The Defense Industry in Perspective
9. The False Perception of Autarchy
Many people think of defense as a problem that can be considered in a closed domestic economic system. The facts indicate the contrary. This reality of multi- national involvement began in the revolutionary period and continues today. In the American Revolution, of the 2,347,000 pounds of gun powder available to the army before the Saratoga campaign, over 90 percent was manufactured from imported raw materials or provided in powder shipments from Europe. 7 Today every weapon system built by the United States contains foreign parts, and many are based on foreign designs. This trend is growing as a result of the globalization of both technology and industry.
The challenge for the twenty-fi rst century is taking advantage of the positive features of the trends (such as the emphasis on R & D and the reality of globaliza- tion) while addressing and compensating for features that historically have resulted
in ineffective or ineffi cient performance for the benefi t of the nation ’ s security (including potential vulnerabilities from foreign sources).
Defense Spending and the Economy
The total defense expenditures of the United States far exceed those of any other nation. By the middle of the fi rst decade of the twenty-fi rst century, the U.S. defense annual budget of $441.5 billion (an amount that excludes two major items — more than $100 billion of annual defense budget “ supplementals ” that have been needed to cover the war in Iraq and Afghanistan and also the Department of Energy ’ s budget for nuclear weapons) was a good bit more than the combined military spend- ing of all of the world ’ s other 192 countries. 8 Even countries that have signifi cant defense expenditures (including China, Russia, the United Kingdom, France, Germany, Italy, Israel, Saudi Arabia, South Korea, and Iran) pale in comparison.
Not only does the DoD budget dwarf defense expenditures in these other countries, but the distribution of these dollars is also signifi cant. For example, although the U.S. procurement of weapons considerably exceeds that of all of Europe combined, the difference in research and development expenditures is even more extreme. The U.S. R & D is typically three to four times as large as all of Europe combined.
Moreover, the Department of Defense has more than 3 million employees and more than sixty thousand buildings. It operates in 130 countries, has $3.4 trillion in assets and liabilities, 9 and supports an industrial base with the direct labor of over 4 million people. It also has a huge indirect effect on the economy that provides goods and services to the over 7 million government and industry employees, plus their retirees and dependents.
Although the historic trends through World War II were for the United States to disarm after each major confl ict, in over forty years of the cold war and continuing into “ the long war on terrorism ” of the twenty-fi rst century, there has been a sus- tained level of signifi cant defense expenditures, which is expected to continue in the coming years.
But defense budgets are not intended to cover a single regional confl ict. U.S.
troops are literally spread around the world (table 2.4 ).
In addition, the national security budget of the United States must include the basic defense budget, the supplementals that are added to pay for any emergency needs of the Department of Defense (this category includes approximately $170 billion in 2007 for Iraq and Afghanistan), the Department of Homeland Security (approximately $40 billion per year), and the nuclear weapons and naval reactors that are included in the Department of Energy ’ s budget (approximately $17 billion per year). The budget should also include portions of the overall intelligence budget, which once was estimated to be $50 billion to $60 billion a year 10 but in
Table 2.4
U.S. global military commitments, June 2007
CENTCOM EUCOM PACOM SOUTHCOM
Iraq, 169,000 Afghanistan, 20,000 Djibouti, 200 Egypt, 384 Kyrgyzstan, 1,000 Georgia, 21 Qatar, 3,432 Bahrain, 1,496 Saudi Arabia, 291 Afl oat, 592
Germany, 75,603 Italy, 13,354 Spain, 1,968 United Kingdom, 11,801
Kosovo, 1,700 Bosnia, 2,931 Turkey, 1,863 Belgium, 1,534 Portugal, 1,016 Netherlands, 722 Macedonia, 104 Afl oat, 2,534
Korea, 40,258 Japan, 40,045 Australia, 200 Philippines, 100 Diego Garcia, 491 Singapore, 196 Thailand, 113 Afl oat, 16,601
Guantanamo, 75,603 Honduras, 413 Canada, 147 Ecuador, unknown Afl oat, 120,666
2009 was publicly (by the director of national intelligence) put at $75 billion 11 (covering 200,000 people in the DoD and the CIA). Much of this is hidden in a variety of budgets (including within DoD ’ s budget). Various estimates are given for total national security annual expenditures, but by fi scal year 2008, one esti- mate was $720 billion to $735 billion (which would raise the percentage of gross national product devoted to national security to a range of 5.7 percent for fi scal year 2008).
