prevents the development of skills and experience necessary in such a complex and specialist area.

Yes

Yes

Yes

Yes

Yes

Chronic and critical shortage of skills essential to develop robust major capability proposals

Cost estimation is a technical discipline and requires specialist skills. High levels of skill are critical to delivering capability and making accurate cost estimates that enable informed capability/cost decisions. CDG personnel (both cost estimators and Desk Officers—now known as ‘project managers’) have low average cost-estimating experience. Cost estimates must reflect whole-of-life costs.

Yes

Yes

Yes

Yes

Yes

Initial entry of a project into the DCP warrants close attention. The DCP should be realistic, affordable, prioritised and consistent with government expectations

Underestimation of the cost of new equipment specified in the DCP and of the associated operating costs, and lack of prioritisation of DCP projects. Overprogramming and over-planning, which include both including more projects in the DCP than Defence can afford and starting more projects than required, to accommodate potential schedule slippage in projects.

x

Yes

Yes

Yes

Yes

Lack of independent scrutiny of proposals undermines quality

Absence of scrutiny of capital investment proposals to assess affordability, schedule risk and commercial aspects of acquisition by staff who are organisationally independent of the proposal sponsor.

Yes

Yes

Yes

Yes

Yes

Technical risk is critical and should be clearly and consistently assessed and communicated to government

Technical risk is a major factor in the acquisition of new defence capabilities. It is the major cause of both post-approval project slippage and cost escalation.

x

Yes

Yes

Yes

Yes

Acquisition decisions should be based on a comprehensive whole-of- life cost estimate

Understanding whole-of-life costs is essential to effective decision-making on capability options. Inadequate attention given to managing and costing defence capabilities on a whole-of-life basis results in funding shortfalls for ongoing operating, maintenance and support costs.

Yes

Yes

Yes

Yes

Yes

Effective information systems that provide cost information for major capabilities

Defence systems cannot readily provide consistent, reliable or complete information of the operating cost of current capabilities. Incomplete cost information about current capabilities prevents Defence from making reliable fact-based estimates of future operating costs, and means estimates of those costs are based on general assumptions rather than reliable historical data on cost drivers.

Yes

Yes

Yes

Yes

Yes

Rigorous analysis of costs and risks associated with requirements set beyond those of off-the-shelf equipment

Requirements beyond off-the-shelf equipment generate what Mortimer described as 'disproportionately large increases to the cost, schedule and risk of projects' and therefore should be based on 'a rigorous cost-benefit analysis of additional capability sought against the cost and risk of doing so'. This analysis must be clearly communicated to government. Each and every decision to pursue a unique Australian solution needs to be made with a full understanding of not just the benefits but also the extra cost and risk of doing so.

Yes

Yes

Yes

Yes

Yes

Committees and accountability

Too many committees with too many members; representational in nature rather than limited to those essential to provide informed advice to accountable decision-makers; features of committees result in dissipated accountability and responsibility; improved committee processes required.

Yes

Yes

Yes

Yes

Yes

Source: ANAO, 2013a.
NOTE: a tick indicates that the issue was raised in the relevant review.

Potential areas for reform

Strategic priorities, resourcing and transparency

No government can afford a force that can deal with every threat in every situation. The best that can be done is to manage the most important risks.

The Government has committed to a new Defence White Paper that is ‘costed’ and ‘affordable’. This implies focussing force structure on the most important threats. Moreover, it should allow a good buffer for optimism bias in relation to both cost and schedule.

  • Inherent to the strategic analysis is understanding the balance between strategic and fiscal priorities. The strategic analysis underpinning the White Paper should allow the Government to adjust longer-term financial guidance for Defence (and other national security-related agencies) to reflect the strategic and fiscal circumstances at the time.
  • Analysis in the context of the White Paper could help identify whether a set of strategic priorities that focus on the most compelling threats could allow for a more affordable force structure.
  • A deterioration in Australia’s strategic circumstances and a better fiscal environment might suggest that an increase in Defence funding is possible, while an improving strategic environment coupled with a worsening fiscal outlook could imply that Defence funding should be reduced. Of course, our international obligations to allies may influence this.
  • Defence resourcing needs to be closely aligned to strategic need if the resources are to be used efficiently. Clear guidance on priorities is essential for being able to make value for money judgements on national security priorities.

The planning process should be supported by performance assessment. The difficulties of assessing future capability against unknown threats are recognised, but a combination of peer assessment, self-assessment and more tangible measures of unit availability, can be used.

