TNAG-0543-FCO40-638-Strength-of-garrison-in-Hong-Kong-1975 — Page 54

CONFIDENTIAL

year. Some minor adjustments may be necessary to bring the costs into line with the final exchange rate assumption for 1976/7 Estimates. This will not be available until next month. The main reasons for the increase in costs of 30% in sterling (but little over half that in terms of Hong Kong dollars) are the recent increases in Service Pay and Local Overseas Allowance and the falling value of sterling against the Hong Kong dollar. The changes are described in more detail in Annex A. There are no significant changes in constant price terms.

4. Hong Kong now tend to favour a Naval presence of 5 patrol craft rather than a frigate, and the costing has been revised on this basis. On the assumption that no expenditure on replacement craft would be required during the period, the only difference in cost between this and the frigate solution is the cost of a frigate refit which would be required every 5 years and has been variously estimated at between £1M in Hong Kong and £24M in Chatham (or £0.2M-£0.5M a year on average). Sould expenditure on new patrol craft be required during the period we would expect costs to be shared on the same basis as the remainder of the garrison. 5. Changing exchange rate parities make dollar/sterling conversions more than usually difficult. The Hong Kong Government have proposed, and MOD has agreed, that during the negotiations garrison costs should be discussed in terms of dollars. This has two advantages:

6.

3.

As the majority of costs are dollar related (see para 6 below and Annex B), the cost in terms of dollars is much less likely to fluctuate as parities change, and

ს.

The use of dollars plays down the increase in costs from the earlier figures given to the Hong Kong Government.

The draft memorandum of understanding makes provision for the Hong Kong contribution to be increased in step with changes in the price levels ruling in both Hong Kong and the United Kingdom. The agreed formula requires garrison costs to be divided into 9 separate categories (the so-called "inflator" categories). These, together with an attribution of costs to each category, are shown in Annex B. With the exception of equipment supplied from the United Kingdom and that proportion of UK Servicemens' basic pay not drawn locally (tax, NI contributions, savings etc), almost all the remainder, some 70% of garrison costs, is of benefit to the Hong Kong economy. Despite this, the Hong Kong Government have suggested that UK income tax, as a direct benefit to HMG, and which amounts to about £12M pa, should be taken into account in assessing the size of the Hong Kong contribution. We have resisted any attempt to change the garrison costs on this account on the grounds that the Defence Budget, as opposed to HMG, does not benefit. If the point is pursued attention. should be drawn to the fact that no provision has been made for pensions in garrison costs. Based on the latest actuarial assessments such provision would amount to about £2.0M pa for a garrison of about 2,500 UK Servicemen.

2

CONFIDENTIAL