During the fi rst decade of the twenty-fi rst century, supplemental defense budgets were used to pay for wars in Iraq and Afghanistan. Each year during this period, the supplementals grew, and as the wars continued, supplementals began to exceed $100 billion a year, and in some cases multiple supplementals were required. By fi scal year 2009, the president submitted a budget with a $70 billion initial supplemental. In theory, the purpose of a supplemental is to pay for unexpected expenditures that arise during a fi scal year but were not anticipated at the time that the budget was submitted. As the supplementals began to be expected, however, they became a signifi cant percentage of the armed services ’ budget plans. When these $100 billion supplementals disappear, the Defense Department will likely face a fi scal crisis. At that point, paying for twenty-fi rst-century systems (versus historic platforms) will become a reality. (Even with the large increases in the post-9/11 defense budgets, by 2010, each of the services was claiming that it was over $20 billion per year short — even with supplementals.) During this period, the nation did not convert its civilian
economy to a wartime footing, as it had always done prior to the cold war era, and instead depended on the defense industry for its security needs.
The macroeconomic question of whether large defense expenditures, without conversion of the civilian economy, have positive or negative effects on the U.S.
economy is related to whether these expenditures stimulate growth or lead to infl a- tion. Unfortunately, this question has no easy answers. There are experts and data that support both sides of the argument, and the answer seems to depend on overall national economic conditions, the alternative expenditures or fi scal policies that the military is compared to, the economic and social objectives of the policies, and the structure of and the conditions within the defense industry itself.
Because millions of jobs are generated, directly and indirectly, through defense expenditures and hundreds of billions of defense dollars are poured into the economy annually, many look to defense policy as a possible stimulus for the overall economy and for employment in defense-related areas. But comparing the effects of such defense spending with the effects of other government fi scal or monetary alterna- tives can be misleading. For example, defense expenditures may be a more effective stimulant than expenditures in other areas of government because defense is more capital intensive 12 and thus creates a greater economic multiplier for the dollars invested. However, a tax cut might be an even more effective stimulant (this depends on the form of the cut and the state of the economy at the time of the cut). Simi- larly, the public-policy objective of the economic stimulant is important. Creation of jobs may be an objective, for example, but the defense sector affects hard-core unemployment very little because of its high skill requirements and high salaries.
One analysis (by Wassily Leontief and Marvin Hoffenberg) has shown that, per dollar, military expenditures generate half as many jobs as, but 20 percent more salary dollars than, civilian government expenditures. 13 There are other theories of the macroeconomic effects of defense expenditures (some, for example, consider its effect on the stock market), 14 but a statement by former Federal Reserve chair Arthur Burns provides a good summary: “ If the defense sector has stimulated eco- nomic development in some directions, it has retarded growth in others. ” 15 None- theless, it is easier for Congress to make expenditures for national security than for almost any other category, which often makes defense spending the obvious candidate for economic stimulation whenever the need arises, particularly in periods of perceived national-security crises.
Perhaps the most important long-term effect of defense spending on the U.S.
economy has been in civilian benefi ts from defense R & D. Because the Department of Defense uses technological superiority as its differentiating strategy, it continu- ously pushes state-of-the-art performance in a wide variety of areas that have sig- nifi cantly affected the U.S. economy. The DoD ’ s need for small, high-performance electronics led it to be a fi rst buyer (and therefore stimulant) for the semiconductor
industry. Its need for worldwide communications led to the communications satellite industry. Other examples include jet engines, the Internet, and the Global Position- ing System (GPS). In all cases, these R & D expenditures were done for military needs but benefi ted the entire national economy. Nonetheless, the purpose of defense expenditures is not economic stimulation, economic growth, or employment (or politics) but must be justifi ed on the basis of the nation ’ s national security needs.
It is instructive to consider defense expenditures as a function of gross domestic product ( fi gure 2.3 ). Even during the cold war, when the defense budget was main- tained above its historic, peacetime low levels and when GDP rose signifi cantly, the share of GDP allocated to defense continued an overall decline — even during the Vietnam War and the Reagan buildup at the end of the cold war. Perhaps surpris- ingly, given the large expenditures for the Iraq and Afghanistan wars, that overall decline continued. By 2007, total defense expenditures represented only 4.4 percent of the country ’ s gross domestic product.
