Arming the South: The Economics of Military Expenditure, Arms Production and Arms Trade in Developing Countries

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Arming the South The Economics of Military Expenditure, Arms Production and Arms Trade in Developing Countries

Edited by

Jurgen Brauer and J. Paul Dunne

Arming the South

Also by furgen Brauer ECONOMIC ISSUES OF DISARMAMENT: Contributions from Peace Economics and Peace Science (with Manas Chatterji) PUBLIC ECONOMICS III: Public Choice, Political Economy, Peace & War. Economics Reading Lists, Course Outlines, Exams, Puzzles & Problems (with Ronald Friesen and Edward Tower) ECONOMICS OF CONFLICT AND PEACE (with William Gissy) THE ECONOMICS OF REGIONAL SECURITY: NATO, the Mediterranean, and Southern Africa (with Keith Hartley)

Also by J. Paul Dunne THE BRITISH ECONOMY AFTER OIL: Manufacturing or Services (with Terry Barker) QUANTITATIVE MARXISM STRUCTURAL CHANGE IN THE UK ECONOMY (with Ciaran Driver) THE PEACE DIVIDEND (with Nils Tetter Gleditsch, Adne Cappelen, Olav Bjerkholt and Ron Smith)

Arming the South The Economics of Military Expenditure, Arms Production and Arms Trade in Developing Countries Edited by

Jurgen Brauer College of Business Administration Augusta State University USA

and

J. Paul Dunne Middlesex University Business School London, UK

Editorial matter, Selection and Introduction © Jurgen Brauer and J. Paul Dunne 2002 Chapters 1-17 © Palgrave Publishers Ltd 2002 All rights reserved. No reproduction, copy or transmission of this publication may be made without written permission. No paragraph of this publication may be reproduced, copied or transmitted save with written permission or in accordance with the provisions of the Copyright, Designs and Patents Act 1988, or under the terms of any licence permitting limited copying issued by the Copyright Licensing Agency, 90 Tottenham Court Road, London W1T4LP. Any person who does any unauthorised act in relation to this publication may be liable to criminal prosecution and civil claims for damages. The authors have asserted their rights to be identified as the authors of this work in accordance with the Copyright, Designs and Patents Act 1988. First published 2002 by PALGRAVE Houndmills, Basingstoke, Hampshire RG21 6XS and 175 Fifth Avenue, New York, N.Y. 10010 Companies and representatives throughout the world PALGRAVE is the new global academic imprint of St. Martin's Press LLC Scholarly and Reference Division and Palgrave Publishers Ltd (formerly Macmillan Press Ltd). ISBN 0-333-75440-9 This book is printed on paper suitable for recycling and made from fully managed and sustained forest sources. A catalogue record for this book is available from the British Library. Library of Congress Cataloging-in-Publication Data Arming the South : the economics of military expenditure, arms production, and arms trade in developing countries / edited by Jurgen Brauer and J. Paul Dunne, p. cm. Includes bibliographical references and index. ISBN 0-333-75440-9 (cloth) 1. Developing countries—Armed Forces—Appropriations and expenditures. 2. Arms transfers—Economic aspects—Developing countries. 3. Defense industries—Developing countries. 4. Weapons industry—Developing countries. I. Brauer, Jurgen, 1957- II. Dunne, Paul. HC59.72.D4A75 2002 338.4'76234'091724—dc21 2001058216

10 9 8 7 6 5 4 3 2 1 11 10 09 08 07 06 05 04 03 02 Printed and bound in Great Britain by Antony Rowe Ltd, Chippenham, Wiltshire

With appreciation and affection to our activist friends in the worldwide peace movement

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Contents

Figures and tables

xi

Contributors

xvi

Introduction Jurgen Brauer and J. Paul Dunne

1

PART I - MILITARY EXPENDITURE: OVERVIEWS

1

The Role of Demilitarization in Promoting Democracy and Prosperity in Africa Lloyd J. Dumas 2 Warlords and Logo Warriors: The Political Economy of Post-modern Conflict Neil Cooper 3 Military Expenditure and Development in Latin America Thomas Scheetz 4 Military Expenditure and Economic Development in Asia During the 1990s Geoff Harris

vn

15

35 51

71

PART II - ARMS PRODUCTION AND ARMS TRADE 5

6 7

The Arms Industry in Developing Nations: History and Post-Cold War Assessment 101 Jurgen Brauer Domestic Production as an Alternative to Importing Arms . . . . 129 Fotis Mouzakis Domestic Procurement, Subsidies, and the Arms Trade 161 Maria del Carmen Garcia-Alonso and Paul Levine

P A R T III - C O U N T R Y STUDIES

8 9

10

11

12

13

14

15

Saudi Arabia: Defense Offsets and Development Ron Matthews South Africa: An Econometric Analysis of Military Spending and Economic Growth Alvin Birdi and J. Paul Dunne Ludwig Erhard in Africa: War Finance and Post-War Reconstruction in Germany and Mozambique Tilman Briick Angola: Civil War and the Manufacturing Industry, 1975-1999 Manuel Ennes Ferreira Military Spending and Economic Development in Sub-Saharan Africa: A Supply-Side Analysis Oyinlola Olaniyi Greece: Military Expenditure, Economic Growth, and the Opportunity Cost of Defense Emmanuel Athanassiou, Christos Kollias, Eftychia Nikolaidou, and Stavros Zografakis A System Estimation of the Defense-Growth Relation in Turkey Jiilide Yddirim and Selami Sezgin The Military-Civilian Tradeoff in Guatemala: An Econometric Analysis Kanta Marwah, Lawrence R. Klein, and Thomas Scheetz vm

195

221

235

251

275

291

319

337

16 The Allocation of Resources to the Armed Forces in Chile: A Case of Limited Transparency Guillermo Pattillo

373

PART IV - THE PEACE MOVEMENT

17 Arms Sales and Development: The Role of the Peace Movement Tony Kempster

405

Index

417

IX


Figures and tables

Figure 3.1: Figure 4.1: Figure 6.1: Figure 6B.2: Figure 7.1: Figure 7B.2: Figure 7B.3: Figure 7B.4: Figure 7B.5: Figure 7B.6: Figure 7B.7: Figure 7B.8: Figure 7B.9: Figure 8.1: Figure 8.2: Figure 11.1:

Marginal cost and benefit of military expenditure . . . 61 Linkages in the military expenditure allocation process 84 Predicted and estimated demand curves for imported arms 142 Equilibrium when input/requires fixed costs 158 The arms market 173 Government purchases and exports against sellers' weight on consumption 188 Export price and subsidy against sellers' weight on consumption 188 Government purchases and exports against importers' variable benefit of defense 189 Export price and subsidy against importers' variable benefit of defense 189 Government purchases and exports against exporters' variable benefit of defense 190 Export price and subsidy against exporters' variable benefit of defense 190 Government purchases and exports against the weight of consumption 191 Export price and subsidy against the weight of consumption 191 Countertrade and offsets: a typology 199 The process of switch-trade 199 Angola: Index of manufacturing output by branch XI

Figure 11.2:

Figure 13.1: Figure 13.2: Figure 15.1: Figure 15.2: Figure 15.3:

Figure 15.4: Figure 15.5:

Figure 15.6: Figure 1 5.7: Figure 15.8: Figure 1 5.9: Figure 15.10: Figure 15.11:

(1975=100) and of military expenditures to government expenditures (1978=100), 1975-1991 257 Angola: Index of total manufacturing output (1975=100) and of military expenditures to government expenditures (1978=100), 1992-1998 . 264 Military expenditure as a share of GDP in Greece, NATO, and the EU 294 Military expenditure as a share of GDP and GDP growth rates 295 Guatemala: real military expenditure, 1969-1994 ( 4 000s of quetzales) 341 Ratio of real military expenditure to real GDP, 1969-1994 341 Average proportions of military expenditure (APMIL), consumption (APCON), gross fixed investment (APGFI), imports (APIM), exports (APEX), and government spending (APG) in GDP, 1969-1994 352 Actual and baseline simulated per capita consumption, 1984-1994 {quetzales per person) . . . 357 Actual and baseline simulated per capita national disposable income, 1984-1994 {quetzales per person) 357 Actual and baseline simulated GDP, 1984-1994 {quetzales per person) 357 Actual and baseline simulated gross fixed investment, 1984-1994 {quetzales per person) . . . . 357 Actual and baseline simulated imports, 1984-1994 (quetzales per person) 358 Actual and baseline simulated exports, 1984-1994 {quetzales per person) 358 Actual and baseline simulated price index, 1984-1994 (actual 1987=1.00) 358 Actual and baseline simulated exchange rate, 1984-1994 {quetzales per US$) 358 xn

Figure 15.12: Scenario 1: percentage effect, relative to baseline simulation, of yearly 30 million constant 1987 quetzales reduction in military expenditure on per capita GDP, price index, exchange rate, and per capita current account balance, 1984-1994 360 Figure 15.13: Baseline simulation and scenarios 1 and 2 effects on per capita consumption of annual 30 million constant quetzales reduction in military expenditures and annual 30 million constant quetzales reduction in arms imports, 1984-1994 . . . 361 Figure 15.14: Baseline simulation and scenarios 1 and 2 effects on non-military government expenditure, 1984-1994 (quetzales per person) 361 Figure 15.15: Baseline simulation and scenarios 1 and 2 effects on the price index, 1984-1994 361 Figure 15.16: Baseline simulation and scenarios 1 and 2 effects on the exchange rate (Q/US$), 1984-1994 361 Figure 16.1: Chile: the Ministry of Defense structure 378 Figure 16.2: Global fiscal income to the armed forces, 1989-1999 (as percentage of GDP) 381 Figure 16.3: Chile: the budget cycle 382 Figure 16.4: Chile: fiscal budget allocation to the armed forces (as percentage of GDP), 1989-1999 386 Figure 16.5: Chile: armed forces' income generated by the Copper Law (as percentage of GDP), 1989-1999 . . 389 Figure 16.6: Chile: The decision-making cycle of Copper Law funds 395

xm

Crowding-out of social and investment spending by military spending in Latin America, 1969-1994 . . . . 54 Table 3.2: The military burden in Latin America 55 Table 4.1: Asian military expenditure trends during the 1990s . 74 Table 5.1: Developing nations' arms producers/exporters, ca. 1985-1995 103 Table 5,2 The ladder of arms production 105 Table 6.1. Capital-labor ratio (arms imports per soldier) 133 Table 6.2: Estimated coefficients 145 Table 7.1 Model summary 171 Table 7A. 1: The model calibration 187 Table 8 1 Saudi Arabia: prime contracts and associated offset programs 204 Table 8.2: Saudi Arabian offset companies 208 Table 9.1: Aggregate estimation results, South Africa 227 Table 10.1: The nature of the wars in Germany and in Mozambique 241 Table 10.2: Economic indicators for Mozambique, 1987-1997 . 244 Table 11.1: Angola: Macroeconomic indicators, 1992-1999 . . . 262 Table 11A.1: Angola: Index of industrial output value, by branch and total, at 1987 prices (1975=100) and index of military/government expenditures (ME/GE), (1978=100) 274 Table 12A.1: Sample countries and sectoral GDP distribution . . . 289 Table 13.1: Estimation results, Greece, 1961-1996 301 Table 13.2: Greece: Effects on national accounting aggregates . 307 Table 14.1: Empirical studies on the Turkish defense-growth relationship 321 Table 14.2: Turkey: specification tests 324 Table 14.3: Residual correlations and lag-length statistics forVAR(2) 325 Table 14.4: Goodness of fit and diagnostic test results 325 Table 14.5: Cointegration analysis 326 Table 14.6: F M L model estimates 330 Table 14 A. 1: Unit root tests 335 Table 15.1: Guatemala: econometric model 345 Table 3.1:

xiv

Table Table Table Table

15.2: 15.3: 15.4: 15.5:

Table 15A.1: Table 15A.2: Table 16.1:

Estimated models, 1969-1994 Guatemala, scenario 1 Guatemala, scenario 2 Per capita real consumption baseline simulation and scenarios land 2 Guatemala military expenditure Data set for Guatemala study Chile: services' share in fiscal income in selected years

xv

347 359 359 362 367 368 385

Contributors

Emmanuel Athanassiou is a Research Fellow at the Centre of Planning and Economic Research in Athens, Greece. He also lectures on institutional economics and the economics of uncertainty at the Department of Economics, University of Athens. Alvin Birdi is Senior Lecturer in the School of Economics, Middlesex University Business School. His research interests include South African industry and military expenditure, and he has published in this area in Defence and Peace Economics. Jurgen Brauer is Professor of Economics at Augusta State University's College of Business Administration. He serves on the editorial board of Defence and Peace Economics and is a vice-chair of Economists Allied for Arms Reduction (ECAAR). Tilman Briick holds a PhD degree in economics from Oxford University and works at the Deutsches Institut fur Wirtschaftsforschung (DIW) in Berlin. He has conducted fieldwork in Mozambique, Tanzania, and the former Yugoslavia. Neil Cooper is a lecturer in politics and international relations at the University of Plymouth. He is author of The Business of Death; Britain 's Arms Trade At Home and Abroad and has published works on UK arms export policy, the arms trade and post-conflict demilitarization.

