Inflation Bailout or Baloney? Senate Increases Military Contract Funding, to Industry’s Delight

UPDATE: Mere hours after publication of this piece, Senator Warren’s office published the Pentagon’s official response to her letter cautioning against increasing military contract funding because of inflation. The DOD confirmed Sen. Warren and CDI’s suspicions that it has not received “any analyses or data” from the defense industry to justify contract adjustments, other than what has been provided to the general public. As such, the department does not plan to enact policy to increase military contract prices, providing Congress another reason to strike increased contract funding from the final NDAA.

This month, the Senate delivered military contractors the inflation bailout they’ve been begging for all year.

Senators adopted an amendment to authorize inflation-related adjustments to existing Pentagon contracts in the National Defense Authorization Act (NDAA), increasing funding for military contractors that have already pocketed one-third to one-half of all defense dollars since 2001.

The defense industry has continually cited inflation to justify more military spending. One group of defense contractors, the National Defense Industrial Association, has justified such requests for inflation relief by claiming the Department of Defense will lose more than $110 billion in buying power from fiscal year 2021 to fiscal year 2023.

But the Pentagon has yet to verify that claim, much less publicly advocate for sweeping adjustments to Pentagon contracts because of inflation.

On the contrary, Pentagon Defense Pricing and Contracting Principal Director John Tenaglia has instructed contracting officers to limit such adjustments. While industry backed a legislative proposal to increase prices for what are known as firm fixed price (FFP) contracts, Tenaglia issued official guidance in both May and September pointing out that, according to the law, companies with FFP contracts must “bear the risk of cost increases, including those due to inflation.” He clarified that there is no authority to change the price of an existing FFP contract, unless that contract contains a clause authorizing a price adjustment resulting from an economic factor like unexpected inflation.

There is, however, another pathway to ease the burden on companies at risk of going under — one that preserves guardrails in FFP contracts to prevent companies (making record profits) from abusing contract funding already vulnerable to waste. An earlier Congress established that companies could request contractual relief under certain circumstances. Public Law 85-804 empowers agencies, including the Department of Defense (DOD), to exercise and delegate the authority to modify contracts so long as such action would “facilitate the national defense.” But contractors would have to prove significant financial burden to show that contract adjustments actually strengthen our national defense.

Part 50 of the Federal Acquisition Regulation (FAR) and the Defense FAR Supplement details the rules under which companies that don’t have applicable clauses in their FFP contracts may request extraordinary contractual relief. The government may only grant relief in special cases where companies meet stringent criteria, and even then, relief is limited to available funding. Industry trade associations have been sending letters to Congress requesting inflation relief for months, but there’s virtually no evidence to suggest companies are even requesting extraordinary contractual relief. If the defense industry is hurting badly from inflation, one would expect to find companies pursuing relief from extenuating financial circumstances through a mechanism that already exists.

The simple truth is that the Senate’s move to increase military contract funding is unnecessary, as well as contradictory to Pentagon guidance on managing inflation.

Increasing Pentagon Waste

Contravening existing law to give defense contractors a hand out will inevitably increase the risk of Pentagon waste.

According to the Government Accountability Office, weapon acquisitions are already at high risk. Part of this risk stems from the Pentagon’s insufficient risk assessment of the industrial base, and its general lack of due diligence prior to advancing acquisition programs. As a result, contractors are over budget and behind schedule more often than not. The DOD has yet to implement open GAO recommendations to address cost overruns and delivery delays in weapon acquisitions, so increasing contract prices only opens up more taxpayer dollars to waste.

Worse, Pentagon bloat welcomes further corporate price gouging of the military.

Defense corporations already rip off the Pentagon by exploiting accountability loopholes in contracting regulation — loopholes industry lobbyists helped create over the past several decades. In so doing, companies now have greater ability to legally withhold certified cost and pricing data from the Pentagon. According to the FAR, such data is “accurate, complete and current data from offerors to establish a fair and reasonable price.” It is the Pentagon’s best tool to negotiate good contracts because it prevents companies from overcharging the government. The Senate provision to increase military contract funding because of inflation does not require certified cost or pricing data from companies. In fact, it lacks any safeguards against corporate price gouging at all.

