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deficit (predictions which, incidentally, are always wrong) is our nation's wealth, as measured by our gross national product (GNP). The best measure of affordability -- the defense share of the budget -- is the fraction of the GNP devoted to defense.

In 1961, U.S. defense spending accounted for 8.3 percent of the GNP. When President Reagan took office in 1981, the share had fallen to 5.2 percent. At the end of President Reagan's first term, defense expenditures accounted for 6.2 percent of the GNP. By the end of the current five-year plan, even if fully funded, that figure would still be less than 6 percent of the GNP.

As Chart I.A.2 shows, the Soviet Union now devotes two-and-ahalf times the percentage of GNP to military purposes as the United States does. If the United States were to devote the same percentage of its GNP to its military as the Soviets do, we would be submitting a defense budget for 1988, not of $303 billion, but more than $700 billion! Fortunately, our economy is approximately twice as productive as that of the Soviet Union. Even so, the additional strength the Soviets gain from their military spending far exceeds our own every year.

Chart LA.2
A Comparison of the Defense Fraction of U.S. GNP
with the Estimated Defense Fraction of Soviet GNP

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Chart I.A.3 compares U.S. and estimated Soviet costs over the past 20 years for military investment programs -- the procurement, construction, and research and development activities that build a long-lasting stock of military assets. Chart 1.A.4 shows Soviet and U.S. procurement alone. These charts clearly show the enormous gap that has emerged since 1970 between the level of Soviet defense activities and our own. With the President's leadership and Congress' support until 1985 we have managed to close much of this gap,

All of these factors have helped guide this year's decisions as to the proper amount of the overall budget to allocate for defense. It is not physically possible in a peacetime environment for all of our defense needs to be met at the earliest possible time. There are economic production rates, manpower constraints, and many efficiency considerations to weigh in deciding the best pace for strengthening our defenses. The two-year defense budget for FY 1988/FY 1989 that we submit now continues to be a long-range plan. We propose through this budget to keep America strong through continued steady progress toward modernization and other defense improvements. We seek to avoid the stop-and-start defense budgeting that has, too often in the past, promoted inefficiency and instability. But we do not and should not try to fool the country into believing that easy, deeply cut military budget can serve the long-term security or fiscal interests of our country. We can easily afford what we need to do to keep our freedom. The real question is: Do we have the will and the resolution, and even the desire, to keep that freedom?

Most citizens realize that the safeguarding of our nation and our vital interests must be our first priority. Budget deficits and domestic program cuts can be rectified; but security shortfalls carry the risk of irreversible losses. Together, we must look beyond the immediate present. We must understand that America's security begins well beyond our shores, and that our interests are worldwide.

We must realize, too, that we cannot do the task alone, and that we need allies and friends in all parts of the world. We must recognize also the long-term consequences perceive us waning in military strength and in resolve to protect our shared interests. Many would not notice the subtle erosion of our security as once-friendly nations drifted toward neutralism, or worse, accommodation to the pressures of our adversaries, But both such unfavorable developments are possible consequences of inadequate American strength and leadership. Any neglect of our own security has global consequences.

In sum, American defense budgets should be based on defense needs, not on political expediency or short-term fiscal goals. To this end, this FY 1988 Annual Defense Report to the Congress analyzes America's defense needs and presents a coherent plan for addressing those needs at a prudent and efficient pace. Our goal is to keep America safe and free, not just as safe or as free as short-term fiscal and political goals allow.

Anyone who says we cannot afford to do what we must to keep our freedom is halfway along the road to losing it.

2, Formulating A Defense Budget

The Department of Defense (DoD) uses a sound and reasoned process to determine our nation's military needs, which in turn drives the composition and scope of the defense budget we submit to the Congress. It is a complex endeavor involving thousands of people and, properly done, it takes many months. It requires both a careful analysis of facts and the ability to make informed judgments as we look forward over the next five years.

The major steps of this analytical process are displayed in Chart I.A.1 and are also reflected in the organization of Part 1 of this

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The logic of defense planning is clear. The need for military forces arises from U.S. security interests and commitments. These interests are threatened by adversaries in wa contingencies that U.S. forces must then be able to meet. Defense policy judgments on the best way for the United States to respond are translated into requirements for specific forces designed to provide the necessary capabilities at the lowest cost.

The most complex and demanding step of this process is the last,

1 defense needs are determined and programs are designed to fill those needs. As described in Chapter 1.C., U.S. long-term interests, broad national security objectives, and our basic defense strategy of deterring aggression have remained relatively stable and enjoyed broad bipartisan support throughout most of the post-World War II era. In contrast, the most contentious -- and dynamic -- step in the process remains deciding what military capabilities we need to support our defense strategy, which evolves in anticipation of, or response to, the ever-increasing threat capabilities posed by our adversaries. No exact answers emerge from this process. But one lesson is clear: 0.S. weaknesses discourage our allies and encourage our foes. Our analyses are complicated by several factors.