Lloyd J. Dumas is Professor of Political Economy and Economics at the University of Texas at Dallas. His most recent books is Lethal Arrogance: Human Fallibility and Dangerous Technologies (St. Martin's Press, 1999). J. Paul Dunne is Research Professor in the School of Economics at the Middlesex University Business School and chairs the UK affiliate of Economists Allied for Arms Reduction. He has co-edited a number of books, including The Peace Dividend (Amsterdam: North Holland, 1996). Manuel Ennes Ferreira is a professor in the Department of Economics at the Instituto Superior de Economia e Gestao at the Technical University of Lisbon. He is the author of A Industria em Tempo de Guerra: Angola, 1975-1991 (Lisbon: Edi, and KL have values within the acceptable range (0, 1) and their signs are well supported by the t-tests. Since KL = 1 KM - KD, testing for the significance of this coefficient as different from zero is equivalent to the test for significance of the sum of the two other coefficients from unity. Subsistence quantities yM and yL are also positive

Domestic production as an alternative to importing arms

145

Table 6.2: Estimated coefficients

Coefficient Standard error

524.74 179.70

*\f

Coefficient Standard error p-value

0.1347 0.0250

*D

78.027 31.754

KL

-0.1747 0.0102

7A/

-0.1292 0.0251

-110.00 118.53

7L

yD

0.0056 0.0022

0.9585 0.0178

0.0359 0.0159

90.391 35.775

0.1296 0.06371

0.8946 1.9655

0.014

0.000

0.031

0.016

0.050

0.652

0.0117 0.0153

with signs statistically significantly different from zero at the 5 percent level. Note that as a result of the normalization of the units of labor equal to the average output of the arms industry, coefficient yL is measured as a proportion of the domestic procurement of the country. The last estimated parameter, subsistence quantity yD, instead of the expected negative value has a positive estimated value, which implies a contradiction with one of the fundamental assumptions of the model. Comparing the low statistical significance of yD, however, with the high significance of the sign of all other coefficients we may well conclude that the hypothesis of a negative yD is not contradicted by the data. The empirical results so far appear either in line with or at least are not contradictory to the hypotheses of the model. It should be clear that the scope of this econometric examination is not an in-depth empirical study of arms production and trade, but merely a test for the applicability of the theory. The weak aspects of these results include the overidentification of the estimated system, measurement errors in the variables, and limited information about domestic arms procurement. Also, the model limits the establishment of an arms industry to the same fixed cost for all countries. This typical simplifying assumption (e.g., used in Levine and Smith, 1997) contributes to the divergence of the theory from empirical reality, the examination of which probably requires a more flexible specification. This is partly relaxed in Mouzakis (1999b) who assumed different fixed costs for large and smaller producing countries.

146 Arming the South

Conclusions The study presented in this chapter does not claim exhaustive coverage of its topic; the presented analysis is an initiation of an analytical path rather than a stand-alone theory of arms production and trade, attempting an analytical formalization of the emergence of national defense industries. The final form of the model developed in this chapter has been largely based on the technical assumption of modifying a Stone-Geary function (see appendix 6B) in a way that provides the desired properties of substitution. As a newly introduced method little tested yet, however, it should be looked at from a critical perspective. From the results, it appears that the performance of the developed framework corresponds to the initial requirements. In line with empirical evidence, the analysis in this chapter suggests that the establishment of a domestic arms industry may have a considerable effect on the demand of countries for internationally traded arms. With the establishment of a domestic arms production sector, domestic arms substitute for imported arms and the demand for the latter becomes less responsive to the military budget of the country. Also, the effect of economic development on this demand changes from positive to negative. The effect of the price of arms imports appears to remain always negative and unaffected by the existence of a domestic arms industry. These results appear to provide possible answers to the questions brought up by the cross-sectional examination of LMS. The econometric study also reveals supporting evidence about the predictions of this theory and about the applicability of this analysis in empirical studies. The high estimated value of the weight of domestically produced arms indicates that the establishment of a domestic arms industry, and the availability of domestic along with imported arms, has a positive effect on the returns to scale of the defense industry. There is also evidence for considerable subsistence quantities of imported arms and labor but not enough evidence to support the negative sign of the subsistence quantity of domestic arms. A possible way to carry this study forward would include the examination of a wider theoretical framework, introducing a welfare function for the central government. This would allow for a more realistic


147

distribution of resources between defense and other sectors and undermine the notion that welfare benefits from national security change in proportion to the military budget. Another, more complete approach would be to use the developed formulation of the demand side in a world market model. On the empirical side, the availability of data series of arms production would enable the estimation of a complete version of the model. Note A version of this paper was presented at the conference "The Economics of Military Expenditures in Developing and Emerging Economies," held at Middlesex University, 13-14 March 1998, London. The author wishes to thank the organizers and the ESRC for their support. 1. Setting the indirect utility functions for the two cases equal, with some algebra we obtain the necessary and sufficient condition for indifference to the establishment of domestic industry of arms

-[F+ (w+b)yD + pMy

M

+ wyL]= 0

As a real polynomial of G, the above expression does not take a general algebraic solution. Providing the knowledge that a single real solution does exist and is unique, we can solve for G* with the use of numerical methods. References ACDA. World Military Expenditures and Arms Transfers 1993-1994. Washington, DC: US Arms Control and Disarmament Agency, 1995. Chung, J.W. Utility and Production Functions. Oxford: Blackwell, 1994. Garfinkel, M.R. "Arming as a Strategic Investment in a Cooperative


Equilibrium." American Economic Review Vol. 80, No. 1 (March 1990), pp. 50-68. Intriligator, M. "Strategic Considerations in the Richardson Model of Arms Races." Journal of Political Economy Vol. 83 (1975), pp. 4362. Levine, P., F. Mouzakis, and R. Smith. "The Arms Trade: Some Theory and Econometrics." Discussion paper, Department of Economics, University of Surrey, No. 8/96, August 1996. Levine, P., F. Mouzakis, and R. Smith. "Prices and Quantities in the Arms Trade." Defence and Peace Economics Vol. 9, No. 3 (1998), pp.223-236. Levine, P. and R. Smith. "The Arms Trade." Journal of Economic Policy (October 1997), pp. 337-370. Mouzakis, F. "Regional Variations of the Demand for Arms Trade: An Empirical Study of Global Panel Data." Discussion paper in economics, University of Surrey, No. 2/99, April, 1999a. Mouzakis, F. "Theoretical and Empirical Aspects of the International Arms Trade." Doctoral Thesis, University of Surrey, 1999b. Richardson, L.F. Arms and Insecurity: A Mathematical Study of the Causes and Origins of War. Pittsburgh, PA: Homewood, 1960. SIPRI. SIPRI Yearbook. Oxford: Oxford University Press, annual. Smith, R. "The Demand for Military Expenditure," pp. 69-87 in Keith Hartley and Todd Sandier (eds.) Handbook of Defence Economics. Amsterdam: North-Holland, 1995. Smith, R., A. Humm, and J. Fontanel. "The Economics of Exporting Arms." Journal of Peace Research Vol. 2, No. 3 (1987), pp. 239-247.


149

Appendix 6A The estimated system of equations The reduced form of the system can be calculated with the use of (6.19) and (6.20) as follows. Directly from the definition of the dummy variable we obtain (6A.1) K M = mx + m4 , and from the coefficients of G from (6.19) and (6.20) we obtain (6A.2) KD = and (6A.3) KL - 1 - KD - K M Continuing, we may isolate yM from the coefficient ofpM in (6.20), which after simplifications takes the form m (6A.4) y M = — ^ - . 1 - mx From (6.20) we have (6A.5) yL = - — ml and with some algebra from the coefficient of w in (6.20) we write

(6A.6) y

D

m, m, + m, 6 ^ ^ - - ^ -. ml m] + m4

The coefficients b and F cannot be identified. Their calculation requires


additional information to that provided by (6.21). Appendix 6B An extension of the Stone-Geary

function

An important consideration regarding the use of a utility or a production function is that it provides and specifies the type and degree of substitution among inputs. Ranking from one extreme of perfect substitutes to the other extreme of perfect complements, the extent of substitutability among the inputs of a transformation process is a critical concern in the selection of the appropriate analytical tool. Whilst the contemporary literature on transformation functions seems to focus on the development of less restrictive and more powerful analytical frameworks, it is not very informative on the issue of complete substitution of one input by the others. This appendix examines an extension of the StoneGeary function, which appears to provide the desirable properties. It also examines the case that the substitutable input requires a fixed cost if it is used. As a starting point we may briefly look at ways that elasticity of substitution affects the geometry of production functions. In the case of a function with unitary elasticity of substitution (Cobb-Douglas, CD, is a typical example), all isoquants (isoproduct curves, surfaces, volumes, or hyper-planes in the cases of two, three, four, or more inputs, respectively) have the axes of the inputs as asymptotes. A more general function, with parental relationship to CD, is the CES function and the Generalised CES which, however, rule out zero levels of inputs (for a recent review of production and utility functions see Chung, 1994). When inputs are complements, the asymptote of every isoquant is located at some positive quantity of the input, denoting the lowest possible quantity required for any level of output, called subsistence level. When the elasticity of substitution is higher than unity the isoquants are expected to intersect the axes of the inputs, allowing for complete substitution of one input by the others. Of course, the range of the function is set accordingly to rule out negative values of the inputs. The Stone-Geary function (e.g., Chung, 1994, pp. 23-31) has mainly


151

been used as a utility function in the well-known Linear Expenditure System and, like CES, can be considered as a generalization of CD. In logarithmic form, we can define the Stone-Geary (SG) function as follows (6B.1)

\nU=YJKi\n 0. It is nonhomothetic but strictly monotonic and convex, thus well defined as a utility or production function. Assuming constant prices the budget constraint is G - ^

PlQl where/?, is the price of input /. Solving for

the standard consumer's (or producer's) optimization problem the demand for the inputs of this process is given by G-YSJPJYJ

(6B.2) qt = n + K, —

0 e j) . Pi

Looking closer into this function, the own-price elasticities of demands are

G-I PJ

J1 J

(6B.3)

£U

=

^LPL=

m

< 0 >

where 5 stands for apartial derivative. Examination of (6B.3) reveals that using SG implies that demand is always inelastic (| su \ < 1). The crossprice elasticities are Sq, P, PJ, J J (6B.4) 8 = -f-^- = -Kt - - - < 0 SPj q, Ptfi

{it

j)


which limit inputs to be gross complements. The income elasticity is

(6B.5)

dqi G SG qi

€Gi = —^--=Kl

G ' piqi —

Yt*f > ° a n d K/ < ° - 4 / -T^ negative subsistence level gallows input/to be a gross substitute instead


153

of being limited to a net complement with all other inputs. Now, input/ can be fully substituted by the other inputs, in which case (B6.7) takes the form

(6B.8) l n ^ = ^ / l n ( - x / ) + X I - ^ / l n ( 9 , - - ^ ) • Note that (6B.8) is just a special case of (6B.7) where qfxs set to zero. As a convention, we distinguish the type of transformation that excludes input/from the case that includes it by noting the related variables with a tilde (~). The second alteration we introduce to SG is that only when input qf is excluded is the disposable budget G, whereas when/is included it reduces to G - F, because of fixed costs F in the use of/ The fixed amount of set-up costs F has to be spent when any qf > 0 is used in production. As a result of the restriction qi < yi9 in either type of transformation the necessary condition for any output to exist (U> 0) is that the budget can cover at least the expenditure for subsistence quantities of all other than/inputs

(6B.9) G>GL = Yl*fPiY,. When qf\s included in the transformation, the budget in addition to GL has to cover fixed costs F. Thus, a necessary but not sufficient condition for using qfis (6B.10)

G> GL = GL + F.

Including input/in the process, the demand functions for inputs are essentially as in the general cases (6B.2) with the budget reduced by the fixed costs

(6B.11)

qr,. = y. + x-,

G-F-HJPJYJ l

(iej),qf>0.

P, Under (6B.8), however, the returns to scale are decreasing compared to

154 A rm ing the Sou th

(6B.7) and the demand equations for inputs take the form

(6B.12)

qi = yt + ~ \-Kf

(/ e j\qf

= 0.

p.

