When you’re trying to buy a product in the industrial era, most of the cost was in the physical attributes of the thing you’re buying. Even for information good like a newspaper for example, most of the cost was in the paper, in the distribution system, in the capital for printing that supports that.
So the Department of Defense, of course, when it decided how it should be buying things in the 1950s and 60s, they’re really looking at the resource inputs into an object and then add maybe a 10-15% profit on that and that’s the price.
One of the problems is that since the 50s and 60s, the sources of value in the economy has changed. Software, data, product designs and other intangible assets — they can be reproduced at zero marginal cost.
That was from my segment on Government Matters, Biden Administration has opportunity to set new precedents in contracting. Watch the whole thing. Taking economic theory seriously — the concept of opportunity cost — would require a tremendous shift in the mindset of government officials.
What DoD uses today is basically the real-world implementation of the labor-theory of value (a favored theory of socialist economics). You see that in forward pricing rates used on cost proposals. Even major subcontractor costs get decomposed into labor and materials, and ultimately materials and capital found in overhead are imagined to result from labor as every step in the production sequence decomposes to more labor and capital in this sort of fractal way.
That’s a static view of the world. When major technology programs are estimated on the basis of historical precedent and labor hours data, it simply bakes the past into the future. Marginal improvements for high costs is almost assured under that process.
This is reflected in the rapidly growing costs of constant-quality outputs — cost disease. If defense technology growth/adoption stagnates relative to the commercial economy, and prices are pinned to wages targeted to grow with the rest of the economy, then the customer finds itself losing buying power.
For a more coherent explanation and what DoD can do about it, see my NCMA article.
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