Beyond Demand: The Supply-side Benefits of Military Spending

World War II gets credit for dragging the United States out of the Great Depression. Despite all the clear negatives of having to become embroiled in such a conflict, the demand created during the war resuscitated an economy that had been dormant since the crash of 1929.

Today, the military continues to demand high levels of labor, investment, goods, and services. And this demand still plays a role in supporting the U.S. economy. Military spending provides its personnel and suppliers with the resources to purchase additional goods and services from others, and so on.

However, according to former Federal Reserve Chairman Ben Bernanke, it is the supply side, not the demand side, through which U.S. military spending creates benefits for the U.S. economy.

These supply-side benefits are primarily created not by spending on current strength of arms, but by investing in capabilities for the future. Chiefly, this comes through defense R&D. Not all the benefits of new technology developed by the military are constrained to the defense sector. Instead, they “spill over” to the private sector. At a recent event hosted by the Brookings Institute focused on defense spending and the economy, Bernanke called these spillovers “a major factor in U.S. growth.”

Many projects that started as military R&D are now commonplace parts of our daily lives. For example, nuclear energy derived from weapons research. Other success stories range from lasers to advances in aviation to supercomputers. In many cases, the original researchers had little idea of how impactful the research would become. For instance, how could the architects of ARPANET—a predecessor to the Internet funded by DARPA—possibly imagine how important their invention would become?

Furthermore, the military serves as an early adopter of many technologies, giving support to small businesses and startups experimenting with new innovations. A large customer early in the game is a lifeline for many young companies that otherwise might not have succeeded.

On the other hand, Bernanke dismissed the claim that military personnel acquire valuable human capital skills and experiences while serving, citing research that found that military service and training had low impacts on success in civilian vocations.

Looking at the defense budget, it is tempting to propose cuts to investments in future strength. However, this is a mistake. Military R&D not only is essential for staying two steps ahead of potential foes (and indeed our military technology advantage serves as a deterrent to would-be aggressors and should be maintained), but it also provides vital benefits to the rest of the economy as well.

Still, military R&D is not as effective for generating economy-wide spillovers as federal spending on basic R&D in other areas. Military R&D spending, according to Bernanke, is frequently devoted to “mission related” goals involving applied problem solving rather than pure research into new technologies. Rather than study the nature of atoms, he explained, military research attempts to incorporate knowledge of nuclear forces into a missile. Thus, military R&D has become less ambitious as it is trying to solve shorter-term problems instead of investing in pure research with yet unknown benefits for both the military and consumers. Non-defense R&D is performed by the government largely to compensate for industry under-investment in basic research. By focusing on pure science, non-defense R&D has more potential to create economy-wide benefits in the future.

Another concern is that defense R&D uses up scarce resources needed for research in other sectors, such as physical or human capital, and thus could end up displacing non-defense R&D. However, Bernanke asserted that the spillover effects of technologies and research created by the defense sector vastly outweigh such an effect, with each dollar of defense R&D creating an additional 20-30 cents of private R&D. Academia supports this claim, with one paper demonstrating that from 1966-2003 a 10 percent increase in military procurement led to a .7 percent increase in corporate R&D spending and patenting.

With a budget of $600 billion, defense is only 3 percent of U.S. GDP. However, at 15 percent of federal spending, military expenditures are a large component of how government spending can impact the economy. The composition of military R&D, currently around 40 percent of total public R&D, has a profound impact on the dynamics by which the federal government can use publicly funded research to support and promote U.S. success in cutting edge industries.

Unfortunately, without a major “national mission” such as nation building, winning a war, or besting the Russians in a race for technological superiority, the United States has had less success in mustering political support for a broad push for innovation. However, this is a mistake. Public spending on basic R&D—be it defense or non-defense—is a major driver of future economic success, and complacency threatens further diminishing the U.S. dominance in manufacturing that America enjoyed in the 20th century.