Solving the problem of output maximization, we may first look into restrictions (6B.9) and (6B.10). When GL > G > GL the use of input/ in the production is impossible and we can directly detect the demand for other inputs using (6B.12). To determine the optimal allocation when G > GL, where either type of production is possible, we must ensure that both output is maximized and also that the non-negativity of inputs is satisfied. While the non-negativity of other than / inputs is not problematic, following the standard SG case, we must ensure that the demand for qfis positive. Thus, applying the restriction qf> 0, with the use of (6B. 11) we obtain (6B.13)

qf > 0=> G> GH

where GH - Gl

PfY f • Note that under the assumptions that K

f yf 0 we always have GH > GL > GL . Thus, condition (6B.13) fully replaces condition (6B.10). Having detected the necessary conditions and solutions for the allocation of resources in each of the two types of production, we need a sufficient condition that defines the optimum type of production in the general case. We can do this using the indirect utility functions for each case. Substituting from the demands for inputs (6B. 11) and (6B. 12) in the production functions for the two cases, after simplifications the two indirect utility functions become n (K

(6B.14)

\ *>

w = ( G - F - X l P / 7 l ) n ( — J ;?/>


(6B.15)

^ - ^ ( G - E ^ n (1-*/)

'*/

;

155

;qf = o.

»*/V/V

From the definition of maximality, the condition for the inclusion of g in the production is (6B.16)

qf > O o

u> u

Substituting from (6B.14) and (6B.15) to the right hand side of (6B.16) and rearranging we obtain (6B.17)

^ > 0 o

z> 0

where

z = z(G)= G-a(G- GLfKf ~ (GL + pffy ,)\ (

(6B.18)

a=

\Ks

PfYf \ Kf J

K

f)

Variable z is proportional to the output surplus from the inclusion of input / Note that it is impossible to obtain a general solution for the inverse function of z(G). Therefore, we can only solve for values of G that correspond to given values of z with the use of numerical methods. Differentiating z with respect to G once we get dz I dG - 1 - a{\- K f)(Gd z I dG

GL)

f

- CIK f~ (1 - K f)(G - G j)

and differentiating twice we get -\-K

J

> 0 , showing convexity

of z to G. Solving from the first-order condition, dzldg = 0, for the global minimum of z we obtain the neat result that z get its minimum at GH. Thus, z(G) is strictly increasing in its range [GH9 °°). The domain of z is bounded downward by the global minimum z(G^) but not upward, since


lim G _ z = «>. We can also show that z(GH) is always negative. Substituting for GH in (6B.18) we obtain •M-K,

z(GH)=

PfYf'Kf

-a F-{\-Kf)pfyflK

and after substitution for a and some algebraic manipulation we obtain

z(G / y ) 0 o ( l - 0 r ) # . - Q)r(wr + P)ar > 0. The aggregate demand for firms' exports, equation (7.17'), is a decreasing and convex function of the export price, P. It can also be proved that the aggregate demand curve shifts outward with an increase in the number of recipients, nr or the national income in the recipient countries, Yn and with a decrease in the number of producers, ns, or in the parameter which measures the importance of the alternative consumption good in the utility function of the importers, cor. However, the effect of an increase in the variable benefits of defense for the recipients, Sx/3j3n on the aggregate demand curve is not clear. Remark 7.2: ——< O o (l-CDr)-(wr+ 0pr

P)ar > 0.

From

Remark 1,since fir > 1, 0 < COr < 1, ( l - (0r)- (wr + P)(Xr > 0 is sufficient for demand for weapons to be positive. Introducing equation (7.17') in equation (7.2) we obtain two equations which express the export price, P9 and the quantity of exports, x, as an implicit function of the aggregate demand function parameters, the cost function parameters, and domestic procurement, g.

x(fir- a>r)(wr + 2d(x+ g)+ c) (7.20a)

-^{(\-co^ r-cor{^r n s = F[g,c,d,a)r,pr].

+

2d{

+g)+c)ar)7r

Domestic procurement, subsidies, and the arms trade

2nX{X-^r)^-cor^^P)ar)Yr

175

P-c

= H[g,c,d,o)r,Pr]. Applying the implicit differentiation rule to equations (7.20a) and (7.20b) we can derive the effects of a variation in the various exogenous parameters on equilibrium exports and the export price. At this stage we treat the domestic market as completely exogenous. That is to say, we do not take into account that a variation in the export market would induce variations in domestic procurement and therefore further variations in the export market equilibrium. The results obtained can be summarized by the following two propositions. Proposition 7.2: The equilibrium export level in the isolated export market decreases with increases in domestic procurement, g, the parameters of the cost function, c and d, and the weight of consumption in the recipients' utility function, cor The effect of an increase in the variable benefits of defense, /?r, depends on the parameter values.

7 7 < 0 o x(Vr + 2d(x +g)+c)~ — ( l - G>r)Yr > 0. This expression can be written as

8x ^ 0.

An increase in the variable benefits of defense,/?,., allows the recipient country to enjoy the same level of security while buying fewer weapons.


The existence of alternative consumption in the utility function of the recipient country allows this country to care about income. Therefore an increase in fir generates a substitution and an income effect. The substitution effect encourages consumption of the good which has become cheaper, security, whereas the income effect encourages an increase in alternative consumption. When the valuation of income, which is measured by con is small, an increase in /?,. will increase the amount of arms imports. But if the valuation of income is sufficiently high - such that the income effect is much greater than the substitution effect - then the recipient will increase expenditure for consumption goods and reduce arms imports. Proposition 7.3: In the isolated export market, an increase in the domestic procurement, g, the cost function parameters, c and d, and a decrease in the weight of consumption for recipients, cor, will increase the equilibrium export price, P. Finally, an increase in/? r decreases the equilibrium export price, P, under the assumption stated in Remark 7.2. The domestic market The relevant supply curve for the domestic market can be derived from equations (7.2) and (7.6). Equation (7.6) can be written as

r

i

D

c(g+x)^d(g+x)\

D-

P(x+g)

g This states that the price to be paid by the government must cover the international arms market price, P, plus the average losses the firm would incur were it to serve both the domestic and the foreign market at the same price. P < p implies a positive assumption on loses. Introducing firms' optimized decisions, equation (7.2), into equation (7.6) we obtain


177

if

(P-CY p+-\D--—— g{ 4d

(7.21) p=

This curve is the participation constraint for the domestic firm. In figure 7.1 all points to the right of the curve ensure positive profits for the domestic firms. This constraint is represented in the/?, g plane where/? is a decreasing and convex function of domestic procurement. Increases in the fixed cost D and in the parameters of the cost function, c and d, shift the supply curve outward by increasing its slope. An increase in the international price, P9 shifts the supply curve inward although it shifts the abscise P to the right. The government's decision rule, equation (7.10), constitutes the domestic demand function for weapons

( Q - f l s K - ®saS(ws + p))Ys

This expression is decreasing and convex in the price that the government pays for defense procurement. Moreover, increases in the international price for weapons, P, and the weight of consumption in seller countries, cos or as, shift the decision rule inward, and increased domestic national income, Ys or fis shift the decision rule outward. Introducing equation (7.21) into the government's decision rule we obtain the solution for the level of domestic defense procurement, g

(

\ {-

(P-cY)

(1- as)fis\Ys - D+

4d

/—

y-

j - cosas(ws + P)YS

(7.22a) g =

Psfc+P) and introducing this back to the first equation we have the value for the price of domestic procurement,/?


D

(/>-c)n Ad

h{ w^

+ P

(7.22b) p= P +

(••^WV

D

+ ~^~\

~ G>sas(ws + P)YS

Using equations (7.22a) and (7.22b) we can derive the effects of a variation in the various exogenous parameters on the equilibrium level of domestic procurement and its price. Again, we treat the export market as completely exogenous. That is to say, we do not take into account that a variation in the domestic market would induce variations in the export market. The results we obtain are summarized in the following propositions: Proposition 7.4: A decrease in the international price for weapons, P, fixed costs of production, D, the parameters of the cost function, c and d, the weight of consumption in the sellers' utility function, co^ and an increase in domestic income, Ys, or fis will increase the equilibrium procurement, g, in the isolated domestic market. Proposition 7.5: An increase in the fixed costs of production, D, the parameters of the cost function, c and d, the weight of consumption in the domestic utility function, cos,, and a decrease in domestic income, Ys, or /3S will increase the equilibrium domestic price, p, in the isolated domestic market. Finally, the effect of a variation in the international price for weapons, P, on the equilibrium domestic price, /?, depends on the concrete parameter values. The general

equilibrium

So far we have analyzed shifts in the supply and demand curves in the export and domestic market and the comparative statics of the equilibrium of each of these two markets, taking the other as exogenous.

Domestic procurement,

subsidies, and the arms trade

179

But the comparative statics in general equilibrium - i.e., the analysis of the effects of parameter changes on the the equilibrium values of domestic procurement, domestic and international weapon prices, and the quantity of exports - requires the calibration of the model.3 In this calibration, the subsidy, r, is defined as the difference in home and export price as a proportion of the export price

P-P .

T -

P As can be seen in figures 7B.2 and 7B.3 (in appendix 7B), as the weight of consumption in the domestic utility function increases, domestic procurement decreases, exports increase (figure 7B.2), the international price for weapons decreases and the subsidy to the firm increases (figure 7B.3). We can explain the intuition of this result starting from the comparative statics in the isolated markets stated in the previous subsection. In the domestic market, an increase in the weight of consumption in the utility function, that is to say, a decrease in the importance of security in the sellers' utility function, will have a negative impact on the optimal amount of procurement. Since decreased domestic demand could make domestic production unprofitable for the firms, the per unit subsidy to the firms will need to increase. In the export market firms will try to compensate for the decrease in domestic demand by increasing exports, which has a negative effect on the international price. As indicated in figures 7B.4 and 7B.5, as the variable benefit of defense for the recipients, /?,., increases, domestic procurement in seller countries decreases, exports increase (figure 7B.4), the international price for weapons increases, and the subsidy to the firms decrease (figure 7B.5). Again we can explain the intuition of this result by recalling the results in the previous section. As stated in Remark 7.2, the effect of an increase in Pr on the equilibrium in exports and export price in the isolated export market could be either positive or negative, depending on the importance of security in the recipients' utility function. We see that for the calibration we performed, the parameter values are such that the final effect of an increase of/?,, over the equilibrium amount of exports


and export price is positive. The expected effect of an increase in the export price on the domestic market is a decrease in the subsidy and an decrease in the amount of procurement. Figures 7B.6 and 7B.7 show that as the variable benefit of defense for sellers, 0S, increases, domestic procurement increases, exports decrease (figure 7B.6), the international price for weapons increases, and the subsidy to firms decreases (figure 7B.7). An increase in fis will increase the equilibrium procurement, g, in the isolated domestic market and will decrease the equilibrium domestic price, /?, in the isolated domestic market. The increase in the domestic procurement, g, will have a positive effect on the equilibrium export price, P, and a negative effect on the equilibrium export level. In figures 7B.8 and 7B.9 we show that, when there is a general increase in the weight of consumption in the utility function of the countries involved in arms trade, both domestic procurement and exports decrease (figure 7B.8), the international price for weapons decreases, and the subsidy to firms increase (figure 7B.9). The general decrease in importance of security discourages consumption of weapons for both sides of the arms market. In the domestic market the decrease in the importance of security in the utility function of the seller will have a negative impact on the optimal amount of procurement. In the export market firms will try to compensate for the decrease in domestic demand by increasing exports, which has a negative effect on the international price. However, the decrease of the importance of security for the importers of weapons discourages arms imports. As a consequence, subsidies will have to increase dramatically for the sellers to remain selfsufficient in military procurement. Conclusion This chapter presents a model which captures some of the characteristics of the structure of the current international arms market. It considers both the domestic and the international market for weapons. This allows for the analysis of the interaction between the two markets and the effect that a variation in the relevant parameters has on the optimal decisions of the agents involved.

Domestic procurement,

subsidies, and the arms trade

181

The model highlights the role of export markets as a main determinant of defense procurement policies in the producer countries. Compared with previous arms trade models, ours describes the military sector and the governments of weapon exporters as two different sets of decision-makers with different decision variables and objectives. Firms decide on the quantity of weapons that maximize their profits. Governments decide on the quantity of defense procurement that maximizes their utility. However, there is a close relationship between governments and firms: the national champions are guaranteed positive profits by the choice of the procurement price. Finally, exports affect the level of security of the seller countries and this creates further interdependence among all participants. In this chapter, we obtain the main properties of the equations that characterize the behavior of importer countries, firms, and governments of exporter countries. The aggregate demand for firms' exports is a decreasing and convex function of the export price. The arms export supply curve is an increasing function of the export price. The domestic procurement price that ensures the existence of the firm is a decreasing and convex function of domestic procurement. Finally, the domestic demand function for weapons is decreasing and convex in the price that the government pays for defense procurement. As a result of the calibration of the model, we derive the effect of a variation of the weight of consumption in the utility function and the variable benefits of defense on the general equilibrium in the arms market. The comparative statics results give a picture of the main characteristics of the amis market. Among other results, we find that a decrease in the weight of security in the utility function of exporter countries decreases the amount of domestic defense procurement, increases the subsidy to the firms and the quantity of exports, and decreases the export price. However, a general decrease in the importance given to security in the utility function decreases both domestic procurement and exports. In future research, we intend to include imperfect competition among weapon producers in the international market. With a small number of producers and governments, each government would recognize the effect its actions have on security. Governments would then act strategically


with respect to each other and our model would acquire some of the characteristics of those in the strategic trade theory literature. Notes Work on this chapter was made in the context of the authors' participation in a group working on arms trade, financially supported by the ESRC under grant R000235685. We wish to acknowledge the members of the group for their valuable comments. For more information on the Arms Trade Group see its web site at http://mubsr.mdx.ac.uk/ArmsTrade. This chapter was produced during a stay of the first author at the University of Surrey. 1. For a review of the arms race literature see, e.g., Brito and Intriligator, 1995. 2. It is standard in the new trade theory to analyze the relation between government and firms and its effects on international trade. For a review of this literature see, e.g., Helpman and Krugman, 1989. 3. Most of the assumptions over the value of the parameters used in the calibration of the model are based on data from SIPRI and ACDA, the two main sources of military information. References Brito, Dagobert L. and Michael D. Intriligator. "Arms Races and Proliferation," pp. 109-163 in Keith Hartley and Todd Sandier (eds.) The Handbook of Defense Economics. Amsterdam: North-Holland, 1995. Helpman, Elhanan, and Paul Krugman. Trade Policy and Market Structure. Cambridge, MA: MIT Press, 1989. Levine, Paul, Somnath Sen, and Ron Smith. "A Model of the International Arms Market." Defence and Peace Economics Vol. 5 (1994), pp. 1-18. Levine, Paul and Ron Smith. "The Arms Trade and Arms


183

Control."Economic Journal Vol. 105 (1995), pp. 471-484. United States Arms Control and Disarmament Agency (ACDA). World Military Expenditures and Arms Transfers 1993-1994. Washington, DC: ACDA, 1995.