Senator Elizabeth Warren (D-MA) questioned industry’s push for contract adjustments even before the Senate approved increased military contract funding. She wrote a letter to Defense Under Secretary for Acquisition and Sustainment William LaPlante, highlighting the risk of industry profiteering in increasing contract prices. She demanded that any companies requesting inflation-related contract adjustments provide certified cost and pricing data and meet the FAR’s stringent criteria for extraordinary contractual relief. Warren also urged skepticism about industry’s claims of inflationary impacts, pointing out that several of the top 10 military contractors have indicated in recent earnings calls that they “intend to buy back stock or pay cash dividends amounting to over $20 billion in 2022.” She expressed concern that mechanisms designed to prevent smaller companies from going belly-up are turning into another instrument for industry profiteering.

Decreasing Contractor Accountability

By approving contract adjustments, the Senate has put itself on a slippery slope to even more unaccountable military contract spending.

The NDAA provision to increase military contract prices authorizes inflation-related adjustments for the duration of contracts, meaning that inflation bailouts will continue for years to come. The authorization reinforces existing partiality toward FFP contracts — a contract type that theoretically applies to acquisition programs with requirements clearly defined by the Pentagon. But program requirements are not always clearly defined, and industry and the Pentagon may prefer FFP contracts for different reasons. The upside for contractors is that prices are locked in with FFP contracts, a policy that is intended to keep projects on time and within budget. Contractors receive full payment no matter what, even if they (imagine this) complete a project under budget or ahead of schedule. In practice, FFP contracts guarantee contractors payments even in cases where contractors overcharge the Pentagon. The advantage for the Pentagon is that contractors agree to assume maximum risk with FFP contracts, including bearing any unforeseen costs (such as those caused by inflation) absent an applicable clause in their contracts.

Ultimately, increasing military contract prices expands opportunities for contractors to abuse the FFP contract designation, especially without preserving guardrails that prevent price gouging. Contractors knew what they signed up for when they agreed to FFP contracts, but now they expect an industry-wide bailout from Congress without pursuing relief through proper channels.

As noted above, the Pentagon has maintained a restrained view on inflation relief, calling for more information from the defense industry to illustrate need. Pentagon acquisition chief LaPlante has underscored the importance of data-informed contract adjustments, stating in September, “I need data about companies that are either potentially going under or not bidding that are affected by inflation. Because we need to inform the Congress, we need to inform the Pentagon. I’m convinced there’s real-world examples of people being hurt … But we need to show the data.” Warren echoed LaPlante’s data requests in her letter to his office, asking several process-oriented and oversight questions regarding any potential inflation-related adjustments to Pentagon contracts.

Still, there is no public evidence of businesses requesting inflation relief from the Pentagon.

LaPlante’s office has said they will respond to Warren’s letter directly, and the Center for Defense Information (CDI) is keen to discover what information the Pentagon may have shared with her office. CDI has submitted a Freedom of Information Act (FOIA) request for all records and communications from LaPlante’s office regarding Warren’s letter, with the hope that such documents will unveil industry data and analysis to justify inflation-related contract adjustments. CDI has not yet received a substantive response to our FOIA request, but will update this piece if and when we receive documentation of DOD’s response to Warren’s letter.

Until then, we have no reason to believe there’s an actual justification for increasing military contract prices due to inflation.

The Pentagon, a member of Congress, and CDI have called on the defense industry to explicitly demonstrate the need for inflation relief on a company level — to no avail.

However, CDI opposes the Senate provision to increase contract prices due to inflation because it counters existing law and Pentagon guidance on managing inflationary impacts on contracts. The provision will only result in more Pentagon waste and less contractor accountability and should not be included in the final NDAA.