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The Cost-Savings Fantasy

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Sometimes it is difficult to decide what to write about in the world of private military and security contracting issues, as there are usually a few different stories in the news on any given day that are relevant.

Today, however, I don't have that problem as there is clearly only one story worth discussing. That is the report issued yesterday by the Project on Government Oversight (POGO) comparing federal and private sector employee compensation.

Full disclosure alert: back in the eighties I worked a year at POGO's predecessor organization, the Project on Military Procurement, and earlier this year POGO published a report I co-wrote

To appreciate the importance of this report keep in mind that one of the biggest talking points of PMSC advocates is that the virtue of using them is that they are cheaper than using full time government employees and that private sector rates are cheaper than government salaries. That is because they can be hired just for the task/mission, don't have to be paid pensions and other benefits, et cetera. As talking points go it's a good one and seemingly difficult to dispute; although when it comes to using private military and security contractors in the field there has not yet been much in the way of methodologically sound, peer reviewed evidence to support it.

So POGO decided to fill the data gap, or lacuna, as an academic would say. It compared total annual compensation for federal and private sector employees with federal contractor billing rates in order to determine whether the current costs of federal service contracting serves the public interest.

What its report, Bad Business: Billions of Taxpayer Dollars Wasted on Hiring Contractors, found was:

The current debate over pay differentials largely relies on the theory that the government pays private sector compensation rates when it outsources services. This report proves otherwise: in fact, it shows that the government actually pays service contractors at rates far exceeding the cost of employing federal employees to perform comparable functions.

POGO's study analyzed the total compensation paid to federal and private sector employees, and annual billing rates for contractor employees across 35 occupational classifications covering over 550 service activities. Our findings were shocking -- POGO estimates the government pays billions more annually in taxpayer dollars to hire contractors than it would to hire federal employees to perform comparable services. Specifically, POGO's study shows that the federal government approves service contract billing rates -- deemed fair and reasonable -- that pay contractors 1.83 times more than the government pays federal employees in total compensation, and more than 2 times the total compensation paid in the private sector for comparable services.

Among other interesting findings:

• Federal government employees were less expensive than contractors in 33 of the 35 occupational classifications POGO reviewed.

• Private sector compensation was lower than contractor billing rates in all 35 occupational classifications we reviewed.

• The federal government has failed to determine how much money it saves or wastes by outsourcing, insourcing, or retaining services, and has no system for doing so.

I imagine industry types will say that POGO is conflating a variety of different occupations which have nothing to do with PMSC activity. Fair enough. So let's look at what POGO specifically said about PMSC work.

POGO's investigation highlights two basic facts about outsourcing government work to contractors. First, comparing federal to private sector compensation reveals nothing about what it actually costs the government to outsource services. The only analysis that will shed light on the true costs of government is that of contractor billing rates and the full cost of employing federal employees to perform comparable work. The Commission on Wartime Contracting in Iraq and Afghanistan recently completed a fundamental study of costs, and found that, in certain contingency operations, although savings resulted from hiring local or third-country nationals, military and civilian employees cost less than hiring American contractors.

The POGO report examines "contingency operations," the preferred term of arts when talking about using contractors in war zones. It found:

The most recent comparison was conducted by the Commission on Wartime Contracting in Iraq and Afghanistan (CWC). (Appendix E) In its final report released on August 31, 2011, the CWC stated:

For lower- and mid-level-worker skills, contractors employing local or third-country nationals are less costly than military or federal civilian employees. However, when contractors employ U.S. citizens in higher-skill positions (as may be the case with communications support and professional services), their costs are roughly equivalent to military and federal civilians in comparable grade levels. The military is substantially more expensive when the contingency extends beyond rotation cycles and dwell costs are recognized. Commission on Wartime Contracting in Iraq and Afghanistan, Final Report to Congress, August 2011, p. 226.