Appendix 7A: Calibration of the general equilibrium First, consider the calibration of a,-, /?,-, coi9 wi9 where i = s, r. We choose values that replicate observed values of G, / Yt and the ratios of military expenditure on personnel and equipment. Regarding the latter let Rs = (ws L^ /pg = ws //? be the personnel-to-equipment expenditure ratio for the suppliers, and Rr = wr/P bethe corresponding ratio for the recipients. Then, we set ws = Rsp, wr = RJP, and/? = (1+T)P. We normalize the export price, P = 1, and we impose /?, and ar = as = a and cor = cos = co. Introducing this in equations (7.11) and (7.18) we have two equations for co and a si

(7A.1) (\-6))/l-6)(Rr

+ l)a =

(p-6>)-=r=fc-faG>,

where 0. Reformulating in terms of aggregate


inputs, taking the total derivative of Q, and then substituting and manipulating gives: (9.7)

YD = p LD + a (I / Y) + ((5 / 1 + 5) - CM ) MD (M / Y)

where YD = dY/Y; LD = dL/L ; MD = dM/M. The coefficient on the last term is the sum of the externality and factor productivity differential effects of military spending. Following Biswas and Ram (1986), and assuming that the externality parameter is not CM but CM (M/C) and is denoted 9, allows us to write: (9.8)

YD = (3 LD + a (I / Y) + ((5 / 1 + 5) - 9) MD (M / Y) + 9 MD

Separate estimates of 9 and 5 can be obtained. To operationalize the model for empirical application the instantaneous rates of change of the variables are replaced by their discrete equivalents giving: (9.9)

AY/Y^ - a0 + a, AL/L^ + a 2 1/Y M + a3 AM/M,., (M/Yt.,) + a4 AM/Mt_,

Initially, these models were used on cross sections, but increasingly have been applied to time series for individual countries. When this model was estimated using South African data for the period 1964-1995 in Batchelor, Dunne, and Saal (2000) it gave the results displayed in table 9.1. These results suggest that economic growth in South Africa can be only partly explained by the model, although the specification seems to be reasonable according to the different statistical tests. The R2 suggests that the equation only explains 59 percent of the variation in the dependent variable, which in a time series regression is relatively poor. In addition, only the employment variable is statistically significant at the 5 percent significance level. This variable is the growth in nonagricultural labor which is used to approximate the labor force. Surprisingly, the investment term is insignificant. The military spending coefficient estimates suggest a positive externality effect, but a negative size effect, but these are only significant at 10 percent.

South Africa: an econometric analysis

227

Table 9.1: Aggregate estimation results, South Africa Coefficient

Variable Constant I/Y„ ALt/L„ AMt/M,, (Mt/Yt.,) AM/M,,

0.03 -0.08 0.78 -1.58 0.07

t-ratio 1.4 0.8 4.4 -0.4 1.1

Using AK/K^ instead of I/Yt. t-ratio Coefficient 0.01 0.02 0.72 -1.24 0.05

1.9 0.1 3.4 -0.3 0.4

0 = 0.07 and 5 = --0.60

0 = 0.05 and 5 = •-0.54

R2 = 0.587; DW == 1.68 Serial corre lation -0.69 Functional Form = 3.86 Normality == 0.11 Heteroskedasticity = 0.44

R2 = 0.52; DW = 1.36 Serial correlation = 2.76 Functional Form = 1.81 Normality = 0.05 Heteroskedasticity = 0.23

Joint LLR test for zero restrictions on military expenditure terms chi-squared 2: 0.48 (0.79)

3.65 (0.86)

All chi-squared with 1 degree of freedom except normality test which is 2.

There are of course problems of multicollinearity with an equation of this form particularly between the two military spending terms. This will mean that although the estimates are unbiased they are imprecise and unstable. One would expect a high F statistic, but low individual significance, which is what we observe. However, the joint test of zero restrictions on the military variables' coefficients cannot be rejected, suggesting that there is no significant impact of military spending on growth. The problems with these results led to considerations of how they might be improved. There are a number of options that have been taken by researchers. They have used a more detailed model that identifies more sectors. One study of particular interest is McMillan (1992) who estimates a variation of the model for South Africa for 1950-1985. An extended model developed along these lines, in chapter 13 of this volume, finds improved result for Greece. Another alternative is to consider the


impact of military expenditure on the manufacturing sector alone, rather than the whole economy. When Batchelor, Dunne, and Saal (2000) also did this they found that the results for the manufacturing sector in South Africa were much better than for the aggregate data. Finally, the dynamics of the applied model can be considered. The move to a discrete model in the theory is somewhat ad hoc and it is possible that the processes may have a longer memory than allowed for in the derived model Batchelor, Dunne, and Saal (2000) take the simple model for South Africa and use an ARDL estimation procedure to model the shortrun dynamics. This does improve the performance of the model, but the strange nature of the composite variables gives some concern. This leads us to suggest that it is necessary to further investigate the dynamics of the relation between military spending and growth and that it is also worthwhile considering an analysis at the level of manufacturing as well as the aggregate economy. Opting for an approach that uses a structural model, we have seen the problems with using the Feder-Ram model, while the nature of the commonly used Keynesian model limits the scope for developing the dynamic specification. This suggests the need to consider a different approach and to use a different model. An obvious alternative is to use an aggregate production function model and this is developed in the next section. Developing the analysis Taking the simple Cobb-Douglas model (9.10) Q = AK a L p , which in log form is (9.11) q = a + a k + pl, we can simply introduce military spending to this equation, (9.12) q - a + a k + p l + ym


229

where m is the log of military expenditure. In addition we add in a dummy variable to take account of the effect of sanctions which basic data analysis suggests was an important factor. To develop the dynamics of the model we use a cointegrating vector autoregressive (VAR) approach to estimate it. This allows us to focus explicitly on determining the short-run dynamics and long-run properties of our structural model. Treating this within a VAR estimation framework within Microfit 4.0 (Pesaran and Pesaran, 1997) and starting from an order 4 VAR we get a VAR (2) as the optimal lag length. Using unrestricted intercepts and no trends gives one cointegrating vector, (9.13) z = 0.82 q 4- 1.86 k -7.05 1 + 1.23 m or (9.14) q =-2.27 k + 8.63 1-1.51 m (13.9) (41.3) (7.4) where the asymptotic standard errors are in brackets. The coefficient on military spending is negative, but the results are strange, with all coefficients insignificant and a negative sign on capital. Its persistence profile converges quickly, within 9 years, but the underlying error correction model is a very poor specification for a growth equation, though again there is a negative but insignificant effect of m. (9.15) Aq t = 2.3 + 0.22 Aqt_, + 0.11 Ak M - 0.10 A l t l - 0.03 A m t l (1.6) (0.9) (0.4) (0.3) (1.0) - 0.03 ECM t j - 0.02 DS (1.6) (2.2) where ECM is the error correction term, DS the sanctions dummy, and the values of the t ratios are in brackets. The rather large coefficient on the labor term is worrying and may suggest that we have the wrong dependent variable and may be estimating a labor demand equation. Rather than simply move to another form of


model we follow Batchelor, Dunne, and Saal (2000) and estimate the model on the manufacturing data. The order of the VAR is found to be 2 and unrestricted intercepts and no trends gives one cointegrating vector, (9.16) q m = 1.32 k - 1 . 5 3 1 +0.50 m (0.7) (2.1) (0.5) This gives a more sensible specification with the capital coefficient positive and significant at 10 percent. Military spending is now positive but insignificant. The underlying ECM model is (9.17) Aqm t = 1.96 + 0.55 Aqm t x + 1.23 Ak t x - 0.84 Al t , - 0.08 Am t x (1.7) (3.6) (2.0) (1.6) (1.3) + 0.16 ECM t ,-0.04 0 8 (1.6) (2.3) In this case military spending has a negative short-run effect on growth. Given the similarity of the normalized values of the coefficient on k and 1 a test on the cointegrating vector of a = - p in the original CobbDouglas equation seemed worthwhile. This restriction makes output a function of the capital-labor ratio and military expenditure and was accepted with %2 (2) = 0.03 giving (9.18) q m = 1 . 2 3 ( k - l ) + 0.44 m (0.19) (0.09) with asymptotic standard errors in brackets. In fact the coefficient on the capital-labor ratio is not significantly different to one, % 2 (2) = 0.98, giving (9.19) qm = ( k - l ) + 0.51m (0.08) and an error correction equation for growth,


231

(9.20) Aqm t = 1.31 + 0.55 Aqmt ^ 1 . 0 2 AkM - 0.89 A1M - 0.07 AmM (1.7) (2.6) (1.9) (1.7) (1.3) + 0.15 ECM M - 0.05 DS (1.7) (2.3) These results show a positive long-run relation between military spending and manufacturing output, but a negative short-run effect (significant at 10 percent) of the growth of military spending on the growth of manufacturing output. The composite effect of the short-run coefficient on military spending and the error correction term suggests that the shortrun impact of cuts in military expenditure will at worst not be significant. In this they tend to support the results of the previous studies. Conclusions South Africa clearly provides an interesting case study for the analysis of the impact of military spending on growth. This paper has provided some new results and has tried to deal with some of the perceived deficiencies of previous work. Concerns about the Feder-Ram model, in terms of its specification and dynamics, led to the use of an aggregate production function, estimated using cointegrating VAR methods. Concerns with the problem of undertaking the analysis at an aggregate level in a country which, while a developing economy, has an advanced military industrial sector, led to a focus on manufacturing output. When the model was estimated using GDP, the results were rather disappointing but suggested a negative though insignificant effect of military expenditure on growth. When estimated at the level of manufacturing the results show a positive long-run relation between military spending and growth, but a negative short-run effect (significant at 10 percent). The composite effect of the short-run coefficient on military spending and the error correction term suggests that the short-run impact of cuts in military expenditure will at worst not be significant. As we have seen, most of the empirical evidence tends to suggest a negative or insignificant effect of military spending on growth in South Africa. The results of this study, while providing some advance in the


econometric analysis, do appear to be consistent with the previous findings. Note This paper is based on research undertaken as part of a project on Defence Industrial Restructuring, Conversion and Economic Growth in South Africa, funded by the Leverhulme Trust whose support is gratefully acknowledged. It was presented at the 1999 Econometrics for Africa Conference in Johannesburg, and we are grateful to the participants for comments. References Batchelor, Peter and Paul Dunne. "Industrial Participation, Investment and Growth: The Case of South Africa's Defence Related Industry." Development Southern Africa Vol. 17, No. 3 (September 2000), pp. 417-435. Batchelor, Peter and Paul Dunne. "The Restructuring of South Africa's Defence Industry." African Security Review Vol. 7, No. 6 (1998). Batchelor, Peter, Paul Dunne, and David Saal. "Military Spending and Economic Growth in South Africa." Defence and Peace Economics Vol. 11, No. 6 (2000), pp. 553-571. Benoit, E. "Growth and Defence in LDCs." Economic Development and Cultural Change Vol. 26, No. 2 (1978), pp. 271-280. Birdi, Alvin, Paul Dunne, and David Saal. "The Impact of Arms Production on the South African Manufacturing Industry." Defence and Peace Economics Vol. 11, No. 6 (2000), pp. 597-613. Biswas, B. and R. Ram. "Military Expenditures and Economic Growth in Less Developed Countries: An Augmented Model and Further Evidence." Economic Development and Cultural Change Vol. 34, No. 2 (1986), pp. 361-372. Dunne, P. "Economic Effects of Military Expenditure in Developing Countries: A Survey," pp. 439-464 in N.P. Gleditsch et al (eds.), The Peace Dividend. Amsterdam: Elsevier, 1996. Dunne, Paul. "The Political Economy of Military Expenditure: An


233

Introduction." Cambridge Journal of Economics Vol. 14, No. 4 (December 1990), pp. 395-404. Dunne, Paul, Efi Nikolaidou, and Andre Roux. "Military Spending and Economic Growth in South Africa: A Supply and Demand Model." Defence and Peace Economics Vol. 11, No. 6 (2000), pp 573-585. Dunne, Paul and Dimitrios Vougas. "Military Spending and Economic Growth in South Africa: A Causal Analysis." Journal of Conflict Resolution Vol. 43, No. 4 (August 1999), pp 521-537. Fine, B. and Z. Rustomjee. The Political Economy of South Africa: From Minerals-Energy Complex to Industrialisation. London: Hurst and Company, 1996. Gleditsch, N.P. et al. (eds.) The Peace Dividend. Amsterdam: Elsevier, 1996. McMillan, S. "Economic Growth and Military Spending in South Africa." International Interactions Vol. 18, No.l (1992), pp. 35-50. Pesaran, M and B. Pesaran. Microfit 4.0. Oxford: Oxford University Press, 1997. Roux, A. "Defence Expenditures and Economic Growth in South Africa."Journalfor Studies in Economics and Econometrics Vol. 20, No. 1 (1996), pp. 19-34.


