Amendment
This is discussed under Terms of Reference 5.6 and 5.7.

5.4 Outline by what process New Zealand could cancel, defer, amend or confirm the project

Refer to the Legal Structure discussion in Terms of Reference 5.1.

5.5 Assess the consequences of cancellation, deferment, amendment or confirmation of the project: fiscal cost, diplomatic and legal considerations

Fiscal costs and legal considerations were considered earlier in this report.

Diplomatic Considerations

The terms of reference did not extend to consultations with other governments. However, briefings were received from the Ministry of Foreign Affairs and Trade, the External Assessments Bureau, New Zealand Defence Force/Ministry of Defence. Discussions were also held with other relevant individuals.

In my view, there are two ways of considering military and defence policy; either in terms of what a country has to do to please others; or what is right for that country in terms of "enlightened self-interest". The DB2000 report adopted the latter approach and saw our armed forces' combat capability as just one way of securing an external environment in which New Zealand flourishes.

For a country to influence others, it needs to not only have its say, but also be listened to. In pure defence terms, this means being judged on what you can do today with credit, rather than on what you might be able to do in five to ten years' time.

To perform with credit the NZDF has to have good personnel and equipment, and - amongst other things - have access to quality intelligence, training, exercises, and funding mechanisms. Brought down to basics, as Brigadier Dunne - until recently Commander of the New Zealand force in East Timor - said:

"You are either with the swimmers or the non-swimmers. East Timor has seen a paradigm shift at the strategic level. For us, it is essential to have access to the big boys for information and training.

"Our linkage with Australia is now even more important. New Zealand has to show that it can preserve a defence force and make it work. It's all about credibility. You have to be credible to be accepted".

What does this mean in terms of the F-16 contract?

Cancellation (as opposed to confirmation or amendment) would have consequences for New Zealand's relations with Australia and the United States. Other relationships are unlikely to be materially affected.

Australia

The Australian Government pays close attention to defence and is disinclined to quarantine it from the wider relationship with New Zealand. defence. The speed and strength of New Zealand's East Timor deployment will have reinforced the view that what New Zealand does, or doesn't do in the defence area, is important for Australia.

New Zealand has formal defence arrangements with Australia under Closer Defence Relations (CDR). In a joint statement on future directions in CDR dated 27 March 1998, the (then) Ministers of Defence announced that the programme of co-operative activities was designed to "address the full spectrum of defence activities". New Zealand and Australia, in other words, have committed themselves to co-operate on all defence questions. Underpinning this is the strategic reality that any military threat to New Zealand would also be a threat to Australia, and vice versa.

Australia looks to New Zealand for a defence force that enables New Zealand to meet its own defence policy goals and contribute to the joint goals of both countries under CDR. It follows that whether or not New Zealand leases-to-buy F-16s under the present project is not of key importance to Australia. The key factor is whether funds made available from a cancellation are then explicitly committed for other defence priorities.

However, a major decision to (for example) abandon New Zealand's Air Combat Force would be a legitimate matter requiring full and early consultation with Australia not only in terms of CDR, but also because of its potential impact on Australia's defence relations with the United States.

The United States

The F-16 package involves more than merely upgrading a major combat capability. It appears to reflect a conscious decision by the US Administration to re-define defence relations with New Zealand and to enable us to play - in its eyes - a more effective role in regional security. The deal is also attractive financially.

Although the offer of 28 F-16A/B was made initially on a take-it or leave-it basis, the Americans now seem to be prepared to contemplate a smaller package.

From a New Zealand perspective, a lesser number of aircraft would be more relevant to our defence requirements and financial circumstances; would maintain our improved defence relationship with the United States; and may well provide future opportunities for the NZDF to enhance its capabilities and improve its performance.

America's reaction to a cancellation of the project would be mitigated by any decision to reallocate the money saved from the F-16 project to other defence priorities, particularly those which improved New Zealand's ability to work with it and Australia.

The United States is therefore likely to pay attention to the result of a broader review of defence policy. A key consideration will be whether or not the overall level and direction of defence expenditure is affected. It would be desirable, in the event of a decision to cancel, to be able to emphasise that overall defence expenditure would not be reduced; to point to areas where specific enhancements will be accelerated; and, to confirm New Zealand's commitment to regional and global peacekeeping operations.

5.6 Examine the implications of decisions on the F-16 project for retention of a broader air strike capability;

and

5.7 Identify costs and benefits of continuing to maintain the A-4 Skyhawk capability, and the costs and benefits of early disposal; and

These two terms of reference are dealt with together.