Based on analyses published by the Government Accountability Offi ce, the United States will not be able to increase its GDP fast enough to satisfy the demands of future defense expenditures, other discretionary needs, repayment of the debt (which by 2017 is estimated to exceed the annual defense budget), 16 and mandatory entitle- ment programs (such as social security, Medicare, and Medicaid, which, combined,
0%
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1962 1967 1972 1977 1982 1987 1992 1997 2002 2007
Percentage of GDP
Reagan buildup (1986), 6%
Gulf War (1991), 4.5%
Global war on terrorism (2000s), 3.9%
Defense budget
Social security, Medicare, and Medicaid
Figure 2.3
The DoD budget and mandatory expenditures (social security, Medicare, and Medicaid) as a percentage of gross domestic product. Source: Budget of the United States Government (historical table), CIA World Factbook (Washington, DC: U.S. Government Printing Offi ce, 2007).
are projected to grow from around 8 percent of GDP in 2000 to about 25 percent of GDP in 2080).
Additionally, although the United States spends overwhelmingly more than all the other nations in the world combined and certainly more than any individual one, many nations ’ defense expenditures exceed those of the U.S. as a percentage of their gross domestic products (fi gure 2.4 ). Yet many other countries (such as the United Kingdom, Australia, and Japan) spend a much smaller percentage of their GDP on national security than the United States does. Nonetheless, on a per-capita basis, in 2008 the U.S. defense budget ($2,000 per person) was second only to Israel ’ s ($2,300 per person). 17
Despite the recurring hope that peace will break out, history and current world- wide trends do not leave much reason for optimism in this area. Instead, we need to look closely at how the Defense Department spends its money and what can be
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Oman (2005) Saudi Arabia (2005)
Iraq (2006)Israel (2006)Syria (2005)
Angola (2006)Kuwait (2006) El Salva
dor (2 006)
United States (2007)
Chad (2006)Libya (2005)China (2006)
United Kingdom (2005) Austral
ia (2 006)
Japan ( 2006)
Percentage of GDP
Figure 2.4
Rough comparisons: Defense spending as a percentage of gross domestic product. Source: Budget of the United States Government (historical table), CIA World Factbook (Washington, DC: U.S. Government Printing Offi ce, 2007).
done to achieve signifi cant reductions without loss of national security. Most of the total DoD budget is divided approximately equally among the army, navy, and air force (with the air force usually slightly higher because of the high costs of individual aircraft and aircraft maintenance, particularly jet engines). The army is far less capital-intensive than the air force, and the major share of the army ’ s costs goes to personnel. The marines are also primarily personnel-intensive, and the Marine Corps ’ totals tend to be almost an order of magnitude lower than the other services because of its small size. Finally, within the total dollars is a category called “ defense wide, ” which tends to be almost half the level of any one of the three big services and includes the various joint activities across the Department of Defense (such as the Joint Logistics Agency, the Defense Information Systems Agency, and the Ballistic Missile Defense Agency). The distribution among the four services varies from year to year, and as the services move toward more twenty-fi rst-century types of confl icts (such as regional and irregular warfare), personnel numbers are likely to increase for the army and marines. Additionally, in a declining budget environ- ment, it will be increasingly diffi cult to pay for the large capital costs of navy ships and manned air force aircraft.
The best indicators for trends in DoD budgets are the various categories of expenditures. As defi ned in the budget process and in order of dollar values, these categories include (1) operations and maintenance (O & M), (2) personnel, (3) procurement, (4) research, development, testing, and evaluation (RDT & E), and (5) other.
Operations and Maintenance
During the long period of the cold war and continuing into the twenty-fi rst century, the DoD ’ s operations and maintenance (O & M) budget (in constant fi scal year 2005 dollars) has grown signifi cantly — from $50 billion a year to around $150 billion a year 18 (and this recent fi gure does not include large supplemental budgets that go primarily to operations and maintenance for the Iraq and Afghanistan confl icts).
This overall increase refl ects the costs of operating, supporting, and maintaining complex equipment and the high operating tempo of the confl icts in Iraq and Afghanistan. Rising fuel costs also play a signifi cant role here and refl ect the high operating tempo and the high fuel consumption of ships, planes, and tanks. In fi scal year 2008, the Department of Defense spent $15 billion for oil. 19
As military equipment ages, operations and maintenance costs rise (which has been occurring at a rate of 10 to 14 percent a year), and even if budgets remain level, the DoD will use an increasing share of its resources for O & M. It will not be able to buy new equipment, resulting in a death spiral — as older and older equip- ment costs more and more for O & M and as less and less money is available to purchase new equipment.