10 Ludwig Erhard in Africa: War Finance and Post-War Reconstruction in Germany and Mozambique Tilman Briick

Introduction The German economist Ludwig Erhard wrote a secret working paper on German war finance and war debt in 1943-44 to prepare for the eventual economic reconstruction of a defeated Germany (Erhard, 1977). Many of the ideas expressed in his paper formed the basis for post-war economic policies which he helped to shape as finance minister and, later, as chancellor of West Germany, and which contributed to the Wirtschaftswunder. Erhard's analysis recognized the key role of war finance for shaping post-war fiscal constraints and people's expectations of future growth. Without a careful position on war debt and the currency, the post-war government was going to risk its liquidity and credibility in the market thereby undermining confidence in itself and in the economy as a whole. Erhard's policy analysis of 1943-44 will be assessed critically and

236 A rm ing th e So u th

then applied to the case of Mozambique's internal war of 1979-92 to understand the current role of war finance for post-war reconstruction in a poor developing economy. I find that Mozambique suffered from a disproportionately large war debt while receiving high levels of aid both during and after the war. But donors failed to use their influence to end the war early and post-war foreign debt cancellation was too limited and too slow to create a resumption of exports and tax revenue. In addition, the Mozambican government could have done more to prepare for the end of the war, especially by following a civil investment program designed to maximize confidence and trust in public institutions, to reduce transaction costs, and to distribute the benefits of growth equitably. War finance in Germany Military expenditure may have positive economic effects by increasing the security of the country and thereby reducing uncertainty and transaction costs (Berthelemy et al., 1994; Brauer and Chatterji, 1993; Gleditsch et al, 1996; Hartley, 1997; Klein et al, 1995; Lamb, 1992; Mohammed, 1999). Yet there are decreasing returns to military expenditure as, beyond a certain point, military expenditure may signal the intention to declare war in the future thus starting a regional arms race. In addition, secret military budgets are more likely to lead to the start of armed conflict and to longer conflicts than could be expected with budgets controlled by a democratic process. In Nazi Germany, the military budget remained concealed and there was no democratic debate about its purpose or about alternative ways of funding or conducting the war. Secret financial preparations for the war had been made since at least 1933 (Schmolders, 1977). The increasing and unconstrained expenditure for the German army and military infrastructure were partly made at the expense of other state spending, which in the 1930s accounted for over a third of GDP, and partly through the hidden issue of debt. By 1938, 60 percent of the state budget was funded through taxes and 40 percent through debt (Schmolders, 1977). With the start of the war, debt became the key source of state spending. The high war debt was an indicator, for Erhard, of the intensity of the

Ludwig Erhard in Africa

237

German war effort. However, the debt also served to reduce the war burden on the current generation of German citizens who believed that their war time sacrifices would result in higher post-war consumption. The government in effect promised future dividends for current, badly paid effort, but covered up the extent to which the war debt was going to prevent the payment of such peace dividend (Erhard, 1977, pp. 10-11). High direct taxes also would have indicated the extent of the mobilization of resources at a time when the German government intended to shield the population from the reality of the war as much as possible for reasons of political control. With the strength of the military sector in Germany, the allocation of the remaining budget disadvantaged weaker social groups and caused further, indirect costs of military expenditure (Erhard, 1977, pp. 34, 6264). One of the key effects of war is its negative impact on income distribution, both through the deliberate reduction in social spending programs benefitting poorer households and through the random expropriation of human and capital resources from the private sector through acts of warfare (Stewart, 1993). A fundamental problem of war debt is that there is a time inconsistency problem, which is asymmetric for a dictator and a democracy. A victorious dictatorship can burden the war costs on the losing country while a victorious democracy may prefer to share the war burden in the interests of stability and democracy (that is, it might apply the lessons of the Treaty of Versailles). The time inconsistency arises in that, unlike a democracy, a losing dictatorship will have no value attached to the future of its own people, thus increasing their expected war burden. Hence, citizens of a dictatorship have a lower incentive to lend to their government, as they know that it has no incentive to repay that money in case of defeat. This might either tie people more closely to their government (wishing that they will win to recoup their assets) or it forces the government to hide the extent of its war finance to reduce people's disincentive to lend further. In Germany, both factors probably applied during the war. The policy challenge after the war was to organize debt consolidation while rebuilding trust, social justice, and output. Given that the allies emerged victorious from the second world war, there was some burden sharing


between the allies and West Germany. Erhard's recommendations for post-war reconstruction in Germany For the economist and later West German finance minister Ludwig Erhard, the key obstacle to successful post-war reconstruction was the hidden, enforced, and unjust war debt, which accounted for over half of all government expenditure from 1939-45 (Schmolders, 1977). Given this, Erhard emphasized that at least the repayment of the war debt had to be distributed fairly. Social justice was a key characteristic of his design of post-war economic policy. For this reason, he opposed forgiving the war debt, accepting high post-war inflation, or nationalizing remaining private sector assets as ways to repay the German domestic debt. Erhard's second concern was with the pent-up demand and its likely effect on the post-war price level (Erhard, 1977, p. 21). In this, he shared a key concern of Keynes, writing in 1939 about the expected effects of the war on the British economy (Keynes, 1939; 1978). The eventual solution to this dual problem of consolidating the war debt and managing excess demand was to break people's expectations. This was brought about by total military defeat, the huge German population displacement in Central Europe, the allied occupation of Germany (which made people realize that they were not going to recoup their war time debt), and the subsequent monetary refonnof 1949. This currency reform, introducing the DM, created new expectations of incentives, once more holding out the promise of future reward for current sacrifice. But this time, the economic policy was transparent, time consistent, and backed by the allied forces still present in West Germany. This helped reduce uncertainty and thus increased investments (Collier and Gunning, 1995). Writingduring the war, Erhard underestimated some factors that were going to shape the coming West German Wirtschaftswunder he was going to father later. First, Erhard did not anticipate that the war loser could count on support from the victor (Erhard, 1977, p. 58). Post-world war I this may have been a prudent assumption but post-world war II the Marshall Plan helped western Europe rebuild its asset structure


239

(Burnham, 1990; Milward, 1970). Second, Erhard placed a premium on the obligation of the war time generation to also fund the war effort. In fact, the bankruptcy of the German state in 1945, which he advocated in his working paper, helped consolidate the war debt, thereby reducing the tax burden on future generations. The total West German public debt hence amounted to only 35 percent of GDP in 1950 (Statistisches Bundesamt, 1952, pp. 374, 456). Third, while Erhard realized that repaying the war debt would incur costs and that those costs had to be distributed fairly by appropriate taxes in the post-war economy, he nonetheless overtly stressed the need not only to avoid placing a strong tax burden on firms but also to compensate them for some of their war time investments as these had been made under the influence of the government (Erhard, 1977, pp. 51-52). Such approach neglects the lack of financial scope any post-war government was going to have for raising sufficient funds to compensate domestic economic losers of the war. This approach also fails to realize the degree of collusion with the government that many German firms practiced during the war, the extent of war profits that these firms obtained, and the moral and political responsibilities these firms hence carried for the actions of their government. Fourth, even with his preferences for a "social" market economy, Erhard's approach indicates relatively stronger concern with the welfare of larger private sector firms at the expense of private households. Erhard's thinking may have been influenced by the economic importance of large enterprises in inter-war Germany. Private households, while also bearing a significant cost of the war, would benefit from Erhard's postwar policies only indirectly, on the supposition that very high growth rates would raise disposable incomes significantly. Fifth, Erhard placed low priority on the export sector, thus failing to predict the dramatic increase in West German exports in the post-war period. In addition to the funds of the Marshall Plan, exports were going to finance the fast and strong West German recovery, which eventually permitted a sustainable rise in West German living standards in the 1960s. Finally, Erhard placed strong emphasis on the stabilization of war


debt, government finances, and the price level (Schmolders, 1977, pp. xxx-xxxi). Erhard complemented these prescriptions with a strong urge to build confidence, "justice," and social institutions, especially given the post-war setting (North, 1990; Schmolders, 1977, p. xxxiii). However, his view of a social market economy as exhibited in his 1943-44 paper is not a social-democratic or even a "third way" view of the state supporting or enabling people, but one of the state enabling the free market to function properly. The nature of the wars in Germany and Mozambique One of the strengths of Erhard's assessment of the economic effects of the war and his prescriptions for post-war reconstruction is that they can be applied, subject to modifications, to other conflicts as well. This does not imply that most wars are directly comparable to world war II. Rather, this section draws out the differences between world war II and another long-lasting and severe conflict, the internal war in Mozambique, 19791992. While the military and political dimensions of world war II are quite well known, this section also summarizes the key features of the conflict in Mozambique, thus permitting a better understanding of its economic implications. Both conflicts were essentially about the desire to extend political power, thus subjugating economic motives to overtly political ones (see table 10.1). Both wars were also extremely intense, as measured by the relative physical destruction caused, the population movements they induced, and their costs to the respective governments. Both wars lasted many years although world war II had a more clearly shifting frontline, which suggested that the war was likely to end with one side's defeat eventually. In Mozambique, by contrast, the government and the rebels rarely fought traditional battles along clear battle lines thus creating a stalemate in which the rebels could continue to terrorize the rural population quite unhindered (Finnegan, 1992; Geffray, 1991; Vines, 1996). Finally, both wars were ended through the occupation by foreign troops, though in Mozambique, the government maintained formal control during the UN presence (called ONUMOZ) even though it could not match its economic and administrative resources.


241

Table 10.1: The nature of the wars in Germany and in Mozambique Aspects of conflicts

Germany, 1939-1945

Mozambique, 1979-1992

international political control long, but dynamic huge population displacement/poverty allied occupation

domestic political control high quasi-permanent huge population displacement/ poverty quasi-UN occupation

world-wide stability and growth strong and war-oriented sovereign states well endowed high tech none

national economic instability weak domestic warlords poorly endowed/looting low tech very high

SIMILARITIES

Cause of conflict Conflict intensity Conflict duration Social effects of conflict Post-war outlook

high

DIFFERENCES

Spread and scale Pre-war situation Industrial base Type of opponent Opponent's strength Weapons used Aid dependency

The key differences between the two wars, apart from their geographical spread and scale, are that Germany had and maintained a strong economy before and during the war while Mozambique entered its internal war having only recently emerged from an independence war and a chaotic independence process. The industrial base and the weapons used also differed in both conflicts. Germany produced its own, capitalintensive weapons while in Mozambique the government imported its armaments and all other equipment whereas the rebels used very simple and cheap weapons to terrorize the population and carry out their attacks. This diminished their need for external, foreign-exchange based war finance significantly. In addition, Germany faced a well-organized and endowed allied army which carried forward its skills and resources into the period of occupation. The Mozambican government, on the other hand, faced a weak, badly endowed and organized rebel movement that sustained its war efforts through looting its resource base. The ceasefire of 1992 did not immediately result in clear post-war political arrangements. While ONUMOZ had a huge budget, its mandate was only agreed at very short notice, its structures were established on the ground with a long delay, and its mandate was limited in time, ending as abruptly as it had started