Reporting the ‘tooth-to-tail ratio’ – the number of effective personnel in the combat force, compared to training or support roles, will be an important means to monitor the overall efficiency of the Defence organisation. The Commission could not determine Defence’s tooth-to-tail ratio from its published data.

Managing the increase in Defence funding to 2 per cent of GDP, or even keeping spending on the current estimates, will introduce many challenges should the Government choose that course. The absorptive capacity of Defence and defence industry are limited and additional funding can come at the cost of efficiency. It is not apparent that increased funding should be unconditional and prudence would dictate that, with a deteriorating fiscal outlook, Defence should demonstrate its capacity to spend existing funding more efficiently.

Defence’s funding model has been unique in the Commonwealth, in that funding growth has been incorporated in its estimates. Other agencies need to approach government with specific proposals before funding is allocated.

Changes to improve government visibility and control of the Defence budget are desirable. These include:

  • Revising the Outcome structure for Defence. A separate outcome for future capability – including the Defence Capability Plan, facilities and ICT capital programmes and net personnel and operating costs would ensure that there is visibility on the balance of spending between longer term investment versus current activities.
  • Unapproved capital spending could be held in the Contingency Reserve and released as administered funding as proposals are considered by government. This funding could be classified as administered, meaning that if it is not spent as planned it is returned to the Budget.

There would be merit in adopting a model that applies to the Defence Capability Plan and other capital programmes and any associated net personnel and operating costs, involving:

  • The existing NSC reviews of Defence project business cases would remain.
  • An annual review of Defence investment plans by the ERC as part of the Budget process.
  • A separate budget allocation would be maintained for future capability, with funds for future projects still under development retained in the Contingency Reserve, similar to the way funding provisions for growth in aid spending had been managed.
  • In the year project approval is to be given the funds could be appropriated to the special account or similar mechanism (perhaps modelled on the Advance to the Finance Minister) to allow spending to commence in that year. Should there be any significant variation between the ERC agreed investment plan and what is proposed by Defence, the Minister for Finance could refer the decision back to the ERC.
  • Once the project is approved, the residual capital funding could be released to Defence as an administered appropriation through the normal budget process. Net personnel and operating costs would continue to be appropriated as departmental. Section 5.1 of the Appendix provides more detail on administered and departmental funding.

Where Defence and other national security proposals have additional financial implications they should be considered by the ERC.

International comparisons of Defence spending usually include all costs, including military pensions. We see this as an opportunity to provide better visibility of the true cost of Defence by ensuring that administered funding (which includes military superannuation) is routinely included in figures presented on the cost of Defence.

Governance, processes and organisation

The Government has an election commitment to appoint a ‘high profile team to review the structure of the Defence Department and all its major processes. The focus of the review will be on achieving more streamlined and less bureaucratic decision-making.’

Four issues merit particular attention: the growth in staff numbers in Defence Headquarters in Canberra, the organisational arrangements that facilitate the CDF and Secretary providing leadership to the organisation, the adequacy of arrangements for capability development and procurement, and the organisational arrangements to support and challenge the development of policy.

On the size and complexity of the Defence Headquarters, there is little justification for the growth in staff numbers, particularly in senior positions. A leaner, simpler Defence Headquarters should be a priority. Reversing this should be a major focus of the review of structures and processes.

The higher structure of Defence, jointly headed by the Secretary and CDF managing the Department and ADF as an integrated organisation, should be within the scope of the review. The current model has considerable merits, including being able to best apply the differing skills possessed by military and civilian personnel who are often integrated down to section level, and ensuring that less costly public servants are used instead of military personnel wherever possible. However, this model risks unclear accountabilities, with the Secretary and CDF jointly responsible for every aspect of Defence’s business.

While splitting Defence into two organisations, such as was done in New Zealand in the late 1980s, is a possibility, this would involve significant dislocation for unclear benefits. The smaller size of the New Zealand organisation made physical separation achievable, with the New Zealand Defence Force retaining a significant civilian workforce. However, this was accompanied by deterioration in cooperation between the New Zealand Defence Force and the Ministry of Defence, the duplication of functions and the weakening of civilian oversight of the military (see Quigley, 2006; and the Department of Defence, 2007a).

In contrast, more clearly articulating the separate and joint responsibilities of the CDF and Secretary, as recommended by the Defence Management Review 2007, offers a better option for ensuring accountability for resources and performance. A draft Ministerial Directive modelled on that proposed in the Defence Management Review (but reflecting the Commission’s view on DMO) is included at Attachment 9.8.1. Clear articulation of responsibilities forms the basis for ensuring that senior managers can be held to account for performance, including the Secretary and the CDF.

As noted above, the efficiency and effectiveness of capability development and procurement has been an ongoing issue for Defence. One part of that is organisational arrangements that apply to DMO.

