Matt Yglesias has a post discussing the new cold war with China. In the end, he’s skeptical of calls for more military spending to counter China, but along the way I think he concedes too much to the other side:
But when defense spending went down in Obama’s second term, that was part of an across-the-board austerity agenda that was economically harmful. Under Trump, Congress cut deals to lift the sequester, and both military and non-military spending went up. That, it seems to me, was good.
We should not let concern about China deprive us of funds for useful domestic spending. But whether or military spending actually crowds out or crowds in domestic spending depends on the situation.
I strongly disagree with the first paragraph, and the second is also somewhat misleading.
As I’ve pointed out in numerous previous posts, the 2013 austerity program represented a spectacular failure of Keynesian economics. Keynesians predicted that the fiscal austerity would slow growth, perhaps triggering a recession, and instead both real and nominal GDP growth sped up after January 1, 2013. That’s because the impact of fiscal shocks is normally offset by monetary policy, as was the case in 2013.
I don’t accept Keynesian models of fiscal policy, but even if we accept the standard textbook Keynesian model, a persistent increase in military spending, say from 3% to 4% of GDP, completely crowds out domestic spending. That’s because in the standard Keynesian model, military spending can only avoid being zero sum by reducing the volatility of the business cycle. In other words, it would need to be “countercyclical.” That’s presumably what Matt means by “depends on the situation”. But that phrase doesn’t mean what many people think it means.
If you permanently raise military spending from 3% of GDP to 4% of GDP, it doesn’t even have the effect of boosting GDP during a recession period. The economy adjusts to the new trend rate of military spending, wages and prices reflect those levels, and shocks are just as likely to produce big recessions at 3% of GDP military spending as at 4% of GDP military spending. In the more sophisticated Keynesian models, it’s not government spending that matters, it’s changes in government spending. Again, to boost growth the military budget would have to be countercyclical.
And here’s the basic problem, it’s very unlikely that military spending would be meaningfully countercyclical. In any case, that would not be an argument for a bigger military, it would be an argument for a more countercyclical military. If we are talking about long run changes in the military as a share of GDP, we need to assume 100% crowding out, if not more.
In practice, the crowding out is more than 100%. That’s because higher military spending requires higher taxes. As taxes as a share of GDP rise, other things equal, the level of GDP per capita declines. While rich countries often have fairly high taxes (i.e. Sweden), between two otherwise similar rich countries the one with lower taxes usually has higher per capita GDP. (And even Sweden’s economy improved after it cut back on its extremely high tax rates during the 1990s.) That’s one reason why America’s per capita GDP is higher than Europe’s—we have lower tax rates. In general, rich countries with lower taxes (the US, Canada, Australia, Switzerland, Ireland, Singapore, etc.) tend to be richer than those with higher taxes.
PS. A tiny part of military spending may involve growth generating R&D. But that’s an argument for the government funding some R&D, not an argument for massive military spending.
READER COMMENTS
Frank
Jul 24 2021 at 5:37pm
Defense spending is for defense. The United States spends more than the next 11 countries, of which eight are allies.
https://www.pgpf.org/blog/2021/07/the-united-states-spends-more-on-defense-than-the-next-11-countries-combined
Somehow, there doesn’t seem to be a problem.
Thomas Lee Hutcheson
Jul 24 2021 at 5:49pm
Given Fed’s refusal to keep even inflation on track after 2008, expecting the Fed to offset the decline in the budget deficit was pretty optimistic. Fortunately, the pessimists were wrong.
Michael Sandifer
Jul 24 2021 at 8:23pm
Is 4% of GDP massive military spending? And do you think the US has an important role to play in the world in terms of managing balances of power? If so, does that justify relatively high military spending?
Frank
Jul 24 2021 at 8:50pm
Better question is: How much less security would a one percent reduction in defense expenditure bring?
As the US spends more than the next 11 countries combined, of which eight are allies, I would guess zero percent.
Tom Chambers
Jul 26 2021 at 1:27pm
Reply to Frank, “How much less security would a one percent reduction in defense expenditure bring? … I would guess zero percent.”
Something close to zero, as so much of US military spending makes only a small contribution to military readiness. The US military gets less bang for its buck than probably any other in the world–which makes us versus them comparisons on the basis of dollars pretty meaningless.
I have heard that war-gaming of any conventional war with the PRC shows the PRC as the winner. And I note that the carrier ‘Gerald Ford’ which was authorized in 2009 and laid down in 2013, is still not fit for operational deployment. So, yes, our security is not proportional to our spending.
Michael Sandifer
Jul 29 2021 at 9:26am
If the best way to ensure international stability is to impose it with the US as a unipolar power, then a 1% of GDP reduction in US military spending can have even catastrophic effects over the next generation or so.
Scott Sumner
Jul 24 2021 at 10:56pm
“Is 4% of GDP massive military spending? ”
Yes, that’s one of the highest ratios in the world. I’m not worried that we will see foreign setbacks due to a lack of military spending. If other countries are worried about the balance of power, they have the option of spending more. It (wealthy) Taiwan is not willing to spend money to defend itself, why should we?