(Barnes, 1998; Synge, 1997). Finally, Germany was not as dependent as Mozambique on either export earnings or foreign aid, using neutral countries, occupied territories, and its domestic economic strength (via domestic debt) to fund its war effort. Mozambique, however, was unable to generate sufficient export earnings to fund its war efforts and consequently depended on very high levels of foreign aid and an increasing foreign debt to fund its budget. This analysis of both conflicts indicates that the severity of the conflict, relative to the level of development, was at least as high if not higher in Mozambique than in Germany. This has important implications for the economic effects of the war in Mozambique and the prospect for post-war reconstruction. The next section addresses these issues for Mozambique, drawing on the issues and lessons identified by Erhard. War finance and post-war reconstruction in Mozambique While Erhard succeeded in creating anew an expectation of future growth, in Mozambique the end of the war did not lead to the expectation, in 1992, of a future boom in output. Factors contributing to this view included the initial post-war insecurity and political instability, the high debt and high budget deficits, the severe destruction of rural infrastructure and assets, people's high discount rates preventing longterm savings or investments, and the continuing obstacles to private sector activities after years of bureaucratic socialism (Briick, 2000). However, the end of the conflict and the successful completion of the peace process delivered immediate and long-term peace dividends in some key social, legal, and political areas. The success of the peace process was based on economic incentives offered to every group of war participants thus encouraging them to end their violent activities. In effect, the peace settlement was Pareto-optimal across all political groups in Mozambique, leaving no group worse off than had the war continued (Berdal and Keen, 1997). In Germany, however, people were not persuaded by economic incentives to end the war but the defeat was imposed militarily. This may have had the advantage that there was less political fragility in the immediate post-war period even though it


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represented a loss of political sovereignty. The peace process benefitted millions of international and domestic refugees who could return to their villages thus re-starting the smallholder, agricultural economy in which 80 percent of all Mozambicans are employed (Briick, 2000, table 4). The cease fire thus suddenly reduced the risk of lethal ambush and allowed people to resume their normal agricultural work without fear of attack or looting. In addition, the peace process gradually increased the protection of property rights and helped to enforce contractual obligations, to facilitate Mozambique's move toward democracy, and to increase the respect for human rights on both sides of the political divide. This may not represent a typical peace dividend derived from cutting military expenditure but it is an immediate peace benefit and a necessary condition for the realization of long-term growth. Furthermore, these benefits helped to strengthen the peace process thereby reducing the risk of renewed warfare even after the departure of ONUMOZ in late 1994. The endogenous peace process in Mozambique resulted in significant economic costs for the government, especially with the demobilization of soldiers and the organization of multi-party elections (Lewis et al, 1999; Mazula, 1996; Vines, 1998). The economic legacy of the war was a huge war debt, which amounted to three and a half times the value of national output at the end of the war (see table 10.2). The high debt had been fueled by high military spending during the war, which had accounted for over one-fifth of total government spending in the last six years of the conflict. Average military spending by all developing countries in 1986-1990, by contrast, accounted for only 9.5 percent of total government spending (Mohammed and Thisen, 1996, p. 378). The crippling level of war finance eventually brought about an endogenous end to the war in Mozambique. Both the looting rebels and the indebted government had exhausted all resources available and necessary for fighting this internal war. Social spending (defined as health and education spending in table 10.2) was less than half of military spending in Mozambique in 19871992 and about half of all developing countries' social spending in 19861990 (Mohammed and Thisen, 1996, p. 378). Social spending in Mozambique fell further during the ONUMOZ period as the economic


Table 10.2: Economic indicators for Mozambique, 1987-1997 In percent (unless otherwise indicated)

J 987-92 (late war)

344.1 Foreign debt/GDP 20.5 Military/total expenditure 9.2 Social/total expenditure 5.8 External interest/total expenditure 47.0 Total expenditure/GDP Annual real GDP per capita growt:h 4.2 Food production per capita index 78.6 (1980=100) 5.7 Annual exports per capita (1980 US$) Trade deficit/GDP 51.1 74.4 Foreign aid/GDP

1993-94 (ONUMOZ)

1995-97 (peace)

361.8 18.3 8.3 5.8 44.8 6.8 70.2

320.8 10.0 11.7 6.0 36.7 6.0 87.3

5.4

7.2

59.6 84.9

31.4 55.2

Sources: Briick et al. (2000) and author's calculations.

cost of peace required high government spending on other sectors. Even though social spending increased relatively speaking, its share in GDP remained constant throughout 1987-1997 as total government spending, as a share of GDP, declined by ten percentage points in that period. The negative effects of military expenditure on social justice were thus reinforced in Mozambique due to the negative effect of the ongoing structural adjustment program. Another constraint on social spending was the continuing high and rising levels of external debt service imposed by the extraordinarily high foreign debt. A reduction of such payments by 50 percent, for example, would permit an increase of Mozambican social spending by 25 percent. The population in the previously rebel-held areas in Mozambique thus ended up paying twice for the war. During the war, it had to fund the rebels who took by force whatever resources they needed while in the post-war period the rural areas reaped the smallest benefits from the peace. The high levels of real per capita growth which Mozambique obtained in this period were not driven by rural agricultural production or export earnings, which were both well below pre-war levels in 1997, but by the high levels of foreign aid (table 10.2). In fact, exports were so low


245

that the trade deficit in the late war and early post-war period amounted to over half of the country's GDP. The aid mainly benefitted urban service sectors but not rural small-scale producers thus delaying the arrival of a peace dividend or of poverty alleviation in the most waraffected areas and creating a potentially very unequal pattern of post-war growth (Briick et al, 2000). A lesson of the Marshall Plan which was not applied in Mozambique was that of commitment and consistency. Donor funds to Mozambique are supply driven. Depending on political events in the donor countries the amount, the timing, and the conditionality of aid will vary, thus placing a huge coordination cost on the already weak Mozambican state (ECON Centre for Economic Analysis, 1998). Mozambique would benefit from a lower level of aid granted for longer periods and with less administrative conditionality but more concise and relevant economic conditionality attached. In addition, it would have been closer to the spirit of Erhard's recommendations for the post-war German economy had the developed countries (ironically including Germany) been more generous sooner with the implementation of the highly indebted, poor countries (HIPC) initiative, especially for countries emerging from violent conflict. Erhard did not agree with a German post-war government canceling its own domestic war debt, as this would have reduced trust in such government, created unfairness, and reduced the scope for future borrowing (Erhard, 1977, pp. 60-70). Yet these arguments do not apply to foreign debt forgiveness under the HIPC initiative if accompanied by a careful package of forward-looking conditionality. Thus, more current resources could be used to increase current growth while targeting more government resources to the social sectors which in turn would strengthen the peace processes of post-war HIPCs. Erhard's concern for larger enterprises can also be detected in Mozambique where large foreign investments and the role of large businesses often overshadow the economic welfare of the majority of the population who live and work in remote rural areas as subsistence farmers. The large trade deficit is one of the key justifications for the prourban, pro-industrial growth policies pursued by the government since the end of the war. However, such policies neglect the export and welfare


potential of the rural smallholder sector. Real exports per capita (which include many agro-exports) were 314 percent higher in 1980 than in 1997 (Briick et al, 2000) suggesting the scale of the unrealized export potential deriving from rural smallholder investments. Given limited government capacity, there is a danger that such policy bias toward large projects could further deepen regional and social inequalities in Mozambique even with strong growth. Erhard's vaguely activist view on the role of the state in a waraffected economy has not been taken up by foreign donors as quickly as his preference for supporting larger firms (International Monetary Fund, 1996; World Bank, 1998). Yet poor war-affected economies will only show a supply response to market liberalization when key market institutions have been build and are allowed to work freely. These include institutions to enable and enforce contracts, to manage information and finances, to increase economic and social mobility, and to influence and control political leaders democratically. Given the serious war destruction, historic lack of capacity, and the absence of long-term experience with a free market in Mozambique, there is still a great need to promote civil and market institutions to enable all citizens to participate in the post-war market economy. Conclusions and policy recommendations Erhard's perceptive analysis of the challenges of German post-war reconstruction supports the view that secrecy in the budgetary process raises the average level of military spending, increases insecurity, and dampens the prospects for fast and equitable post-war growth. Yet the German war debt to GDP ratio proved small in comparison to the relative size of the Mozambican war debt thus facilitating a German peace dividend in the shape of high post-war growth. Rather than the German post-war government canceling its domestic war loans, Erhard recommended that the government should repay its war debt and thus re-establish credibility, trust, and a degree of social justice. These are all informal social institutions, which matter hugely for the restoration of certainty and the lowering of transaction costs, and which in turn increase post-war investment and growth.


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If the war debt is with foreign lenders, however, these lenders should consider forgiving the debt to accelerate post-war economic growth, poverty alleviation, and political stability. This lesson of world war I, though applied to West Germany after 1945, was not practiced as part of the HIPC initiative with the relatively more war-damaged and poorer Mozambique. Some uncertainties as to the sustainability of the peace process and the equity of the post-war growth thus remain in Mozambique. In addition, war time donors should thus use their influence over governments involved in conflict to have them agree to a cease fire. It appears as if international donors failed to attempt such peace-oriented conditionality in the case of Mozambique. These lessons suggest that war time economic reforms in the areas of war debt, military expenditure, and economic institutions are crucial to maintain macroeconomic stability and household entitlements during the war and as a foundation for equitable post-war economic growth, especially in economies with long-lasting or devastating conflicts. Such institutional policies should include the strengthening of the civil service, of the independent judiciary, and of the freedom of expression, and they should lay the legal foundations for future investments and privatization. In addition, the government should collect and publish data on its security spending to increase the public pressure for social over military spending. In sum, Erhard's views of the secrecy surrounding war debt, of the negative effects of a large war debt, and of public expectations in the post-war period also matter for poor developing countries emerging from violent conflicts. However, since 1945 the importance of exports and aid in financing war and post-war reconstruction has increased thus requiring a modification of Erhard's analysis. In addition, his concern for the welfare of firms and his relative neglect of the social effect of war on private households are contradictory to contemporary development policies seeking economic growth and poverty alleviation in war-affected developing economies. References Barnes, Sam. "Peacekeeping in Mozambique," pp. 159-177 in Oliver Furley and Roy May (eds.). Peacekeeping in Africa. Aldershot, UK:


Ashgate, 1998. Berdal, Mats and David Keen. "Violence and Economic Agendas in Civil Wars: Some Policy Implications." Millennium Journal of International Studies Vol. 26, No. 3 (1997), pp. 795-818. Berthelemy, Jean-Claude, Robert S. McNamara, and Somnath Sen. "The Disarmament Dividend: Challenges for Development Policy." OECD Development Centre Policy Brief No. 8, 1994. Brauer, Jurgen and Manas Chatterji (eds.). Economic Issues of Disarmament: Contributions from Peace Economics and Peace Science. New York: New York University Press, 1993. Briick, Tilman. "The Economics of Civil War in Mozambique," pp. 191215 in Jurgen Brauer and Keith Hartley (eds.). The Economics of Regional Security: NATO, the Mediterranean and Southern Africa. Amsterdam: Harwood Academic Publishers, 2000. Briick, Tilman, E. V. K. FitzGerald, and Arturo Grigsby. "Enhancing the Private Sector Contribution to Post-War Recovery in Poor Countries." QEH Working Paper Series, No. 45. Oxford: Queen Elizabeth House, July 2000. http://www.qeh.ox.ac.uk/. Burnham, Peter. The Political Economy of Postwar Reconstruction. New York: St Martin's Press, 1990. Collier, Paul and Jan Willem Gunning. "War, Peace and Private Portfolios." World Development Vol. 23, No. 2 (1995), pp. 233-241. ECON Centre for Economic Analysis. Donor Coordination in Mozambique: Discussion Paper. Maputo, August 1998. Erhard, Ludwig. Kriegsfinanzierung und Schuldenkonsolidierung: Denkschrift von 1943/44. Frankfurt a/M: Propylaen, 1977. Finnegan, William. ,4 Complicated War: The Harrowing of Mozambique. Berkeley, CA: University of California Press, 1992. Geffray, Christian. A Causa das Armas. Porto: Edifoes Afrontamento, 1991. Gleditsch, Nils P., Olav Bjerkholt, Adne Cappelen, Ron P. Smith, and J. Paul Dunne (eds.). The Peace Dividend. Amsterdam: Elsevier, 1996. Hartley, Keith. "The Economics of the Peace Dividend." International Journal of Social Economics Vol. 24, Nos. 1/2/3 (1997), pp. 28-45. International Monetary Fund. Republic of Mozambique: Recent Economic Developments. Washington, DC, 8 November 1996.