The review of structures and processes will need to consider the future of DMO. The Government’s election policy suggests that an option would be for it to become a ‘more independent agency’. The alternative would be to reintegrate it into Defence, avoiding duplicated process and improving transparency and accountability. The current arrangements result in:

  • a disconnect between strategic guidance relating to capability and the development of that capability;
  • accountability that is too diffuse to be effective;
  • complicated processes that span both entities, such as the closure of projects, budgeting, accounting, reporting and banking;
  • an inability for either Defence or DMO to capture and adequately plan for the full costs of capability; and
  • isolation of information and the absence of a whole-of-enterprise management environment.

Any improvements to the Defence-DMO business relationship should recognise major structural issues.

  • Defence, as an enterprise, is a single entity comprised of diverse components that work towards three Defence outcomes for government. This limits how and under what circumstances elements of Defence might exercise a degree of autonomy in strategic decision-making and administrative action.
  • Development of capability engages many different parts of the Defence organisation. Capability development and implementation at project, programme and portfolio level is a dynamic process that extends across organisational boundaries (including beyond the Defence organisation).
  • Effective management of capability is a major whole-of-enterprise task. Organisational responsibilities and supporting management systems need to extend across all of the constituent components to facilitate the comprehensive information required to manage the capability process as a single, end-to-end process across the entire Defence enterprise.

There are two options relating to the Defence DMO relationship which potentially could improve results of the Defence capability environment for government.

  • DMO remains as a Prescribed Agency (i.e. with financial autonomy). Under this option efficiencies could be delivered by better integration of corporate activities across both DMO and Defence. Additionally, processes and information systems, particularly those involved with capturing and reporting cost information, could be more closely integrated to better support the Defence capability environment as a whole-of-enterprise activity. This option would lead to a greater ability to manage enterprise-wide risk and financial aspects of capability.
  • Full integration of DMO into Defence. Similar if not greater efficiencies to those available under the previous option could also be gained by full integration. Should this option be adopted, then the CEO of DMO’s independence should be maintained to ensure that DMO remains equipped to provide independent advice about Defence major capital projects to government. This independence could be achieved in a manner similar to that of the Chief Defence Scientist, Defence Science and Technology Organisation (DSTO) who also provides independent advice to government about major projects. Sufficient DMO independence should be retained to enable the organisation to continue to act in a commercial manner.

The Commission prefers the second option.

Over recent years, DMO has grown just as Defence has. Both Dibb and the Australian Industry Group (2013) are critical of DMO, seeing it as both overly bureaucratic and too keen to micromanage projects. They argued that DMO should position itself as a contract manager, leaving the detailed project management to industry.

As noted above, DMO’s performance is also dependent on the Department, most significantly its Capability Development Group (CDG) which needs to translate strategic priorities into capability requirements that form the basis of DMO’s work. As Dibb (2014) notes a ‘key determinant of DMO’s performance is the nature of the projects delivered to it by the CDG.’ In many instances DMO’s problems are actually shared problems.

The ANAO (2013a) identifies many of the issues affecting CDG performance, including that In summary, CDG needs to become a more professional organisation. Areas such as cost and risk analysis were noted as particular areas of weakness.

Developing critical skills is not simply a matter of providing training. Staff need to also develop experience in their roles. The ANAO (2013) audit of Capability Development Reform observed that turnover of military staff working on capability development was higher than desirable. Military posting systems need to give priority to ensuring that military personnel remain in critical management roles so that they can build the necessary level of expertise.

Dibb (2014) notes that ‘CDG needs to become more independent in its recommendations to Government’. However, it is recognised that the armed services are the ultimate users of most defence capital equipment and, as the customer, will have legitimate interests in the process. Likewise, developing a meaningful capability proposal will necessarily require detailed knowledge of military operations that can only come from service in the armed forces.

Implicit in Dibb’s submission is that the Chief of Capability Development be a civilian. This is not inconsistent with the model originally put in place by the Kinnaird Report (Department of Defence, 2003) which envisaged that the head could be military or civilian, although the incumbent has always been military. A lot must ultimately depend on the qualities of the individual selected for the role and it is probably more important that the Chief of Capability Development be able to robustly interrogate capability options.

A major driver of Defence costs is the preference for unique and Australian built equipment. The Future Submarine Industry Skills Plan (Defence Materiel Organisation, 2013) noted that ‘The impact of rebuilding from a low base on the Air Warfare Destroyer [AWD] and Landing Helicopter Dock [LHD] ship projects was substantial and expensive. At the outset of these projects, the premiums in the prices tendered were considerable. Analysis conducted for the DMO showed that the effective rate of assistance ranged from about 30 per cent for the AWDs to over 100 per cent for some LHD options, and amounted to billions of dollars.’ In practice, a foreign build could have provided an extra ship in each class for the same cost.

