Both Guns and Butter? New Study Shows Innovation Benefits from Military Procurement

For much of the postwar era the United States led the world in technology, which brought significant economic benefits to the nation. That leadership was due in large part to generous federal government funding for R&D, much of it channeled through military spending. That this occurred during the Cold War was no coincidence: as William Janeway argues in Doing Capitalism in the Innovation Economy, nations have historically been unable to muster the political will for significant spending on innovation without it being part of a “national mission,” since such spending means giving up current consumption for uncertain future benefits.  In the last half of the 1800s, nation building provided the mission for America—just as that does now for China.  But after the late 1940s the animating mission that helped drive technology innovation was winning the Cold War, which we did.

The threat from the Soviet Union meant that Americans were willing to sacrifice present consumption for the good of the nation–in this case keeping the world safe for freedom and democracy. And it meant we did what it took to win—and that meant innovating. The fact that Lockheed’s Skunk Works could build the SR-71 Blackbird in 1962 that would fly at three times the speed of sound (faster than missiles launched at the plane to shoot it down) was not just an incredible feat of engineering, it was a feat of risk taking and willpower. Willingness to take risks allowed a place like the Skunk Works to successfully propose such seemingly crazy ideas. The will to commit the resources from society to such an uncertain task enabled these ideas and others from other defense contractors to become reality. But with the collapse of the Soviet Union and the end of the Cold War, that national campaign that had animated much of our innovation effort suddenly evaporated.

The result has been a lack of purpose and a significant decline in resources put into national innovation. With the decline of the Cold War in the early 1990s and now with severe budget challenges brought on by an unwillingness to raise taxes and cut entitlements spending, defense spending has been cut significantly. Military spending on technology is substantial and therefore any cuts to military spending negatively impact the overall U.S. innovation system.  As Warwick University professor Mirko Draca writes in a new study:

"The amount of money flowing into high-tech, defense-focused production dwarfs the amount spent on other prominent innovation policy tools.  For example, the Federal R&D tax credit costs around $6.5 billion per year while support for basic science through the National Science Foundation figures at $7 billion. By contrast, around $16 billion per year is spent on military R&D procurement alone, along with another $40-50 billion in spending on high-tech products. This makes defense spending–and military procurement in particular–one of the most significant topics for the study of induced innovation in the U.S. economy."

In this case the key question is, what is the likely impact of current defense cuts on the innovation performance of the U.S. economy? There are opposing theories of how military procurement, relative to civilian sales or other government procurement, affects the innovation economy. On one hand, military spending may be less helpful for growth because it is too specialized and directed primarily at non-commercial activities. In this case innovation in “guns” crowds out more commercially useful “butter” innovations.  This argument has been increasingly made since the 1990s based on the view that much defense technology is no longer dual use and only helps defense innovation, failing to spill over to the broader commercial sector and provide non-security benefits.

On the other hand, some argue that military spending is better at stimulating innovation because firms are given incentives to push the technological frontier and develop new technologies. The study by Mirko Draca provides clear support for this latter view, showing that U.S. military spending in fact supports broader U.S. innovation.

Draca shows that military procurement has a greater impact on innovation than normal (civilian) sales. Using a database of U.S. military procurement from companies in the United States between 1966 and 2003, he examines the relationship (elasticity) between defence spending and company-sponsored R&D and patenting, finding that a 10 percent increase in military procurement leads to a 0.7 percent increase in both corporate R&D spending and patenting in the broader economy. This is twice the rate at which an equivalent increase in civilian sales raises the same innovation indicators. Thus it appears that military spending does effectively spur overall innovation.

Draca also measures the aggregate impact of military spending over different time periods. He finds that military spending during the early Reagan administration led to 11.4 percent of all patenting and 6.5 percent of all R&D spending by corporations. Military procurement accounted for only 4 percent of all firm sales, so it clearly had an outsized impact on innovation. Cutbacks in spending during the Bush and Clinton administrations acted as moderating influence, however, slowing U.S. innovation by as much as 2 percent.

Draca finds that his results “do strongly suggest that defence procurement sales are a source of demand for high-tech goods. The magnitude of this relationship for patenting indicates that this could be a very strong effect, with twice as many patents produced for a given dollar of defence sales compared to the same dollar of civilian sales. The effect on R&D is also twice as high as the civilian benchmark.” (23)

The important take away from this paper is that military spending has positive spillovers for the rest of the economy: by providing a source of demand for new technologies that do not have existing markets, military spending provides an important impetus for R&D that impacts broader innovation and by extension economic welfare. Reductions in military R&D and procurement, besides weakening military readiness, are likely to have negative consequences for U.S. growth and innovation. As Draca notes, “The high-tech composition of procurement spending also makes it a significant de facto innovation policy, alongside more explicit policies such as R&D tax credits and government support for basic science.”

This is not to say that government should not also expand support for civilian R&D agencies like the NIH and NSF.  But the political will for such expansion—both on the part of the public and elected officials—appears to be weak.  In contrast, because defense spending can be dual use–helping keep America safe and strong while also keeping us innovative–and has strong bipartisan support, we should look to it as a core feature of our national innovation policy system.

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