NATO resource perspectives: once, NATO budgets were stable and predictable. Not so now: discover the current and future challenges facing the U.S. Army in its responsibility to program, budget, and manage U.S. contributions to the NATO budget.

Introduction

NATO is coming! NATO is coming!

Sounds like a movie coming soon to your local theater. Even though not a movie, the idea is in motion and at the forefront of many global considerations, such as NATO expansion through new members and partnership nations; NATO presence and activity on at least four continents; and new NATO headquarters, Centers of Excellence, and other entities being established in many countries. And NATO exercises are now much more diversified and far-reaching.

In essence, this activity can be described as change, part and parcel to NATO transformation. Imagine implementing and managing change within the construct of a 26-nation alliance that functions on the principle of consensus and balancing its interests with national processes, procedures, and standards.

This article focuses on the funding challenges faced by the Army as we execute our responsibility to program, budget, and manage U.S. contributions to NATO budgets (1). We consider resource issues that eventually could affect many within the Department of Defense (DoD) and how we do business.

Who Is Watching Out for United States Interests?

The U.S. Mission to NATO (a composite DoD and Department of State organization) provides U.S. national voting representatives to the NATO Military Budget Committee for NATO common funded operations and maintenance issues; the NATO Infrastructure Committee, which is focused on military use infrastructure, construction, and communications matters; the Senior Resource Board, which considers and recommends NATO resource policy; and for the NATO Civil Budget.

The U.S. Army, Europe, and Seventh Army (USAREUR/7A), Office of Resource Management (G8), executes the Army's responsibility to manage and control Defense resources allocated in support of NATO International Headquarters. Funds managed are primarily DoD Military Construction (MILCON) in support of the NATO Security Investment Program (NSIP) and Operation and Maintenance, Army, to pay the U.S. contribution shares to the NATO common budget and the NATO multinational headquarters' budget.

In addition, the U.S. State Department provides funding for the NATO Civil Bud get, and the Air Force provides funding for NATO Airborne Warning and Control System sustainment. The Army, Navy, and Air Force also provide resource support in execution of their "administrative agent" responsibilities (2) for day-to-day support of U.S. personnel assigned to or in direct support of NATO in each service's assigned area of responsibility.

The NATO Resource Framework (3)

NATO member nations agree upon a five-year plan, similar to the DoD Program Objective Memorandum, called the Medium Term Resource Plan (MTRP). It is reviewed and revised annually and retains an out-year perspective over five years. Through this agreed plan, nations commit to their annual NATO budget contribution levels. The amounts of the contributions are expressed as national percentage shares. The actual amounts are in euros--NATO's standard monetary pricing unit. The U.S. contribution percentages range from 10 percent to 40 percent, depending on the type of budget and the number of nations participating in the particular budget.

There are four main budget types:

* The military common funded budgets (much like our Operation and Maintenance [O&M] appropriation)

* The NSIP budget--facilities, communications, and technology (akin to a combination of our MILCON; Research, Development, Test, and Evaluation; and Procurement appropriations)

* The civil budget that covers the cost of operating NATO headquarters and other similar NATO organizational costs

* NATO multinational headquarters budgets

The NATO multinational headquarters budgets are for NATO-recognized entities composed of voluntary participating nations that operate under an agreed charter or Memorandum of Understanding. Beyond the preceding categories, there are other O&M budgets (either small and/or specialized) to which the U.S. contributes. These include those for NATO civilian pensions, NATO Maintenance and Supply Agency, and the Central European Pipeline.

In the past, NATO budgets were stable and predictable. Now, since NATO has expanded its political and military charters, supplemental budget requests have become common. NATO transformation-related and peace support operational needs sometimes require augmentation to contributions previously agreed upon, as reflected in the MTRP. Operations in the Balkans and Afghanistan are recent examples. As with the U.S. military budget, the requirements change quickly, driving resource demands.

Current Resource Challenges

The USAREUR G8 manages a combined O&M and NSIP NATO-specific annual budget authority of about $580 million, plus an NSIP-related contingent liability of $365 million. The major O&M variables are NATO agreed budget levels, NATO operating tempo, numbers and types of multinational headquarters, Centers of Excellence in which the U.S. participates, and foreign currency rates. The NSIP is driven by budget levels; by capability shortfalls identified through the Allied Command Transformation and Allied Command Operations capability assessment processes; and, heavily, by foreign currency rates.

Let's take a closer look at these budget factors.

Normalized for inflation, foreign currency, and special operations, the annual NATO O&M military budgets have been relatively flat over many years. The same can be said of the NSIP budget. This is true since member nation contribution percentages have not changed substantially even as new member nations have joined over time. The difference lies with the piece parts of the budgets, particularly as NATO transformation has been implemented and NATO peace support operations were born. For the U.S., this directly influences our O&M funding sources used to pay the U.S. share--from a recurring NATO baseline account or from related U.S. contingency operations-based Defense supplemental appropriations. Afghanistan and Iraq are recent examples of the latter.

NATO is involved in a number of operations, and its operating tempo is high: Peace support operations are on-going in the Balkans and Afghanistan; assistance to Iraq is being provided to help train military and police forces; potential humanitarian support missions are being analyzed; and exercises to test and hone NATO capabilities like the NATO Response Force are frequent. NATO policy directs the nations to provide and pay for the logistics support of its own members. These costs must be underwritten within existing obligation authority at the expense of other programs or, in the case of related U.S. unilateral contingencies, must be compensated when possible with emergency supplemental appropriations.

