Defense procurement and military-related debt

Andi Widjajanto, Jakarta

Weapons systems procurement should be driven by military strategies developed by the defense ministry to respond to current and potential threats. Defense procurement should also be confirmed by the finance ministry in order to make sure that military spending is legitimate.

The main questions for strategic planners and acquisition officers to decide on weapons procurement are: What and how much should we buy? How should the ministry buy it? From whom should we buy? Should we develop more a reliable defense industry and buy our equipment from domestic sources? Even when guided by an official strategy (e.g., the National Defense Strategy or Force Development Program (Probangkuat)), forecasting defense procurement is no longer a simple linear process from threat (demand) to equipment (supply), but a more dynamic, interactive process that cannot be captured by a simple method.

Defense contractors take into account both the new weapons systems that recently have been made available on the international market and the cost of obtaining those systems. The acquisition officers in Asrena (Planning Assistant) or Asrenum (General planning assistant) office take these signals into account in drawing up long-term plans and mid-term military expenditure framework.

However, the internationalization of the defense industry as well as liberalized defense exports can easily alter the defense requirements. To complicate matters, defense acquisition is closely scrutinized because many stakeholders have a valid interest in ensuring that acquisition preferences are made correctly. Such stakeholders include the defense contractors who hope to make a handsome profit and maintain access to the ministry's procurement system; the armed services that engage in inter-service rivalry to decide which system should be made the highest priority; and the Ministry of Finance which must find suitable foreign loans to fund the procurement.

Importing military equipment that is financed via foreign loans increases the economic burden on the country. By taking out a foreign loan, a debt is incurred, for which interest payments must be made and amortization paid. For the purpose of arms imports, Indonesia uses the Credit Export Facility (CEF). The CEF is a loan with medium requirements provided by industrialized countries to finance their exports.

The problem with the CEF lies primarily on its interest, which is relatively high, its grace period that is relatively short and its premium charge. At present, the Credit Export Institution -- which provides a rating to debtor countries based on the analysis on its risk in trading and investment -- views Indonesia as a high-risk country in that respect.

In terms of the purchase of weapons, export loans are given to the military industry by the country from whence the weapons are produced. In 2002, the government provided the CEF for weapons systems procurement of Rp. 1.44 trillion.

In 2002-2003 a 44.94 percent increased occurred in 2002-2003 in the credit export for defense procurement. In 2003, the government provided export loans amounting to Rp 3.36 trillion (approximately US$353 million) to be used for defense acquisitions.

It is difficult to make an assessment of the size of the military-related debt. The official debt statistics do not provide any indication as to how much of the total debt was incurred for the purpose of arms imports. However, we can make estimates based on rough assumptions of the allocation of Credit Export since 2000.

Directorate for Bilateral Foreign Financing of National Planning Development Agency (BAPPENAS) stated that from 2000- 2004, the amount of foreign debts of the government in the form of credit export was more that 20 percent of all the debt stock of the government. Since all the approved allocations for credit export issued by the government from 2000-2004 were mostly allotted to the defense and security sector, the military-related debt consumed 15 percent to 20 percent of all foreign debt in the form of credit export.

Arms imports can be used to estimate what percentages of capital expenditure are spent domestically and abroad. For Indonesia, since we are not substituting domestically produced arms for imported ones, the consequences are threefold:

First, we spent a higher proportion of our military expenditures on arms imports; second, we lose a relatively larger amount of scarce foreign exchange; and third, we give up a significant amount of foreign exchange earned through exports for the arms imports.

One policy alternative to reduce our dependency on such imports is by developing an advanced and genuine military industry. The measure is to incrementally increase the percentage of total defense-sector research and development (R&D) expenditure allocated for the materiel industry. The capital expenditures for such an industry are of particular interest.

They signify the portion of overall defense-related spending that is invented domestically. The Ministry of Defense currently spends less than 1 percent of its military spending for R&D, this figure should be gradually increased and hopefully by 2009, the ministry will spend at least 7 percent on R&D, and eventually by 2015, 15-20 percent of defense expenditure will be allocated to build a more advanced, domestic arms-producing industry.

A good portion of these invested resources is expected to stay within the domestic economy rather than being sent abroad as foreign exchange payments for arms imports. Theoretically, the capital expenditures in the military industry will interact with other sectors in the economy and function as an accelerator that will have multiplier effects on other sectors. The indigenous arms industry can even be deliberately planned is such a way so as to fulfill dual-production purposes (military and civilian) so that capacity-utilization functions in our national economy can be taken up in either direction.

In order to mitigate the negative effect of arms imports, the financial management of the ministry's procurement budget must ensure that the future of defense procurement is consistent and well-synchronized with the strategic plan to develop our defense industry. Since the advancement of this industry will not be achieved instantly, the ministry must focus on at least a mid- term solution (5-10 years) and budgeting system that will enable the ministry to forecast their modernization trajectory as well as to develop domestic arms-production facilities.

The writer is a lecturer at the School of Social and Political Sciences at the University of Indonesia. He can be reached at andi_widjajanto@yahoo.com.