While there might be occasions when a unique capability may represent value for money, successive reviews have pointed to the cost and risk advantages of buying materiel based on existing designs and production lines. The Government indicated in its election commitment that it was committed to getting best value for the taxpayer while equipping the ADF with Australia-made goods whenever possible. It also specifically noted that work on a replacement submarine would ‘centre around South Australian dockyards’. Using the Defence budget to pursue industry objectives obscures transparency and corrupts Defence budgeting processes.

Of course, local defence industry capability can be important in terms of self-sufficiency, particularly in the event of a crisis. However, the costs and extent of this capability must be carefully measured against the risks.

Another issue must be whether Defence needs an internal capacity for policy contestability, to ensure policies presented to government are robust. This could also help address concerns about the independence of CDG analysis. The current arrangements also rely too heavily on the central agencies challenging Defence policy advice and do not facilitate a deep, continuing involvement within Defence across the areas of capability development, strategic development, and project management and review.

Defence might benefit from a stronger internal review process. Defence previously had an internal review capability in its Force Development and Analysis Division until it was disbanded in 1997. An element of this organisation still exists within CDG.

Once reforms are in place, it will be important to avoid the tendency to re‑establish bureaucratic processes. A cap on the number of personnel in Defence Headquarters and other support roles, or a target tooth-to-tail ratio could be applied. Defence leadership would be accountable for preventing growth in bureaucracy returning.

Efficiency and performance

Although improved efficiency has been a major theme of Defence policy in recent years, actual progress made has been difficult to assess. It is important that efficiency is measured, monitored and delivered. Some principles underpinning better practice include:

  • An external view from business or the central agencies can be helpful in ensuring that the momentum for reform is maintained.
  • A new programme of efficiencies should involve periodically re-examining areas which have previously yielded savings to see if the opportunity exists to make further savings.
  • A commitment to ‘value for money’ decision-making should be unambiguous at all levels and should include consideration of longer-term contracts where this delivers value for money.
  • Clear rules need to be established that allow Defence to reinvest the gains of reform and continue the Defence reform agenda.
  • There is scope to develop the analytical and quantitative skills for good policy work and reform.
  • Objective measurement and monitoring of Defence performance will be an important step to ensure that improvements are sustained.
  • In the same way, visibility of the acquisition process can ensure that delivery is on time and to budget. The implications of unique Australian requirements and local build should be exposed to scrutiny. The additional cost of local manufacture must be driven down.

Box 9.8.2 provides more information on improving the efficiency and performance of Defence.

Box 9.8.2: Implementation notes
In implementing the Commission's recommendations on Defence efficiency and performance, the Government could consider introducing a new programme of efficiencies. This would:
• support the work of the review of Defence structures and processes by focussing on simplifying and streamlining processes;
• draw on the experience of previous programmes, including where implementation was incomplete, with a rolling examination of all spending areas for improved efficiency including opportunities for further outsourcing and privatisation;
• draw on the experience of external experts from business and/or the central agencies;
• build the internal skills to maintain the momentum of reform, including in cost-benefit analysis and policy implementation; and
• be backed by robust metrics that can show the progress of reform such as the ratio of the combat force to other personnel (the 'tooth to tail' ratio) and the efficiency of the procurement process.

Since the introduction of the Commercial Support Program (CSP) in the early 1990s, Defence has outsourced a significant portion of its support functions, but the momentum behind this programme appears to have been lost. The default position should remain that, apart from combat and combat-related functions, all Defence activities are contestable. Industry capacity has grown since the initial rounds of outsourcing and continuing to test the market should remain an ongoing priority. As occurred in the CSP model, Defence should compare a fully costed in-house bid to that offered by industry to provide confidence that the chosen option represents best value for money.

  • When examining functions that could be outsourced, one potential candidate is DSTO. This was not tested as part of Defence’s earlier outsourcing efforts. A new outsourcing programme could build on the United Kingdom’s experience in privatising QinetiQ, previously part of the Defence Evaluation and Research Agency (DERA) — the equivalent of Australia’s DSTO (National Audit Office (UK), 2007).
  • Defence Housing Australia (DHA) in its submission to the Commission provided evidence that the organisation was able to operate commercially and identified benefits in it being taken off Budget and reducing the amount of Commonwealth red tape. Given the competitive nature of the housing market, the option exists to privatise DHA. More detail on DHA is covered in Section 10.19 of the Appendix.
  • The Commonwealth Government retains ownership of the ASC Pty Ltd (formerly the Australian Submarine Corporation). Ownership of a manufacturing business is an anomaly and the Commonwealth should look to dispose of its interests. More detail on ASC is covered in Section 10.19 of the Appendix.

