Defense Spending Boosts the Economy? Data Says, Not Usually

As policymakers in Washington desperately search for ways to resuscitate America’s moribund economy a popular meme is taking hold that higher military spending can help boost the economy. Is that true? Theory aside, the historical evidence is not so clear.

Even House Republicans appear to be jumping on the spend defense money bandwagon, apparently eager to show they remain "strong" on defense. The GOP spokesman, Josh Holly, sent out a response to the initial Obama plan to cut 10 percent from the defense budget with this pop quiz:

Pop Quiz: A $55 billion cut in defense spending during a time of war and tough economic times will:

a) Improve America’s ailing economy,

b) Hurt America’s ailing economy even more,

c) Haven’t considered the economic implications or number of jobs that will be lost yet, or

d) Not sure.

While the answer would seem to be obvious from Holly's very rigged choices, the answer is not so simple. The general idea is that when the government increases military spending through borrowing or printing money, it boosts aggregate demand for goods and services. One of those pushing this line is Martin Feldstein, professor of economics at Harvard, and a former Reagan administration economic advisor, who says a chunk of military spending should go into the stimulus plan being debated by Congress. “If rapid spending on things that need to be done is a criterion of choice, the plan should include higher defense outlays, including replacing and repairing supplies and equipment, needed after five years of fighting. The military can increase its level of procurement very rapidly,” he wrote in a Jan. 29, Washington Post op-ed.

Feldstein suggests adding $30 billion a year in military spending to the stimulus package. We’ll look at that figure in just a second. First, does higher military spending really boost economic growth? Two economists at the non-partisan Congressional Research Service recently examined military spending and its effect on the economy. Their analysis shows that only on two occasions, during World War II and the Korean War, can higher military spending be associated with an economic boom.

As the CRS economists explain, World War II stands in a class all its own. Trying to compare a period when military outlays from 1943 to 1945 reached 37 percent of GDP and the structure of the American economy was fundamentally altered, to other post-war economic events is foolish. During the Korean War years, military spending reached 14 percent of GDP, and real GDP grew during the early 1950s. After Korea, the evidence is murky at best. “Vietnam, the Reagan military buildup, and the two wars in Iraq were not large enough to dominate economic events of their time,” CRS says.

During the Vietnam War, defense spending only began to rise in 1966, reaching 9 percent of GDP in 1968, and the war was in decline by 1970. Even that higher level of wartime spending had little effect on a U.S. economy that was battered by skyrocketing inflation and high oil prices. During the Reagan era defense buildup of the early 1980s, the economy slipped into the worst recession since the Great Depression. Conversely, as CRS notes, the economy expanded throughout the 1990s as defense spending fell.

What about the defense buildup since the 911 terror attacks? Defense spending has jumped from $295 billion in 2000, to the 2009 budget request of $611 billion, a 62 percent increase that would appear to make the 2009 budget the highest since the end of World War II. While the jump looks huge, when measured as a part of total U.S. GDP, the percentage increases are very small, and, as CRS put it, “any stimulative effect was minor.” Military outlays increased by only 0.3 percentage points of GDP in 2003, an additional 0.2 percentage points in 2004, by 0.1 percent in 2005, stayed at 4 percent of GDP until 2007, and increased by 0.2 percent in 2008, the year the U.S. officially entered a recession. As the CRS analysis shows, it takes a really big war to stimulate aggregate demand in an economy the size of the U.S.

Back to Feldstein’s argument: he says money should be included in the spending plan to repair war worn equipment returning from Iraq and Afghanistan. “Since much of this military spending will have to be done eventually, it makes sense to do it now, when there is substantial excess capacity in the manufacturing sector.” The problem is that much of the equipment used in Iraq is outdated and is due to be retired anyway. For example, there is no reason the Army should repair and refurbish its huge fleet of M-113 armored personnel carriers, as most of those Vietnam era vehicles will be retired in coming years, some to be replaced by Stryker wheeled vehicles, others by new vehicles due to come out of the Army’s FCS program. The same holds true with Humvees, many of which are currently being turned over to the Iraqi Army. The Army and Marines are currently developing a replacement vehicle for the Humvee, so refurbishing the Humvee fleet makes little sense.

The Army can buy more cargo trucks and Strykers, and can speed upgrades to the Abrams tank and Bradley vehicle. But the Army already had plans to reset 24 brigade combat teams, each with 40,000 pieces of equipment, beginning in 2008. There is a capacity limit to how many more vehicles the government arsenals, such as at Red River, Texas., and industry repair shops, can handle. Some of these depots are already working around the clock.

Advanced research on weapons is done mostly on computer, by a handful of big brains at national or industry labs. Modern weapons systems are very sophisticated, built to within exacting tolerances, require costly, precision and often hard to get parts and require highly skilled workers to assemble. Existing production lines can only be ramped up so much. There just are not vast “Arsenal of Democracy” assembly lines sitting idle that can be ramped up to churn out a Liberty Ship in under fifty days or 80,000 planes a year, as industry did during World War II.

Clearly, Feldstein does not understand defense spending very well. If he did, he would realize that $30 billion in the defense world is close to chump change. The military burns through about $10 billion a month in Iraq. By Feldstein’s own calculations, between the consumer being wiped out by the housing collapse and stock market bust and the construction fall-off due to housing's declne, the U.S. economy is likely to suffer annual demand destruction on the order of $600 billion, or slightly more than 3 percent of GDP. Sure, you can talk about increasing defense spending by hundreds of billions of dollars to replace consumer demand, but in reality, there just aren’t many places to spend that money, at least not in the short term.

And looking around the world today, a big war along the lines of World War II does not seem very likely.