Michael Sandifer
Jul 25 2021 at 1:16pm
That’s where we disagree. I still see the role of the US as needing to play the role that was filled by the UK before the US took over. That is, tipping balances of power around the world to our national advantage, and by extension, to the advantage of democratic/republican government and relatively free markets, as imperfectly as that’s done at times
Like most realists would point out, there is no other country in the world that can replace the US in this role, and I think it’s well demonstrated that collective attempts at achieving such security are doomed to fail. The EU, and especially the wider European community have demonstrated a distinct lack of both motivation and capacity to provide for even the security of their own continent without US leadership and logistical backbone. Recall the the indispensable US role in ending the civil wars in the former Yugoslavia, for example. And, of course, it is conventional thinking that the US has been indispensable to security in Europe since the end of World War 2.
Should we expect collective action to be anymore effective in east Asia? How about other regions in the world?
Yes, military spending is relatively high in the US, but it isn’t close to being crippling, and I see it as necessary as we are still the indispensable nation and will be for the foreseeable future, if we can avoid going off the rails domestically.
Scott Sumner
Jul 27 2021 at 5:51pm
I don’t see how the world would become more dangerous if we reduced defense spending. Can you give me a specific?
Mm
Jul 28 2021 at 7:31am
Thank you, Ramsey MacDonald! Shall we extend the 10 years rule? Same arguements we’re made in Britain until ~1932?
Tom M
Jul 28 2021 at 9:20am
Scott- “I don’t see how the world would become more dangerous if we reduced defense spending. Can you give me a specific?”
We could see a return to the golden age of Piracy! <3
Michael Sandifer
Jul 29 2021 at 8:13am
This is where it gets complicated. Seemingly, at the moment, the US is still in a very strong position regarding international security. The US spends about 3.7% of GDP on defense, while China, the next biggest spender, spends only about 1.7% of GDP. In absolute real terms, the US spends well over twice as much as China on defense. The next biggest spender, India, doesn’t even come terribly close to spending $100 billion, and they are somewhat allied with us in Asia, along with countries like Japan.
We also have the NATO alliance, which has a broader scope of action than Europe, as demonstrated in recent interventions in the middle east.
From this perspective, the US by far the most powerful country in the world militarily, and has the most powerful alliances. Obviously, the US is essentially unchallenged by countries in its own hemisphere.
But, increasingly, trends have not been moving in favor of US predominance in recent years. The NATO alliance is not as strong as it was pre-Trump, with European confidence in the American electorate and political system shaken. Turkey has increasingly become a rogue actor, and there’s a general rise of fascism in Europe and elsewhere in the world, which includes a prideful nationalism that weakens old alliances. It is perhaps not an exaggeration to say that NATO is now a weaker alliance that at any time since reaching its height of solidarity during the Cold War. And this comes at a time in which Putin is openly testing the limits of the alliance and its commitments and overtly trying to undermine republican government.
Yes, Russian defense spending is less than 1/10th that of the US, and Russia is a failing petro state in many respects, but the fact that Putin has been able to play a weak hand so effectively is evidence of the weakening of the NATO alliance and the US predominance.
In Asia, the US still has a very powerful presence, a strong alliance with Japan, and a growing alliance with India. But, Japan is still a relatively reluctant projector of power, though they made progress under Abe, and India is increasingly a basket case in some respects under Modi. It’s unclear how much of a commitment and capability there will be to counter a rising China in Asia going forward. Also, of course, Japan is increasingly weak economically.
Should we see China as a serious military threat? I think that’s still unclear, but there are troubling trends toward nationalism, including open expressions of exceptionalism, and a potentially dangerous marriage of industrial and military policy. I think there’s serious potential risk to the balance of power in Asia, that could lead to less security. And of course, China’s economy is growing much quicker than that of the US.
Right now, generally, uncertainty is growing. When I put the potential instability caused by rising powers in Asia, a proud country failing in many ways in Europe(Russia) and seemingly growing dissatisfaction with the current pecking order in the world, I grow concerned. This is particularly true in the context of rising nationalism and even fascism, with the retreat of free trade which is undermining interdependence simultaneously.
And, I think global warming is threatening to greatly add to instability around the world, perhaps accelerating the above-mentioned disturbing trends. I see potential growing food and water insecurity in less developed countries, driving higher rates of emigration and increasing incentives for the escalation of conflicts, not only between states, but within.
More explicitly, I combine elements of balance of power and power transition theories within the context of an increasingly unstable world. At the same time, I see a strong desire by Americans to retreat from the world stage, and follow a more nationalistic foreign policy, but with lower spending on balance of power considerations.
I think it would be a mistake to give up on the capability of fighting two major simultaneous regional conflicts, as I think there’s a non-trivial chance that our security can be tested in at least two of at least three regions of the world concurrently. I think Russia and China could collude at times to test the US in Europe and Asia simultaneously, and perhaps also in the near east.
I also think it would be a mistake to reduce defense-related research, especially in an age of the coming of autonomous technology which could help to reduce the significant money the US spends to deploy human beings. The US is extraordinarily sensitive to military casualties, greatly driving up the cost of operations. It was a mistake to invade Iraq, but I also think it’s a mistake to withdraw American forces. It is also a mistake to withdraw from Afghanistan.