Personnel From 1945 to 1979, military personnel costs rose gradually with infl a- tion and cost-of-living adjustments (even with the increases for the all-volunteer services). During the large Reagan buildup in the 1980s (at the end of the cold war), however, costs began to skyrocket, with accelerated pay raises as Congress man- dated various personnel-related programs (such as the TRICARE military health plan, health care for reservists, and survivor benefi ts programs) (fi gure 2.5).
One of the most dramatic personnel cost increases is health care for active and retired military and their families. By 2005, the United States was spending overall
$2 trillion annually on health care 20 (this equaled 16 percent of the country ’ s gross domestic product). This represents a doubling of health care ’ s percentage of the GDP from 1975 to 2005, and U.S. health spending is predicted to be nearly 20 percent of GDP by 2016. 21 Military health care and pension costs are also soaring, particularly as the recruits and offi cers who have formed the volunteer armed forces after the Vietnam War retire and age. This is particularly true for the costs associ- ated with TRICARE, which covers health care for 9 million military benefi ciaries. 22 Because of increases in enrollment, benefi ts, and general medical infl ation, TRICARE costs more than doubled from fi scal year 2001 to fi scal year 2005. As of 2005, 42 percent of its budget went for active-duty personnel and their dependents, and the rest went for retirees and their dependents (with medical costs tending to rise signifi cantly with age).
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1945 1950 1955 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2009
Billions of then-year dollars
Figure 2.5
Annual military personnel costs, 1945 to 2009. Source: Department of Defense, “ Green Book, ” fi scal year 2009.
The rising costs of health care are a growing concern for the overall DoD budget.
In discussing the army ’ s fi scal year 2007 budget, U.S. Army Chief of Staff, General Peter Schoomaker, stated that he is “ very concerned about the rising human capital costs. ” 23 He observed that the cost of the regular army has gone up 60 percent since 2001, and the cost of the army reserves has gone up 100 percent — driven primarily by health care requirements. Similarly, Tina Jonas, the comptroller of the Depart- ment of Defense, observed that military pay went up 75 percent between 2001 and 2008 24 and Jonas within that escalation health care for the DoD rose by 125 percent in the same time period. 25
Finally, not all of the costs of DoD health care appear in the DoD budget. In fi scal year 2007, for example, of the total of $93 billion that military health care costs required, $42 billion was covered by the DoD, $31 billion was in the budget of the Department of Veterans Affairs, and $20 billion was in the Department of the Treasury ’ s budget (for retirees).
The all-volunteer services are becoming increasingly expensive. In the presence of extended confl icts (as in Iraq and Afghanistan), benefi ts (including retention bonuses, hazardous-duty pay, and increased retirement and family benefi ts) are the major cause of large personnel costs increases, even as the size of the force is declining in many areas.
Procurement
The DoD ’ s total investment account has two parts — procurement (the buying of production systems) and research, development, testing, and evaluation (RDT & E) (the investment in next-generation systems) ( fi gure 2.6).
As shown in fi gure 2.6, the procurement account builds up dramatically during some cycles (particularly in periods of confl icts) and then declines rapidly thereafter (a “ procurement holiday ” ). In recent times, there was a huge drop in the immediate post – cold war period. From 1989 to 1996 in constant fi scal year 2007 dollars, the overall DoD budget authority declined by about $125 billion, and almost half of this decline came out of the procurement account. In constant 2007 dollars, it dropped from $108.8 billion to $50.6 billion. From 1996 through 2009 (fourteen years), the Pentagon saw the longest buildup in defense budget authority since the 1822 to 1837 period (sixteen years). 26 As can be seen in fi gure 2.6 (in FY 2007 dollars), the procurement account grew from $50.6 billion in 1996 to $81.3 billion in 2005 (even excluding the supplemental increases), with the biggest period of growth occurring after the terrorists attacks of September 11, 2001, and during the wars in Iraq and Afghanistan. During this buildup from 2001 to 2006, the major weapons programs ’ total costs (as reported to Congress in the “ Selected Acquisition Reports ” ) rose from $700 billion to $1.4 trillion, while the actual quantities being procured declined (refl ecting increasing unit costs).