The CWC's cost study is interesting based on the dramatic increase in the use of contractors supporting the troops in the battlefield and conducting reconstruction operations. There is no denying that the use of local and third-country nationals saves the government money. However, despite a methodology closely mirroring POGO's, the CWC's study misses the mark on a few vital points. First, the CWC described the costs of prolonged operations as being "equivalent," but in fact, its own table showed that hiring "higher" skill-level American contractor employees costs up to 30 percent more than DoD civilian employees. Second, the CWC did not include the cost to the government for the U.S. citizens in middle skill-level jobs, including plumbers and electricians, which were hired by Halliburton, Kellogg Brown and Root, and Services Employees International, Inc. -- the primary employers of workers on the Army's LOGCAP III contract. The inclusion of only local and third-county nationals for the middle tier ignores the fact that the government was paying a premium that might exceed the cost of using military or DoD civilian workers for those jobs.

In 2008, GAO reported that over the past 20 years DoD had increasingly relied on contractors for maintenance and logistics support of weapons systems. This move was driven in large part by a change in DoD "guidance and plans" in the mid-1990s that placed greater emphasis on outsourcing logistics functions. DoD's new policy "assumed large cost savings would result from increased privatization." (Emphasis added) DoD was projecting cost savings of $20 billion to $30 billion per year, despite subjecting only 9 percent of these contracts to a competitive bidding process. Although increased reliance on contractors for these activities was based on the assumption that there would be significant cost savings, GAO was "uncertain to what extent cost savings have occurred or will occur." (Emphasis added)

DoD is one of the leading agencies that rely on contractor support, but other agencies are also facing similar problems. To assess the cost consequences of outsourcing, it is essential to compare the total compensation paid federal employees in a specific occupation with the rates contractors actually bill the federal government for comparable occupations. Only then is it possible to determine if savings are being realized, and if the current level of service contracting is in the public interest.

Bear in mind that POGO is not arguing that outsourcing can't or shouldn't be done. But the report does seem to be arguing that currently the framework for deciding when to use private contractors is rigged. To paraphrase former Secretary of Defense Rumsfeld's famous 2003 memo on winning the war on terrorism, today, we lack metrics to know if we are saving or losing money by using private military and security contractors.

Among the flawed metrics currently in use, POGO found several failures in government procurement, employment, and data systems that limit the government's and the public's abilities to assess and correct excessive costs resulting from insourcing or outsourcing federal services. These include:

  • the lack of standards for calculating cost estimates and justifying insourcing or outsourcing decisions;
  • the lack of data related to negotiated service contract billing rates;
  • not publishing government information about the number of actual contractor employees holding a specific occupational position under any given contract;
  • and that there is no universal job classification system.

Why is this important? Beyond the obvious, as detailed above, the use of private contractors is a growth industry. The federal government currently spends over $320 billion on service contracts each year. Since 1999, the size of the federal employee workforce has remained relatively constant at about 2 million, while the contractor workforce has increased radically -- from an estimated 4.4 million to 7.6 million in 2005. In other words, the federal contractor workforce dwarfs the federal employee workforce nearly four-fold.

And that is probably an underestimate, given that:

There is currently no way to quantify the actual number of contractor employees who perform government functions at a particular department or agency at any given time. Because the federal government does not keep timely and accurate statistics of the actual size of its contractor workforce, Congress mandated that civilian agencies and the Department of Defense (DoD) keep such records. However, as there is no consistency in the methodologies employed by the various agencies, data from these inventories are unreliable and do not provide a complete picture of jobs, functions, or activities being provided by service contractors. In addition, even with the changes, the inventories still fail to provide timely and accurate data on contractor employees or cost information that would be helpful when comparing federal with contractor employees.

Was there any job where outsourcing made economic sense? I'm glad you asked. Actually there was; two of them in fact.

POGO found that the government incurs excessive costs by keeping groundskeeper services in-house. Specifically, federal groundskeeper employees are compensated, on average, $13,187 per year more than what contractors may be billing the government. POGO estimates that a 20 percent savings results when the government outsources groundskeeper services, which closely matches government estimates. Average annual contractor billing rates are 1.6 times what private sector groundskeepers are compensated. In addition, POGO found that the government pays federal employees operating as medical record technicians .01 times more than the average annual contractor billing rates ($58,641 and $57,782, respectively).

Perhaps KBR and other companies can start working for Medicare and Medicaid. On the bright side they can't screw up those programs any worse than they already are.