So, to try to summarize: the current US position is strong, but not as strong as it may appear, and is weakening. This is while increasingly nationalistic and assertive actors such as China and India rise, while Russia tries to deal with its relative conventional impotence. India might be a useful ally in the future, but there’s great uncertainty.
There’s also increasing uncertainty in Europe, as the Bush and Trump eras, especially the latter, have made the US a less trustworthy ally, as nationalism grows besides. Western Europe has repeatedly demonstrated its inability to even solve small security problems on their own continent without the US leadership in NATO.
My explcit theory is that a stable strong US can impose a minimum stability on the world as a unipolar power for at least another generation. Absent this, armed conflict and general chaos may rise, and perhaps to surprisingly disturbing levels.
Michael Sandifer
Jul 29 2021 at 9:30am
Mm,
That does relate to my thinking to a degree. I do see some parallels between this era and the interwar period. I don’t think history will repeat itself, but it might rhyme more than we like if we take international security for granted.
I’m concerned the US could be weaker than it likes in 10 or 20 years, as forces of instability rise that will be more difficult if not impossible to resist, given prior disinvestment. Look at how weak the UK found itself at the outbreak of World War 2, especially regarding it’s land capabilities in Europe and its lack of carriers in the Pacific.
Andrew_FL
Jul 24 2021 at 8:48pm
If military spending serves some functional purpose, you almost certainly do not want it to be counter cyclical, pro cyclical, or any kind of cyclical. You want to be spending something like a constant per capita amount across the business cycle, if your military is actually serving the function of national defense, given fixed international conditions.
Scott Sumner
Jul 24 2021 at 10:57pm
I completely agree.
Brandon Berg
Jul 25 2021 at 5:32am
Regarding taxes and GDP, what are your thoughts on whether the main driver of this relationship is taxes or non-investment government spending? I can see how both could be important, but I’m not sure to what extent they each matter.
Scott Sumner
Jul 25 2021 at 12:25pm
Transfer payments are sort of an implicit tax, which discourage work just as much as ordinary taxes. That’s one reason why hours worked per capita are much lower in Europe.
I suspect that military spending is especially likely to reduce growth, as very little of it can be viewed as “investment”
Todd Ramsey
Jul 25 2021 at 11:02am
Only tangentially related to the post…Scott is either too kind or too concise to add this color, but I am neither kind nor concise.
If someone wrote this in the New York Times on April 28, 2013:
“…we are in effect getting a test of the market monetarist view right now, with the Fed having adopted more expansionary policies even as fiscal policy tightens.
And the results aren’t looking good for the monetarists: despite the Fed’s fairly dramatic changes in both policy and policy announcements, austerity seems to be taking its toll.”
And that person did not subsequently say, “I was wrong, and I need to re-examine my worldview”, why would the Times continue to give him a platform?
It’s infuriating to me because so many intelligent people think when they read the New York Times they are getting the Truth; they think that Krugman is the voice of reason amidst the cacophony of insane ideas. Thus there continues to be widespread support for his discredited ideas.
Scott Sumner
Jul 25 2021 at 12:25pm
I remember that.
Ilverin Curunethir
Jul 26 2021 at 5:53pm
Yglesias has wrote the below about higher interest rates, including arguing that higher interest rates are in and of themselves a good thing, separate from whether they are associated with good things.
https://www.slowboring.com/p/low-interest-rates-are-a-curse-we
Scott Sumner
Jul 27 2021 at 5:48pm
Why does he believe that?
Ilverin Curunethir
Jul 28 2021 at 9:42am
Yglesias writes
My interpretation of what Yglesias thinks based on that quote combined with the quote in this article Scott wrote:
Low interest rates politically empower 2 groups of people Yglesias sees as harmful:
Republicans (the article’s section heading is ‘reactionary populists’ but all the text describes Republicans in general) don’t need to adopt unpopular policies to fight debt when interest rates are low, so find it easier to win elections
Irrational (“utopian”) left-wingers are more likely to win primaries/credibly threaten moderate Democrats, because voters don’t require their plans to be sensible when money is “free” (low interest rates)
Additionally, Yglesias probably thinks more government spending is better than private sector spending, even if half of new government spending is military
Frank
Jul 27 2021 at 6:35pm
Step one would be to be able to distinguish between the nominal rate and the real rate.
Spencer Bradley Hall
Aug 1 2021 at 10:47am
re: “That’s because the impact of fiscal shocks is normally offset by monetary policy, as was the case in 2013.”
Hardly. That was my market “zinger” forecast, activating monetary savings, velocity of circulation. Same thing happened in 1966 – real rates rose.
Warren Platts
Aug 11 2021 at 4:38am
We mustn’t forget about the technological innovations that derive from military spending. You know, things like the internet, nuclear power, GPS, radar, modern jet engines, synthetic rubber tires, synthetic fabrics, down to more mundane items like duct tape, the material tampons are made of, silly putty. If USA has one comparative advantage it is its capacity to innovate. To the extent that reducing military spending reduces USAs capacity to innovate, that could have dire economic consequences.
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