Obviously, all of these budget processes are complex: First, we face inherent uncertainty about the future. The weapons we are buying today will provide the backbone of U.S. military forces well into the 21st century. Against which potential adversaries will these weapons be needed? How strong will our enemies be? What weapons will they use? What capabilities will our allies and friends have? While we attempt to analyze numbers and capabilities of opposing divisions, aircraft, tanks, and ships, such calculations are only

threat to U.S. interests; and the U.S. military forces needed to counter this threat.

4. Is Our Defense Budget Wisely Spent?

The answer to this question is, yes. Unfortunately, in recent years a number of myths about our spending have emerged, contributing to an erosion of our national consensus to rebuild America's military strength. One purpose of this Annual Report is to replace these myths with facts.

One such myth is that we have not made substantial progress in rebuilding military strength. The reality is that we have had remarkable success in improving virtually every facet of our military forces. We have made major improvements in the quality and morale of our people, weapons modernization, readiness, training, and sustainability. Our progress is highlighted in Chapter 1.E., and further described throughout the report.

Various other myths can be addressed by asking whether we are spending efficiently, managing well, and minimizing fraud and waste. The answers to these questions are summarized below and discussed in detail in Chapter II.B.

One of my top priorities as Secretary of Defense is to ensure that the defense budget is being efficiently and effectively managed. To accomplish this we have, since 1981, taken numerous initiatives with the goal of getting the maximum value from our defense dollars.

When people read about some alleged "horror Story" regarding

ense purchases, many tend to assume that this is just the "tip of the iceberg." Almost all overlook the fact that we very likely found the problem and corrected it.

To judge the quality of Dod's management, one must appreciate the size and complexity of our department's activities. Consider our people, over eight million in all: 2.2 million active duty military. another 1.9 million in the Reserve Components, and more than 1.0 million civilians. There are another 2.9 million people working on DoD contracts. Furthermore, DoD organizations and facilities span the globe. We manage over 5,400 properties and installations. The department operates over 400,000 housing units -- more than twice the number of public housing units in New York City. We deal with over 300,000 contractor establishments. We initiate 15 million contract actions each year, valued at about $160 billion. DoD currently supports over one-half of the ship construction and repair industry employment in U.S. private shipyards. We have both the largest school system, and the largest health and medical system in the world.

Still, even one real DoD management deficiency is one too many. That is why we continue our intense efforts to discover and correct every shortcoming. We welcome outside assistance in uncovering problems, although many such outside "discoveries" are termed "investigative reporting" and are based on findings we made and corrected. But, regardless of how discovered, the rooting out of problems has been a top priority of this Administration, as has the instituting of reforms to ensure that our various management systems reduce the likelihood of waste.

Many of our initiatives have been directed toward improving the DOD acquisition system. We have introduced scores of changes to increase competition, improve cost estimating, streamline production, and more. These reforms have paid off.

have paid off. Cost growth programs was reduced from about 14 percent annual growth in 1980 to less than 1 percent in 1983 and 1984. We actually achieved an estimated cost reduction of 0.8 percent in 1985, the last year for which information is available. This reduction came in spite of congressionally mandated procurement changes, changes that often resulted in higher per unit costs.

As part of our reforms, we have vigorously attacked waste and fraud through aggressive management and through the work of our Inspector General (IG) and the Defense Contract Audit Agency (DCAA). Since the creation of the DOD IG in 1982, over 600 audit reports have identified nearly $5 billion in potential monetary benefits. Potential monetary benefits from all other DoD audits/reviews since 1982 totaled $11.1 billion. In addition, DCAA audits are responsible for a total reduction in procurement spending of over $9 billion since FY 1982.

Recently, the Packard Commission made several recommendations to help improve DOD management further. We had already implemented many of these recommendations (see Chapter II.B.) and support others. We are making every effort to implement the remaining recommendations, which are built on the progress we have made since 1981. Many of them require congressional enactment.

We are determined to achieve our management improvement goals. While we have accomplished much in this area, more needs to be done. For example, we need to eliminate unnecessary or duplicative reporting and oversight, both within the DoD a.d the Congress, if we are to reduce the cost of doing business.

The stage has already been set for stabilizing the acquisition process. We have just submitted our first biennial budget with increased emphasis on multiyear procurement. As recommended by the Packard Commission, legislation to baseline selected major programs has been enacted. This will permit these programs to be authorized for up to five years and budgeted for two years. We look forward to carrying out our responsibilities in this regard. Now we hope that the Congress will fulfill its commitments as well.

Furthermore, we will continue to establish annual management priorities in our DOD Management Improvement Plan and focus increased attention on those areas with the greatest potential savings.

Over the past two years, severe constraints have been placed on essential defense spending. We are doing our part to ensure that our scarce defense resources are managed as efficiently as possible, and ask the Congress to continue working with us to reach this goal.

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