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Keynes, John M. "The Income and Fiscal Potential of Great Britain." Economic Journal Vol. XLIX, No. 196 (December 1939), pp. 626639. Keynes, John M. "Paying for the War," pp. 41-51 in Donald Moggridge (ed.). Collected Writings of J.M. Keynes. Vol. 22. London: Macmillan, 1978. Klein, Lawrence R., Fu Chen Lo, and Warwick J. McKibbin (eds.). Arms Reduction: Economic Implications in the Post Cold War Era. Tokyo, New York, and Paris: United Nations University Press, 1995. Lamb, Geoffrey. "Military Expenditure and Economic Development: A Symposium on Research Issues." World Bank Discussion Papers, No. 185. Washington, DC: World Bank, 1992. Lewis, Neryl, Geoff Harris, and Elisa Dos Santos. "The Demobilisation and Re-Integration of Ex-Combatants." In Geoff T. Harris (ed.). Recovery from Armed Conflict in Developing Countries: An Economic and Political Analysis. London: Routledge, 1999. Mazula, Brazao (ed.). Mozambique: Elections, Democracy and Development. Maputo, 1996. Milward, Alan S. The Economic Effects of the Two World Wars on Britain. London: Macmillan, 1970. Mohammed, Nadir A. L. Civil Wars and Military Expenditures: A Note. Washington, DC: World Bank, 1999. http://www.worldbank.org/research/conflict/papers/civil.htm. Mohammed, Nadir A. L. and Jean K. Thisen. "The Economics of Disarmament in Africa," pp. 359-380 in Nils P. Gleditsch, Olav Bjerkholt, Adne Cappelen, Ron P. Smith, and J. Paul Dunne (eds.). The Peace Dividend. Amsterdam: Elsevier, 1996. North, Douglass C. Institutions, Institutional Change and Economic Performance. Cambridge: Cambridge University Press, 1990. Schmolders, Giinter. "Erhards Denkschrift im Lichte neuer Dokumente iiber die Kriegsfmanzierung 1933-45," pp. xxiii-xxxiv in Ludwig Erhard (ed.), Kriegsfmanzierung und Schuldenkonsolidierung: Denkschrift von 1943/44. Frankfurt a/M: Propylaen, 1977. Statistisches Bundesamt. Statistisches Jahrbuch fur die Bundesrepublik Deutschland. Wiesbaden: Statistisches Bundesamt, 1952. Stewart, Frances. "War and Underdevelopment: Can Economic Analysis


Help Reduce the Costs?" Journal of Economic Development Vol. 5, No, 4 (February 1993), pp. 357-380. Synge, Richard. Mozambique's Peace Process: UN Peacekeeping in Action, 1992-94. Washington, DC: United States Institute of Peace Press, 1997. Vines, Alex. Renamo: From Terrorism to Democracy in Mozambique? London: James Currey, 1996. Vines, Alex. "Disarmament in Mozambique." Journal of Southern African Studies Vol. 24, No. 1 (March 1998), pp. 191-206. World Bank. Report and Recommendation of the President of the International Development Association to the Executive Directors on Assistance to The Republic of Mozambique under the HIPC Debt Initiative. Washington, DC, 31 March 1998.

11 Angola: Civil War and the Manufacturing Industry, 1975-1999 Manuel Ennes Ferreira

Introduction Angola emerged from Portuguese colonial rule and became an independent country in November 1975. Since then civil war has pitted two groups against each other, the ruling MPLA party and a rebel group, UNITA. For my purposes here, it is useful to divide Angola's twenty-four year history into two distinct periods. The first one, between 1975 and 1991, is characterized by the intention of building a socialist economic and political system, based on central planning and on a Marxist-Leninist oriented single-party system (MPLA/PT).1 During this period, Angola's civil war was subject to strong external influence and material support: socialist countries, in particular Cuba and the Soviet Union, helped the MPLA, whereas western countries, chiefly the US, France, and especially South Africa, assisted UNITA. During the second period, 1992 to 1999, the country was marked by a market-oriented economic system and a multiparty political system. Thus, the first presidential and legislative elections took place in September 1992. But civil war soon resumed. On the eve of Angola's independence, its manufacturing industry was the economy's most dynamic sector, supplying more than half of domestic consumption. It accounted for 25 percent of GDP and showed


high annual growth rates (6.9 percent in 1972 and 14.3 percent in 1973). Composed of 3,846 enterprises, chiefly of small and medium-size, the sector employed some 200,000 workers transforming domestic raw materials and other inputs for the food and beverages and light industries and, using imported inputs, for the heavy and light industries.2 In light of the economic importance of the manufacturing industry and the military confrontation that gradually engulfed the entire country, it seems appropriate to investigate the relation between the economic performance of Angolan manufacturing industry and the civil war. While there are many studies investigating the relation between military expenditures and economic growth since Benoit's (1973) seminal study appeared, few research war's impact at the level of manufacturing industry, and none have yet done so for the case of Angola. Moreover, the usual interpretations tend to explain the evolution of industrial production exclusively as a function of civil war as if war were the determining cause of manufacturing performance. But we cannot presume this conclusion. Thus, taking Angola's specific economic, political, and civil war situation into account, this chapter identifies some additional, and perhaps more relevant, factors that explain the performance of Angola's manufacturing industry. Manufacturing industry in a centrally planned economy, 1975-1991 Nationalization and the state-owned industrial sector, 1975-1980 According to Angola's constitution (Lei Constitucional, 1975, article 2) "the MPLA... [guides] the political, social and economic direction of the Nation." Having chosen to establish a socialist society, the MPLA soon tried to build, between 1975 and 1980, the foundation for a socialist economic stmcture. This mainly meant to apply a policy of nationalization and confiscation of private enterprises, reaching all sectors of economic activity. Law No. 3/76 of March 1976, bluntly entitled the Law of Nationalization and Confiscation (Lei das Nacionalizaqoes e Confiscos), provided the legal framework and the basis for setting up state-owned enterprises, called Unidades Economicas Estatais (UEE). The procedures for their operation were later expanded

Angola: civil war and the manufacturing

industry, 1975-1999

253

upon in Law No. 77/77 of 15 September 1977 - the Estatutos das UEE. An essential element was the merging of enterprises within the same industrial sub-sector, thus imposing unique centralization and supervision of their activities. IMAVEST, a state-owned conglomerate created in October 1977 is an example: employing 2,400 workers, it was formed from twelve companies in the apparel and textile sector. Another example is ENEPA, created in 1983, which was assembled from five enterprises that operated in the plastic materials sector. Although most of the nationalization acts had been implemented by 1980, nationalization was actively continued until 1991. One of the main reasons for actively pursuing nationalization of industrial assets was that in a considerable number of cases companies had been abandoned by their owners. This only made it easier to justify the gradual encroachment and take-over by the state-owned industrial sector. Still, the survival of a small private industrial sector was accepted but limited in that difficulties were imposed on it. This was underlined at the First Congress of the MPLA in 1977: while recognizing that private property needs to co-exist with nationalized property, "... the state-owned sector should become dominant...; it must create conditions that permit it to gradually replace the private sector ..."3 (see also Kornai, 1992, p. 444). The creation of a state-owned industrial sector - Kornai (1992, p. 83) considers this the main criterium of socialism - was related to a larger objective regarding the country's development: "the People's Republic of Angola considers agriculture as the basis and industry as the decisive factor of its development" (seeLez Constitucional, 1975, article 8). In this context, and following the Soviet industrialization model, it was proposed that heavy industry, in conjunction with light industry, should be the dynamic element of socialist industrialization (see Departamento de Reconstrufao Nacional, 1976, p. 6). Import substitution industrialization and the deterioration of the military situation, 1981-1991 The strategy of nationalizing industrial assets failed, as indicated by the rapidly falling index of production across various industrial sectors (see table 11 A.l in the appendix). This failure, combined with an upsurge in


the intensity of the civil war and, as from 1982, falling world oil prices,4 led the MPLA to adopt a new policy: import substitution industrialization (see MPLA/PT, 1980, p. 34). It was thought that this would create improved conditions for progressive domestic industrialization and, in particular, create a better basis for light industry. Reference to domestic industry protection became part of the annual plans for manufacturing industry (see Ministerio da Industria e da Energia, 1980). But for a variety of reasons, the new model also failed: a worsening military situation, growing external indebtedness, obstacles imposed by the bureaucratic and administrative rules of the central planning system, and the general inadequacy of the new strategy and associated economic policy measures resulted in non-fulfillment of industrial production plans. Thus, following the Second Congress of the MPLA/PT in 1985, an economic reform program, the Programa de Saneamento Economico e Financeiro (Program of Economic and Financial Restructuring), was to be implemented as from 1987. At the same time, Angola applied for full membership in the IMF and World Bank. It was thought that this would permit Angola to reschedule its external debt and make it easier to access international financial markets. Short-term commercial bank borrowing had grown from 16 percent of total external debt in 1978 to 39 percent in 1985 (Ferreira, 1999, pp. 72 and 116). Consequently, short-term debt, as a percentage of total external debt, had increased from 11.5 percent in 1982 to 26.7 percent in 1985 (Ferreira, 1999, pp. 72 and 118). The main objective of the reform program was to restructure the stateowned sector, in particular the industrial sector, and to recast Angola's entire economic system. Contradictions and indecisions about the reform program and process arose within a difficult domestic political environment. The internal discussion was intense. In an attempt to reform while defending "scientific socialism as a programmatic goal" (MPLA/PT, 1990, p. 20), the discussions led to various compromises and generated new terminology, such as "mixed economy" (Santos, 1990b), "peace economy" (MPLA/PT, 1990, pp. 52-53), and "regulated market economy" (Santos, 1990 and Santos, 1990a). In the end, it remained unclear whether or not restructuring of the state-owned manufacturing industry should entail its total privatization.

Angola: civil war and the manufacturing industry, 1975-1999

255

An Angolan defense industrial base? Though engaged in a long-lasting and demanding civil war environment, Angola remained a non-arms producing developing country. It does not truly possess a defense industrial base. Of course, "defense industrial base" can be differently defined (see, e.g., Sandier and Hartley, 1995, pp. 182-185), and it is possible to place Angola into some of those definitions. For example, Haglund5 refers to the existence of national economic sectors that can be called upon to generate goods, services, and technology for ultimate consumption by the state's armed forces. For Krause 6 it would be possible to put Angola into one of his eleven stages of arms production, namely the stage of possessing the capability to perform simple tasks on imported weapons or assembly of imported weapons components. This may explain why some industrial enterprises were placed under the tutelage of the Ministry of Defense, as Angola had become one of the largest weapons importers among developing countries. In the 1982-1986 period for instance, Angola was ranked first in sub-Saharan Africa.7 One paradigmatic example was the so-called BCR unit (Empresa de Reparaqao e Recuperagao de Equipamento Militar). Created in 1983, it was to repair and refurbish military equipment. Other units to support Angola's defense and security needs included Aerovia, Bricomil, and Ecomil 1 and 2, all of them belonging to the construction and assembly sector.8 For Angola, the most meaningful relation between manufacturing industry and national defense needs might be the existence of dual-use activities, i.e., production applicable to both military and civilian purposes (see, e.g., Brauer, this volume, p. 105). But surprisingly, in spite of strong military interest to see industrial production plans fulfilled, industries continually missed specific supply targets for the Angolan armed forces. So there are two aspects here: first, what percentage of manufacturing production went to supply the armed forces and, second, what percentage of what the armed forces wanted to have supplied to them did they actually receive? Starting with the first, we must acknowledge that the percentage of domestic manufacturing output supplied to the armed forces was significant for many goods. For instance, in 1982 this amounted to 31 percent of flour, 40 percent of


sponge cushions, 36 percent of tobacco, and 10 percent of blankets. Two years later, in 1984, the values were: 15 percent of aluminum dishes, 95 percent of sponge cushions, 36 percent of sleeping berths, 23 percent of tobacco, 21 percent of tires, 17 percent of batteries and 25 percent of dry batteries.9 Second, what percentage of what the armed forces wanted to have supplied to them did they actually receive? In 1984 only shirts, sheets, cooking and kitchen tools, tobacco, and various general paints stayed closed to the desired supplies (Ministerio da Indiistria, 1985). In contrast, the receipts were less than planned for many others goods: canvas shoes (only 26 percent), trousers (33 percent), sponge cushions (30 percent), blankets (10 percent), beer (31 percent), soft drinks (14 percent), sleeping berths (36 percent), metal boards (6 percent), inner tubes (15 percent), batteries (16 percent), specialty paints (17 percent), and zero percent for military belts, handkerchiefs, hand towels, working suits, tooth brushes, cutlery, radios, and so on. So, for example, in 1984, while 95 percent of total sponge cushion production in Angola went to the military sector (and therefore five percent to the civilian sector), this supplied only 30 percent of what the armed forces had ordered for themselves. The manufacturing industry in disrepair Running a centrally planned economy produced disappointing results for Angola's manufacturing industry (see figure 11.1 and, for the underlying data, table 11A.1 in the appendix). Taking 1975 - the year of independence - as the reference year to construct an output index, we see that manufacturing output declined immediately after independence, recovered briefly but not fully, and then fell continuously. By 1991, the average value of industrial production was only one-third of what it had been in 1975.10 All sectors - food, heavy, and light industry - showed periods of recovery (especially for light industry), but eventually the performance of all sectors fell drastically to between one-quarter and onehalf of their respective 1975 levels. Intra-branch analysis is illuminating. The food sector (sometimes confusingly referred to as "food and beverages") consists of four subsectors: food, beverages, instant coffee, and sugar. The instant coffee and

Angola: civil war and the manufacturing industry, 1975-1999

257

175 150 I?**

,i. •..

100

M* <M

^ \

/ m y^v

\—

-•---•.

