How do you assess the potential implications of delaying the update to Canada’s defence policy in terms of clarity around military funding commitments?
We looked at the planned spending, we did that in 2022, when the government has was already a couple of years into SSE, under which there’s hundreds of billions of dollars that are planned to be spent on defence issues, both from an operational perspective but also on capital expenditures. In the first couple we found that the government was slower than expected, at least in the capital expenditures aspect of its SSE program. That delay in resulted in about $10 billion in spending that did not materialize in the first five years of SSE.
That means the government will have to speed up the pace of spending on its capital expenditures, but if you were planning on spending x billions of dollars in 2019 and you couldn’t meet that spending commitment, you postpone that same amount out into the future. The amount of equipment or capabilities that you can acquire years into the future with that same amount has now diminished because of inflation, which is something we’ve all experienced in the last couple of years. All that to say, the delay in spending means that the real value of these same fixed amounts of money has diminished. When the government updates its strategy, it may need to rejig some of its planned expenditures. Either reallocate across business lines, capabilities, or increase the overall amounts it wants to spend, or advance some of the money that was planned on being spent in the outer years and advance that closer to now so that the real value of the overall envelope is maintained as a result of the delays we have seen.
Are there any specific areas within Canadian defence spending that PBO believes requires increased scrutiny or reallocation of resources?
Procurement projects seem to be difficult to get a firm grasp on. As an example, let’s take the Canadian surface combatant. Every time somebody looks at the cost of the overall project, there’s only one way the costs go and it’s up. The government announced a programme years ago, and it was a few 10s of billions of dollars, a few years later they looked again, and the cost had risen to around 50 billion dollars. Last time, we looked at the cost of the CSC, the cost of acquisition had gone up to $80 billion for fifteen warships.
I think that’s one area where the government, and I don’t mean just DND, but the government, including public services, need to get a better grasp on acquiring major equipment, because it’s either we don’t have a good accurate cost estimate to begin with, or there are delays that are detrimental. Costs go up the longer you take to acquire these major pieces of equipment. But I don’t have a good explanation as to why these costs keep on increasing and the delays keep happening. I think that collectively, as a country, we would benefit from having a better handle on major procurement projects.
The F-35 is another good example. But in that case, decisions were made and then undone, then had to be made again to procure the fighter jets. So probably a special case, but for the surface combatants, that’s one example. There are other examples where, as a country, I don’t think we have adequate good enough control over the decision making and the procurement process for these pieces of equipment, which results in us collectively spending more than what we should.
How could improved fiscal transparency impact defence spending decisions?
Shedding light on how much something is costing and how costs evolve over time provides an incentive for the acquisition, procurement, and construction phases to improve and give better value for taxpayer money, but also for DND personnel or Canadian Armed Forces personnel who will be using this equipment. If we can get the same types of ships for $50 billion as opposed to $80 billion—if we get the same type of equipment for significantly cheaper, it’s a win-win for the taxpayers and military personnel because it means that for the same amount of money, personnel can have more equipment or can have equipment that that’s better suited to their needs.
I think shedding light on the deficiencies in the decision-making and acquisition processes can only lead to improvements. I don’t think it can made worse. The more information and Clearer information that parliamentarians have, the better equipped they will be to question the government, understand what’s going on, and eventually propose alternatives. For example, the government is adamant that warships must be built in Canada to the extent possible. But for example, if parliamentarians were to find out that it would halve the cost to build them abroad and Canadianized in the country, maybe they would be a bit less inclined to insist these warships be built in Canada, even though there are security reasons to have a made-in Canada capacity.
These are the kinds of trade-offs that parliamentarians can better make if they have the right information. But the in the absence of information, if the government tells them, “We have to buy that type of ship, and it has to be built in Canada, because the alternative is unthinkable for security reasons, and it wouldn’t be that much cheaper”, then parliamentarians, who have a lot of responsibilities other than just focusing on DND, might not be in a good position to challenge the government on these assumptions. But if they have that information, then they can ask questions, and they may very well end up making the exact same decisions, maybe not, but at least these will be better informed decisions.
We are expecting a defence policy update soon. We recently announced a new budget. What challenges might arise for the domestic defence industry in meeting any accelerated procurement demands resulting from a substantial increase in planned capital expenditures? Could touch on any strategies that could be employed to ensure sustainable operations?
We are seeing this with the demand for weapons and ammunitions with the war in Ukraine. Canada and many other countries ramping up their needs and their capabilities in the area of defence at the same time puts a big strain on industry, individual businesses, and corporations that are supplying equipment and ammunitions.
The challenge there for a revised defence policy and ramping up spending is the strain it will put on the domestic defence industry at a time when many sectors are faced with labour shortages. Obviously, the defence sector relies on specialized skills. Not everybody can work in independent industries, and it certainly needs engineers and specialists that are trained on various types of equipment. So that poses significant challenges for the domestic industry. How do we alleviate these challenges? I think the recipe is probably broadly similar to the recipe that many sectors are facing: immigration, training of skilled labour, more recourse to automation when it’s possible, more standardization with our allies, so that equipment and spare parts built abroad are interchangeable with equipment or ammunitions that are available domestically and vice versa.
I think that we already have a quite high level of interoperability with our allies. But I’m sure there’s still room for improvement. I should also add longer term planning. If the defence sector has certainty with respect to the long-term track of spending, they can invest for the long term as opposed to meeting a demand that is short term. If there’s a commitment to invest and spend in the longer term by governments in Canada and abroad, I think it makes more business sense for the defence industry to invest and meet the longer term needs rather than just meet demand that is one-off.
How effective do you think ITB policy has been?
We looked at the ITB policy a year ago and found that most of the needs for corresponding investment are being done through direct and indirect spending in the areas of the sector benefiting from government contracts. But very few of these benefit from the multiplier effect. Under the Industrial Technology Benefit Programme, an entity that receives government funding for military contracts can be exempt from spending one for one, if it invests, for example, in R&D, or a post secondary institution. But very little of the spending to meet the ITB requirements gets spent on R&D or post secondary institutions. In fact, it accounts for only 5%, which is surprising because you would think that industry benefits from lighter requirements to spend.
The multiplier can be anywhere between four and nine. So, it means that an industry or company that invests $1 in R&D, for example, can get credited for between $4 and $9 of investments. It reduces the investment they need to make to comply with the requirement. But only 5% gets spent that way. Over 95% gets spent in areas where they get one for one credit, and for some of it, around half is indirect. It can be anything from catering for their employees to services that are not really creating any major economic benefits for Canada.
I can’t really make recommendations but you see that that type of spending doesn’t create what Canadians would expect to be material economic benefits. I think there are obvious ways to improve and tighten the industrial benefit.