Foreign currency rates have been volatile and, to some extent, are unpredictable. Like the proverbial jumping bean, they can go up, down, or sideways--seemingly at will and much faster than can be accommodated within the regular decision cycles of DoD's Planning, Programming, Budgeting and Execution System.

In the past three years, the dollar has lost up to 34 percent of its buying power against the euro--important since the euro is the standard NATO monetary unit. Concurrently, DoD's prescribed official budget rates for the euro have moved in the other direction. The Department prescribes annual budget rates based on a number of factors, including the actual exchange rate, the fiscal health of the foreign currency account, and the competing requirements for DoD resources. From fiscal year (FY) 2003 to FY 2006, the euro budget rate has actually dropped 31 percent--an inverse proportion to the actual exchange rate. The unrealistically low budget rate, coupled with the actual exchange losses, creates an annual disparity of over $100 million in the NATO-related O&M and the NSIP DoD MILCON. This creates a continuing challenge for adequately resourcing both the NATO accounts and the Foreign Currency Fluctuation, Defense account.

Future Resource Challenges

Keeping with the thought that NATO is indeed coming, here are a few vignettes on potential resource challenges. It is to be hoped that these will help avert the "I didn't see it coming" syndrome.

The dollar likely will remain unstable against major foreign currencies over the next few years. How good a gambler are you? How would you program and budget foreign currency uncertainty? There is much at stake--and the ante is high.

A bad call could translate to hundreds of millions of dollars in execution-year fixes or program degradation. For example, notwithstanding the U.S. dollar's 10 percent gain against the euro since January 2005, one current thought (4) is that one euro will cost $1.50 by springtime 2006. This would be a loss of 25 percent in buying power measured from today, thereby adding about $75 million annually to the DoD outlay for the U.S. NATO contribution bills for both O&M and NSIP. This is on top of the FY 2003 to FY 2005 annual currency-based loss of $110 million measured from the FY 2003 euro dollar market rate of nearly 1 to 1. Look for programmatic decreases within DoD's total obligation authority and heavy replenishment of the Foreign Currency Fluctuation Account using prior-year funds to resolve the potential shortfall.

Another consideration relates to combined operations, for example, U.S. Forces under operational control to NATO and U.S. service members or units serving as part of the NATO force mix. U.S. organizations must be ready to support them logistically in accordance with NATO policy, wherein the U.S. must budget for the costs. If the tables are turned, wherein U.S. Forces require assistance from NATO, the U.S. needs to understand payment requirements.

For example, local currency must be converted (likely one without currency fluctuation account support) to euros, and then to dollars, to calculate the NATO reimbursement. Coordination is needed with the Defense Finance and Accounting Service and the U.S. Department of the Treasury to process payments to foreign banks. There also must be an understanding of the DoD Acquisition and Cross-Servicing Agreement program (5) that enables and limits exchange of certain goods and services with NATO nations on a reimbursable basis.

Nations' contribution shares to NATO common-funded budgets may change. This also could affect multinational budgets in terms of those nations participating and respective budget shares, or it even could lead to NATO operationally-specific budgets developed and funded by a coalition of nations. The latter is already evident wherein a NATO "trust fund" has been established to support NATO's Iraqi training mission. Other impacts might be an increase to U.S. cost shares; a unilateral U.S. resource approach (a Foreign Military Sales case, for example); and special measures established to monitor or manage exceptional U.S. contributions not under NATO common budget purview.

The intent of the NSIP program (6) is to resolve NATO capabilities shortfalls in required military use infrastructure. As part of NATO transformation, new shortfalls have been identified. To find flexibility within the flat-lined NSIP budget, previously approved projects are being deleted or downsized. Near-term priorities now are more integral to the approval process aligned to current operations. Competition for funding is keen. Eventual reimbursement to nations for their pre-financing of projects is more uncertain. When received, reimbursements to the U.S. affect how much new NSIP budget authority is required annually, with a direct effect on other DoD MILCON accounts within the total DoD obligation authority.

Residual value of NATO investments could prove to be a major issue against the backdrop of the planned drawdown of U.S. Forces in Europe. The services should look for potential reporting requirements to NATO, using our national inventory pricing methods.

Conclusion

There is much going on. Things are changing. There is volatility and uncertainty. Next time you hear or see something about NATO, recall this article and the funding perspectives and challenges that exist as part of our alliance membership. NATO resource issues can be complex. As NATO changes, we will change as well in how we do business, where we do it, and under what authorities.

NATO is coming! Get ready. Get involved. Shape your own destiny.

Endnotes

(1) DoD Financial Management Regulation (DoDFMR), DoD 7000.14-R, Volume 11A, Chapter 9, Support of International Military Activities, paragraph 090302

(2) DoDFMR, Volume 11A, Chapter 9, paragraph 090303

(3) The NATO Handbook, June 2004, available at http://wwwshape.nato.int/

(4) Standard and Poor's Fixed Income Investor, May 2005. (Note: Article speaks to an interbank rate; DoD pay-out rate would be about $0.05 higher.)

(5) DoD Directive 2019.9, Acquisition and Cross Servicing Agreements, April 28, 2003

(6) DoD Directive 2010.5, The NATO Security Investment Program, December 13, 2004

William (Bill) Thomas is the chief, NATO Resource Support Branch, in the USAREUR/7A G8's Program and Budget Division.