Scope exists to simplify conditions of service for both military and civilian personnel. The complexity of military conditions of service can add overheads without clearly providing corresponding benefits in terms of retention and recruitment; while civilian conditions need to ensure sufficient management flexibility and focus on performance. A number of these issues could be considered in the context of the next Defence white paper and are presented below.

The continued appropriateness of the Defence Force Remuneration Tribunal (DFRT) model should be examined. The DFRT is a quasi-judicial body established in 1984 to enable the pay and allowances of members of the ADF to be determined having regard to the special nature of Defence Force service.

  • The presumption here is that a separate body and advocate is needed to ensure that military personnel are adequately compensated for the nature of military life. There is little evidence that this is a real problem and generally governments and Defence leadership have been supportive of ADF members, improving conditions through measures outside the DFRT process.
  • The model can also stand in the way of sensible efforts to simplify conditions. An example of how the complexity of the current system has detrimental effects is the overpayment of special forces soldiers in 2009 which resulted from overlapping DFRT determinations and poor Defence human resources systems (KPMG, 2009).

Military superannuation arrangements are an integral part of personnel conditions, but outside the remit of the DFRT. While Australia has an obligation to look after serving personnel, particularly their cover for death and disability, a major reform would be closing the Military Superannuation and Benefits Scheme (MSBS) to new members and replacing it with an accumulation scheme for new Australian Defence Force personnel. The new scheme should be designed in a way that recognises the special contribution these Australians make to the defence of the nation, including by ensuring that younger, lower rank and often shorter-serving members have superannuation arrangements that are equitable when compared to those of long-serving, higher-ranking members.

  • This is consistent with the 2007 Report of the Review into Military Superannuation Arrangements (Department of Defence, 2007b) recommended that there be no change to the indexation arrangements for the current MSBS and that the MSBS be closed to new entrants and a new scheme based on an accumulation plan be opened for new ADF members.
  • Without this reform, the MSBS will be the main driver of the Commonwealth’s superannuation liability growth from 2030, and it remains the only material government scheme open to new members (Chart 9.8.5 refers). Closure of the MSBS would result in a significant reduction in the unfunded superannuation liability over the long-term. However, if MSBS is replaced by a funded accumulation scheme for new military personnel there will be an increase in cash costs to government over the short and medium term and a decrease in cash costs over the long-term. In considering such a change, the Government should recognise that the average length of service for military personnel is only eight to 10 years.
  • The indexation arrangements for the older military superannuation schemes (the Defence Force Retirement and Death Benefits (DFRDB) and Defence Force Retirement Benefits (DFRB) schemes) can be a source of cost pressures. The Government election commitment to change the indexation arrangements for these pensions sought to establish equivalent treatment to that provided to Age Pension recipients. In light of the Commission’s recommendations on the Age Pension, the DFRDB and DFRB indexation should align with the Age Pension indexation arrangements.

 

Chart 9.8.5: Unfunded Commonwealth Government superannuation liability projections

This chart shows the increase in the Commonwealth unfunded superannuation liability from 2013-14 and 2049-50, with most of the new growth occurring in the military schemes.

Source: Department of Finance.

Other issues warranting consideration include:

  • the level of support provided to Defence family members. For example, the Government announcement to increase health assistance comes at a cost to Defence of around $75 million per year; and
  • examination of whether the current civilian conditions of employment under the Public Service Act 1999 provide sufficient flexibility and focus on performance for Defence civilian personnel.

Defence holdings of land and buildings are valued at $16 billion. This land holding is dispersed across Australia, often reflecting priorities that had relevance historically. Defence has endeavoured to consolidate its estate so that it becomes more efficient to operate, better meets strategic priorities and the locations better support Defence’s goals in relation to recruitment and retention. However, this process has proved to be a protracted one. Closure of Defence bases can often trigger a need to invest in new facilities elsewhere and frequently carries significant remediation costs.

National Security

Counter-terrorism, intelligence, cyber security and related national security functions are invariably highly classified. Nevertheless, the increased cost of these functions should be assessed in terms of whether the government is deriving value for money from this spending.

The ONA already coordinates processes for setting national intelligence priorities and monitoring the performance of the Australian intelligence community. This process should be further developed to allow government to manage national security resources and priorities to best address national interests.

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