BREAKING: Inflation Costing Pentagon $50 Billion in Purchasing Power

The high rate of inflation since fiscal year 2021 has reduced the Defense Department’s buying power by $50 billion, and Congress needs to add at least $42 billion to the requested 2023 budget just to maintain current spending levels, according to a new report.

The white paper, “How Inflation Hurts America’s National Defense and What We Can Do About it,” issued Sept. 13 by the National Defense Industrial Association, states that the 2021 and 2022 defense budgets were developed before the onset of rapid inflation, and therefore the Defense Department has experienced a substantial loss of buying power. NDIA is publisher of National Defense.

“Similarly, the 2023 budget was submitted to Congress before it was known how high inflation would rise and therefore significantly underestimates the funding requirement for the programs the Department wants implemented,” the report states.

Projected inflation for 2021 was 2.3 percent, however actual inflation for the year was 4.7 percent. Similarly, the 2022 budget was developed based on an inflation projection of 2.1 percent, and actual inflation is more than 8 percent. The compound effect of the differential is about 9 percent, which translates to a $50 billion loss in purchasing power, the report states.

Those calculations are based on public forecasts, the report notes, which “means that the estimates presented likely underestimate the harmful defense impacts of inflation.”

“This loss will either appear as reduced quantities and maintenance backlogs or cost overruns and schedule delays,” the report states. “Whether the cost is initially born by DoD or industry will depend on how the contract is written, but left unfunded, the inevitable consequence for national defense is the same. Because of their limited capital, the excess costs will hit small businesses hardest.”

Furthermore, if the government does not address the impact of inflation on existing contracts, “firms that have a choice may exit the defense industrial base for the commercial market and reduce competition and diversity in the [defense industrial base],” the report continues.

Making matters worse, inflation accelerated at a time when the United States began a transition from counterterrorism operations to a focus on peer and near-peer competition, which requires substantial spending on modernization. The report states that 3 to 5 percent real growth in defense spending is needed to achieve the modernization goals of the National Defense Strategy.

“While this has been the strategy and consensus across two different administrations, the defense budget was not reflecting this recommended level of growth prior to the onset of inflation and is now paradoxically experiencing negative real growth,” the report continues.

As a result, the cumulative effect of the execution loss across 2021 through 2023 comes to $110 billion, the report states.

Congress has yet to pass the 2023 National Defense Authorization Act or any of the 12 annual spending bills. At this point, the expectation is that 2023 will begin with a continuing resolution, which keeps spending at 2022 levels and further erodes defense spending power by an estimated $6 billion per month, the report notes.

The report proposes several actions Congress should take to address the impacts of inflation along two lines of effort: future budget challenges and the current execution crisis.

Regarding the future challenge, specifically the 2023 budget, the report makes two recommendations to Congress. First, is to add at least $42 billion to the administration’s requested 2023 budget to account for inflation. The House version of the 2023 NDAA increased the budget by $37 billion, and the Senate version added $45 billion, however the chambers have yet to reconcile their different bills and arrive at a final budget.

Second, the report recommends that Congress includes an inflation adjustment in the likely continuing resolution it will pass before the start of the next fiscal year on Oct. 1. That would “allow for new starts and procurement quantity changes to avoid creating further program delays,” the report states.

In terms of current budget execution, the report makes three recommendations to Congress.

The first is to “stabilize acquisition programs” by directing that contracts executed prior to the onset of high inflation should be adjusted and future contracts should include automatic inflation adjustment clauses.

Second is to revise the fuel working capital fund to better handle price fluctuations and shocks.

The third recommendation is to improve data reporting. “Congress should direct that appropriate data collection and regular progress reports are undertaken to show where [the Defense Department] has been able to address the problem (for example, the number and value of contracts indexed and funded to the correct inflation) and what is left to be done (forecasts of future adjustments using updated guidance rates).”

The report further notes that it includes three assumptions: inflation has peaked, it will decline to normal levels in 2024 and that Congress will fund budgets for “2024 and beyond to a topline that finishes correcting for actual” 2021-2023 inflation.

Topics: Budget