MA

Countdown to Sequestration

Published: February 28, 2013

CONGRESSDEFENSEOMBPolicy and LegislationPublic FinanceSequestration

Despite the fact that sequestration was meant as a poison pill NOT intended to be swallowed, sequestration is going to kick in tomorrow, March 1 unless Obama and Congressional leaders can come to a last-minute agreement. We've seen the 11th hour save before, but all indicators are that sequestration will be allowed to happen. The President and numerous federal leaders have been essentially campaigning for months about the negative impact of sequestration, but now agencies and contractors alike must brace for the employee furloughs, contract delays or cancellations, and other budget-reduction strategies that will come.

Following the two-month delay instituted by the American Taxpayer Relief Act of 2012, defense and non-defense agencies are now faced with 7.9% and 5.3% cuts, respectively. This equates to a total of about $85 billion in cuts in the remainder of FY 2013, with $42.7 billion and $28.7 billion in discretionary budget cuts for Defense agencies and Non-defense agencies respectively (see chart below).  To put this into perspective, that’s equivalent to 12% of the Department of Defense’s contract spending for FY 2012, and over 18% of civilian agencies’ contract spending. To add to the fun, agencies have about 7 months to trim the fat. 
 
Note: the "Revised Sequestration Amount" is based on the new percentage baselines established following the 2-month delay from the American Taxpayer Relief Act.
OMB was required to report on the potential sequestration cuts at a Program, Project and Activity (PPA) level back in its September 2012 report to Congress, but it was not included. Considering the level of effort and coordination required to report that in the time allotted, this was not a surprise. It’s not clear if OMB has those details yet, but by law, the organization is required to report this when President Obama signs the order to initiate sequestration tomorrow. 
The table below lists the top 10 largest budget accounts by the amount of sequestrable funds. Because of the high program values, Navy and Health and Human Services dominate the list. In terms of dollar values alone, providers of defense equipment and technical and scientific R&D will feel some pain. There are also many social services grant programs that will be impacted.
 
Contracting and IT
When I consider the impact of sequestration on contracting it appears that in the short-term, contracts are likely to be “safe” (and yes, I put that word in quotations for a reason - stability and federal contracting is an oxymoron these days). At least that’s what Defense Comptroller Robert Hale anticipates. He’s stated publicly that he does not anticipate cancellation of existing contracts; rather, DoD would more likely choose not to pick up options on existing contracts or award new contracts. That’s certainly good news for incumbents, unless your contract is winding down. But for some Defense contractors, DoD is adding insult to injury. Federal Times reports that DoD plans to shelter its cash reserves by slowing the pace of payments to contractors.
IT contracts will continue to be delayed or cancelled altogether as agencies hit the “reset” button on strategic and budgetary plans. The inability to control where budgetary sacrifices are made will bring much of the change and innovation gains made to date, which were largely driven through Federal CIO mandates, to a screeching halt. The good news is that agencies will still have billions of dollars to spend on IT. The bad news is that over 70% of that will continue to be spent on just keeping the lights on – aka “Operations and Maintenance.” Agencies will have a narrow window of opportunity for investing in new and innovative solutions, even those that could actually save money in the long-term.
Fixing Sequestration in a New Continuing Resolution?
Despite the marketing campaigns describing the potential impact of sequestration, sequestration in its current form could disappear after March 27, when Congress must appropriate funds for the remainder of FY 2013. I believe that one reason there’s been virtually no negotiation for the past few weeks to avoid the sequester (other than a simple inability to agree on much of anything) is that the eye of Congress had already turned to the March 27 deadline. This is when the current Continuing Resolution (CR) expires and where Congress could feasibly change the terms of sequestration to allow a change in the distribution of sequestration burden between defense and civilian agencies and/or eliminate the uniform percentages to allow agencies more latitude over where the cuts happen.   But considering how well Congress and the administration have gotten along together so far, the likelihood of a “clean” agreement that does not create yet another cliffhanger (would that be cliff #6 or #7 since 2011?) is low.
Gaining political capital and ammunition based on citizen concern is probably a decent Plan B. But both Republicans and the administration are taking a gamble on this.  Some argue that the administration is establishing a doomsday scenario that will backfire if citizens don't see much of impact after tomorrow.  On the flip side, if the sequestration impact happens as advertised (whether it's March 2 or later), Republicans may carry most of the blame for failing to negotiate.  These two polarized contingents haven't shared much up to this point, but once the impact of sequestration is felt across the country (and internationally) they'll likely be sharing the blame.