LONDON - Massive new spending commitments triggered by the 2015 strategic defence and security review and last year's collapse in the value of the Pound against the Dollar have helped put British defense equipment spending plans over the next 10 years in jeopardy, the government's financial watchdog has warned.
The annual report assessing the affordability of the Ministry of Defence's 10-year equipment plan said the program is now at greater risk than at any time since the introduction of the plan in 2012.
"It is worrying to see that the costs of the new commitments arising from the [strategic] review considerably exceed the net increase in funding for the plan. The difference is to be found partly by demanding efficiency targets. There is little room for unplanned cost growth and the MoD must actively guard against the risk of a return to previous practice where affordability could only be maintained by delaying or reducing the scope of projects," said National Audit Office boss Amyas Morse Jan 27.
Savings of £6 billion, or $7.5 billion, on projects in the equipment plan are needed to make the spending plans affordable said the NAO.
Its analysts said new military commitments generated by the SDSR added £24.4 billion, or $30.6 billion, to the MoD's budget.
An 8x8 mechanized infantry vehicle for the army, the purchase of Boeing-built P-8A Poseidon maritime patrol aircraft and the acceleration of Lockheed Martin F-35B strike jet deliveries are among the new commitments.
Figures released by the ministry show it has pretty much emptied the reserve coffers to meet the cost of the additional commitments, principally by allocating £7.3 billion previously held as equipment plan headroom and £6.4 billion from a joint fund set up to provide additional cash for the defense, security and intelligence services.
The collapse of the Pound against the Dollar, and to a smaller extent the Euro, in the wake of Britain's decision to exit the European Union has also cast a shadow over spending plans.
"Approximately £18.6 billion of the plan will be paid in US dollars and £2.6 billion in Euros over the 10 year period. Planning assumptions are currently based upon rates set before the result of the EU referendum, and the recent fluctuations threaten to impact significantly upon the affordability of the plan," said the NAO.
Using the MoD's foreign exchange rate planning assumptions this equates to payments of $28.8 billion and €3.2 billion, respectively. Approximately $8.5 billion and 1 billion Euro worth of kit has been added as a result of the new commitments stemming from the SDSR, with more to come as Britain negotiates to buy Oshkosh-built Joint Light Tactical Vehicles and other systems from the US.
At Jan. 10, 2017, the Pound was 21.4% below the exchange rate with the Dollar and 4.2% below the exchange rate for the Euro, as used in MoD planning assumptions.
"If planning is undertaken using unrealistic rates there could be serious affordability issues for those projects, and possibly for the plan as a whole," said the NAO.
Defense officials here have brushed off questions about the exchange rate, saying hedging by the Bank of England on the ministry's behalf means the department will be okay for the short-term. They also point out, justifiably, that exchange rates could recover.
The MoD introduced the 10-year equipment plan to generate greater stability in procurement following huge over-commitments in defense spending by the previous Labour administration.
The scheme involves developing a budget for a 10-year forecast of core program of key equipment projects and an additional sum set aside for contingency. The plan is updated annually.
Defense procurement minister Harriet Baldwin said in a statement, "We are focused on maintaining an affordable program and delivering the efficiencies we need to reinvest in cutting-edge ships, planes, versatile strike brigades, and greater cyber capabilities, so that our armed forces have the equipment they need to keep the UK safe and secure."
For the period up to 2026, the plan, as it currently stands, envisages procurement spending to stand at £82 billion, support £91 billion and a central contingency reserve of £5 billion.
Overall spending on equipment and associated support in the decade is projected at around £178 billion. That's an increase of 7 percent, compared to an increase of just 1.2% between 2013 and 2015.
The government has committed to raising defense procurement and support spending 1 percent above general inflation until 2020, but even with the increase the new commitments and other issues are threatening capability plans.
Analysts have been saying for a while that the upcoming 2017/18 financial year is going to be particularly tough with program and capability cuts or delays likely.
The equipment and support budget this year is set at £14.6 billion, or $18.4 billion, about 40 percent of overall defense spending.
Crucially, to meet the overall funding requirements, the MoD is having to commit the entire £10.7 billion it had previously set aside to meet emerging requirements in future years, said the report.
Affordability of the plan is dependent on the MoD finding £5.8 billion worth of saving from existing projects in the next 10 years, warns the NAO report.
Plans for achieving these are still under development but are expected to involve program and capability cuts.
Of a near £6 billion savings target, the MoD plans the bulk of spending reductions from transforming the Defense Equipment and Support organisation, the department's procurement arm.
A further £1.5 billion will be provided from savings elsewhere in the defense budget, for example through military and civilian pay restraint, or savings from the running of the defense infrastructure.
The NAO said the savings target was "challenging."
The savings targets are in addition to £7.1 billion of carried savings already assumed in the plan, £2.5 billion of which have yet to be generated.
Some of the savings are hoped to come from large cuts to MoD civilian manpower numbers but others are being generated by reductions to capability, like the decision not to immediately replace Harpoon missiles when they go out of Royal Navy service in 2018.