One of the options available to the Government is to cancel the F-16 contract, retain the Skyhawk fleet either at a minimum maintenance level or in an upgraded state, and vary the numbers of Skyhawks actually flown.

This, however - on the basis of advice received and assessed during the review - is considered tantamount to disbanding the RNZAF's air combat capability.

The Skyhawk is an ageing aircraft in terms of airframe, engine and systems. Its design is 50 years old. When the aircraft were first bought by New Zealand in 1968, they had an estimated life of 15 to 20 years. Current plans call for retirement starting around 2007. Work on determining the finite airframe life stopped when the F-16 project was approved. The actual structural and economic life of the aircraft would have to be assessed in a reactivated life-of-type study. The Skyhawks have a number of systems that are becoming increasingly difficult and costly to support. Engine spares are becoming harder to source as worldwide usage nears its end.

Safe Air Ltd has, however, provided a written guarantee to a prospective purchaser of the Skyhawks that it can provide:

"supportability of all … aircraft structural, hydraulic, mechanical, engine, electrical, avionic and instrument systems for at least the next 15 years."

This is clearly subject to negotiation on price and performance.

Advice received during the review was that capital expenditure of $35m would be required over 2002 to 2005 to maintain reliability and supportability. This covers most of the structural work as well as that on avionics, the fuel system, ejection seats and cockpit displays. Variable maintenance costs would rise in 2000/01 because of work deferred this year. Variable as well as fixed maintenance costs would tail off in the years towards retirement.

In addition to the expenditure require for maintenance and supportability, targeting pods and electronic counter measures (ECM) capability are increasingly regarded as essential for deployment into other than the most benign environments.

These capability upgrades, at an estimated cost of $70 million are currently not accounted for as part of the cost of retaining the Skyhawk fleet largely because - if they were purchased - they could be transferred to the Skyhawks' replacement. More importantly, there are doubts in NZDF about the value of carrying out these systems upgrades on the Skyhawks because of the aircrafts' limited life and the technical risks and costs of integrating them without flight certification.

What is clear, is that the resale value of the Skyhawks is greater now, while the aircraft remains in service in other parts of the world, rather than in 2007 when the fleet is likely to be worth, in effect, only salvage and spares value.

The Skyhawk in its Kahu configuration, as currently equipped, is however regarded as a good entry-level air combat aircraft.

If the F-16 project continues, New Zealand could retain an air combat capability for another 20 to 30 years, with an aircraft vastly more capable than the present Skyhawks. This enhancement would be achieved at a price - in terms of the existing contract and the number of aircraft involved - because of accelerated capital expenditure, extra operating costs and the project's impact on other NZDF expenditure priorities. These issues are discussed in earlier terms of reference.

If the air combat capability were lost, it is unlikely to be revived in the medium to long term. Any decision to dispense with it should therefore be taken only after a wider review of New Zealand's defence and security interests.

This would require consideration of our real security priorities; an examination of the strategic setting and the inherent threats to New Zealand and New Zealand's interests; a consideration of the military implications; agreement on defence objectives; the determination of priorities for those objectives on the basis of their relevance to New Zealand both domestically and internationally; and the identification of the military capabilities necessary to drive those objectives within available finances.

As discussed earlier, part of this exercise should involve consultation with Australia under CDR.

The air combat capability also needs to be seen in a broader context. On one hand, it provides the Government with choice in responding to international security and peacekeeping operations, particularly if the capability is upgraded.

On the other hand, the savings in operating and capital costs from disbanding the air combat capability could be applied to other more urgent NZDF priorities.

What has become apparent, however, is the feasibility of acquiring fewer F-16s to retain a core air combat capability. The basic air combat unit is four aircraft and from that, a range of fleet strengths can be extrapolated.

Allied to this is a possible reduction in air combat force bases from two (currently Nowra and Ohakea) to Ohakea only. As the table below shows this could generate significant savings. To this may be added savings flowing from a reduction in the Macchi jet training fleet resulting from changes to the air force flying training syllabus where only those pilots destined for the air combat force undertake jet training. There are currently only four or five pilots progressing through this route.

Initial estimates from the RNZAF suggest that less than the 17 Macchis currently in service might be required . Another option is sale of the complete Macchi fleet and sourceing training elsewhere. One possibility is joint training with the Australians, which advice suggests, would be seriously considered.

Officials provided the following assessments, which start from a baseline of the figures supplied to the Cabinet in November 1998 when a decision was made to lease 28 F-16s and operate 22, flying from two bases (Ohakea and Nowra) and training with the current Macchi fleet. Option B(i) - in the more comprehensive table shown later - uses more up-to-date figures.