• •my. • -

75

/•- " *

50 25

\

• -^f. *•-

—

n

X - y

+

^ ( - , + £,

7=1

where n = 2mmJX n • - / . As the variables are cointegrated, the matrix n is of reduced rank: (14.3) n = a0' where a and p are nxr matrices of rank r, and P yt comprises r cointegrating 1(0) relations inducing the restricted 1(0) representation:

A system estimation of the defense-growth relation in Turkey 323 s-\

(14.4) A^^n^iaj/J'j/J+v Johansen and Juselius (1994) point out that the reduced form, as given by (14.1), (14.2), and (14.4), uniquely defines the probability distribution of the variables and in that sense qualifies as a statistical model for the data. Estimation results In order to investigate the effects of military expenditure on economic growth, a five equation VAR is considered, where the variables are GNP at 1985 prices (Y), real military spending (M), real savings (S), labor force (L), and the real balance of trade (B).3 Annual data is available for the time period 1949-1994. After allowing for lags, estimation is carried out for 1951-1994, using PcFiml version 9.00 (Doornik and Hendry, 1997). Prior to modeling, the relationships among the variables and their univariate time-series properties are established.4 The results of the augmented Dickey-Fuller tests indicate that all variables considered in the study qualify as 1(1). All dummy variables discussed below are included in the short-run dynamics. Furthermore, the trend is restricted to the longrun dynamics as otherwise it would induce a quadratic trend in levels, for which there is no evidence.5 But from an economic point of view the time trend may pick up the effects of other determinants of economic growth that are missing in the model. Additionally, two dummy variables are included in the model: (a) D75, which takes the value of one for 1974 and 1975, is employed to capture the effects of increased military spending due to the Cyprus conflict; (b) D88 takes the value of one for 1988 and is intended to reflect the possible effects of changes in Turkish economic policy in that year. The results of the specification F-tests, given in table 14.2, indicate that the reduction by 32 parameters for eliminating lags 3 and 4 are acceptable. The Schwarz and Hannan-Quinn criteria also indicate the selection of the two-lag system. Hence a two-lag system with two dummy variables, a trend, and a constant is selected as the final model.


Table 14.2: Turkey: specification tests Model

Laglength

Schwarz

HannanQuinn

Model Reduction

F-tests

1 2 3

4 3 2

-7.65 -8.21 -8.54

-10.82 -10.75 -1.38

l->2 2->3 1-+3

F(25,53) = 1.21 (0.27) F(25,72)= 1.91** (0.01) F(50,67) = 1.58 (0.03)

Note: p-values are in parentheses; ** denotes statistical significance at the 1 percent level.

The residual cross-correlation and lag-length statistics of this final model are given in table 14.3, where Fj (.,.) denotes an F-test for the hypothesis that all i-lag coefficients are zero. Table 14.3 indicates that there are large unexplained positive residual correlations among military expenditure, savings, labor force, and income; a large negative residual correlation between balance of trade and military expenditure; and a large positive residual correlation between the military expenditure and savings. Furthermore, the lag-length statistics reveal that the first lags of all variables and the second lag of military expenditure variables are significant, suggesting that a two-lag VAR model is appropriate for modeling. Table 14.4 records statistical information about the unrestricted VAR reported by PcFiml. F} (.,.) denotes the F-tests for the hypotheses of no serial correlation against serial autocorrelation up to order 2 (Far), no autoregressive conditional heteroskedasticity against a four lag alternative (Farch), no heteroskedasticity (Fhet), and a chi-square test for normality (x2); analogous vector tests are also given and these are indicated by superscript v. Although there is some indication of a problem of autocorrelation in the balance of trade equation as well as in the vector estimates, they are not significant at the 1 percent level. Furthermore, all other diagnostics are satisfactory. After the VAR model is adequately specified, cointegration in the five equation system is investigated using Johansen's procedure (1988; 1991). Table 14.5 gives the cointegration analysis. X denotes the eigenvalues, Tr and Max denote the associated maximum eigenvalue and trace statistics.

A system estimation of the defense-growth relation in Turkey

325

Table 14.3: Residual correlations and lag-length statistics for VAR (2) Residual Correlations

M S L B

Y 0.675 0.635 0.373 0.011

B

M 0.357 0.115 -0.179

S -0.053 0.143

-0.111

M 4.84** (0.00) 7.17* (0.00)

S 5.86** (0.00) 0.50 (0.76)

L 2.68* (0.04) 0.84 (0.76)

Lag Length and Dynamics

FS=I(5,26) Fs=2(5,26)

Y 2.94* (0.03) 2.35 (0.06)

B 8.96** (0.00) 1.55 (0.20)

Note. * and ** denote statistical significance at the 5 percent and 1 percent levels, respectively, and p-values are in parentheses.

Table 14.4: Goodness of fit and diagnostic test results Far (2,28) F a r e h (l,28) Fhet (22,7)

f(2) FV (50,76) Xvhet(330) XVnd(10)

Y 0.35 (0.70) 0.51 (0.47) 0.48 (0.90) 0.19 (0.90)

M 1.37 (0.26) 0.62 (0.43) 0.41 (0.94) 0.70 (0.70)

S 0.58 (0.56) 1.26 (0.26) 0.94 (0.57) 2.85 (0.24)

L 0.77 (0.46) 0.001 (0.96) 0.14 (0.99) 4.44 (0.10)

B VAR 0.06* (0.03)* 0.67 (0.41) 1.96 (0.18) 5.05 (0.08) 1.60* (0.03) 370.82 (0.06) 15.65 (0.11)

Note: * denotes statistical significance at the 5 percent level; p-values are in parentheses.


Table 14.5: Cointegration analysis r X Max Tr

1 2 0.71 0.59 55.14" 39.96** 129.1** 73.98**

3 0.33 17.76 34.02

4 0.22 11.34 16.26

5 0.10 4.91 4.91

Eigenvectors f3

Y

M S L B

Y

M

1.00 14.89 -1.06 0.79 0.12

-23.12 1.00 1.42 13.90 1.93

S

L -0.26 -0.34 -26.88 -4.29 1.00 -1.85 -4.73 1.00 -0.33 -6.41

B -4.63 59.58 -0.92 7.44 1.00

0.34 -0.01 -0.23 -0.12 0.08

0.008 -0.005 0.02 0.008 0.02

Trend 0.22 12.19 0.17 0.08 1.03

Adjustment Coefficients a Y

M S L B

-0.09 0.03 0.01 0.01 0.12

-0.01 -0.001 -0.003 0.0002 0.002

0.04 -0.003 0.07 -0.008 0.006

Table 14.5 formally supports the hypothesis that there are two cointegrating vectors. There are two relatively large and two relatively small eigenvalues. Thus the presence of two cointegrating vectors is assumed throughout the analysis. Thefirstcointegrating vector resembles a Deger-type growth equation with positive effects from military expenditure, labor force, savings, and trend. The second cointegrating vector can be interpreted as a military expenditure equation and indicates that the deviations of military expenditure from trend are positively related to savings and labor force, and negatively related to the balance of trade. Table 14.5 also presents the adjustment coefficients which can be interpreted as the weights with which the cointegration vectors enter the five equation system. The first column of the adjustment matrix a' = (-0.09, -0.01,0.34,0.04,0.008) can be interpreted as the weights with which the excess output enters into each of the four equations of the system.


327

In order to obtain unique cointegrating vectors, the identifying restrictions, which are determined by economic theory, should be imposed on the cointegrating vectors.6 First, weak exogeneity of (M, S, L, B) for the parameters of the income equation is considered. This requires that the first cointegrating vector does not appear in the short-run equations of (M, S, L, B) indicating that military expenditure, savings, labor, and the balance of trade do not react to disequilibrium in real income but still react to its lagged changes. This hypothesis is consistent with the data as the first column of the adjustment matrix has values close to zero and wrong signs, except for the adjustment coefficient of the income equation itself Furthermore, it is observed in table 14.5 that the elements of the fourth and the fifth rows of the adjustment matrix are quite small, suggesting the possible weak exogeneity of labor and savings for the long-run parameters in this model. Additionally, the examination of the eigenvectors and adjustment coefficients in the cointegration analysis indicates that the coefficients of savings and labor variables are quite close to each other in the income equation and military expenditure does not depend on income and trend. Accordingly, in addition to the weak exogeneity restrictions, the following identification restrictions are imposed: for the income equation savings and labor force have the same coefficient; for military expenditure equation, no effect from income and trend. These restrictions are accepted when jointly tested, yielding x2 (9) = 19.91 with p > 0.018, where the degrees of freedom equal the number of over-identifying restrictions. As a consequence of the above analysis two cointegrating vectors are determined, indicating that there are two stationary relationships among the five non-stationary variables of the system. The restricted coingtegrating vectors are defined by CI1 = Yt-7.73*Mt - 0.79*S -0.79*Lt -2.39B, -0.325*Trend, CI2 =Mt -0.07*S - 0.09*L + 0.18*Bt. The long-run income is positively related to all variables in the system. This supports the findings of Sezgin (1999; 2001 ), i.e., that military expenditure positively affects income in Turkey. It is obvious that savings


(investment) and labor force are positively related to economic growth, which is standard from any basic growth model. The positive sign for defense expenditure suggests that Turkish defense spending helps its economic growth. The findings are consistent with Sezgin (2001) who used a Deger-type model. The positive sign for the balance of trade equation is not expected because a trade balance deficit implies that net capital inflows from abroad might stimulate economic growth. This suggests that capital inflows from abroad did not help Turkish economic growth in the time-period under investigation. The second cointegrating vector measures long-term military expenditure and depends positively on labor and savings but with a negative effect from the trade balance. The findings imply that labor, savings, and the balance of trade should be considered as explanatory variables for determining defense expenditure. The starting point of the second stage of the analysis is to model changes in the variables of the system as a response to departures from the long-run relationships, augmented by the short-run dynamics generated by the current and lagged first differences of the variables included in the model. The 1(0) system determines seven variables (AYt, AMt, AS{, ALt, ABP CIl t , and CI2t). The information set used consists of the first lags of AYt, AMt, ASt, ALt, and ABt, together with CIlt_„ CI2 tl , two dummy variables, and an intercept, entailing a reduction to parsimonious VAR. It is observed that none of the variables in the system contributes to the explanation of the labor force and the balance of trade equations. Hence these variables are assumed to be exogenous and a three equation system is estimated. In order to enhance interpretability and to reduce its sample dependence, the system is modeled as an 1(0) parsimonious vector autoregression (PVAR). The weak exogeneity of Mt, St Lt, and Bt for the parameters of the first cointegration relation is examined first. Then the conditional factorization is performed. The resulting VAR equations are estimated by FML and are given in table 14.6. Since the test of overidentifying restrictions does not reject at the 10 percent level - yjox (21) - 34.34, p > 0.300 - the model parsimoniously encompasses the PVAR. The short-run estimates of the model in table 14.6 indicate that the changes in income are positively affected by changes in military expenditure, labor, and the current value of savings, while the lagged value of savings has a negative impact on


329

differenced income. Thus defense spending in Turkey helps economic growth in the short-run as well as in the long-run. Furthermore, the shortrun income function has an adjustment coefficient of 0.36, which indicates that 36 percent of disequilibrium is corrected in each year. The short-run military expenditure in Turkey appears to depend positively on its lagged values as well as on the lagged value of growth of the balance of trade. However, the lagged value of savings has a negative impact on military expenditure in the short-run. Moreover, the adjustment coefficient is quite high with a strong effect. The short-run savings equation, on the other hand, is positively related to lagged values of labor force. Additionally, the model diagnostic statistics, given in table 14.6, are all insignificant at the 1 percent level of significance, matching the valid reduction from the parsimonious VAR. Conclusions Employing a vector autoregressive model (VAR), this chapter has provided an empirical analysis of the defense expenditure-economic growth relationship in Turkey for the period 1949-1994. The VAR estimates of the initial system revealed that there are two cointegrating relationships in the long-run: the first one measures income as a function of military expenditure, savings, labor, and the balance of trade; the second one measures the deviations of military expenditure from its longrun equilibrium level. In the short-run structure, a three equation system is estimated by FIML. The empirical findings indicate that weak exogeneity of income and military expenditure for the long-run parameters is satisfied. Therefore, income and military expenditure can be regarded as being exogeneously given for the long-run structure. Military expenditure appears to enhance economic growth both in the short-run and in the long-run, supporting the findings of Sezgin (2001) who reports a positive effect of defense expenditure on income. The analysis provided an adjustment coefficient of 0.36, indicating that 36 percent of disequilibrium in income is eliminated every year. Furthermore, military expenditure is highly affected by its lagged values and the yearly disequilibrium is corrected quite quickly. Overall, even though there is an argument against high


Table 14.6: FIML model estimates AYt = -0.36 + 2.17 AMt + 1.24 ALt + 1.19 ASt -0.41 ASt_, - 0.36 (CI1) t., (-6.48) (2.63) (7.68) (5.10) (-3.81) (-7.67) AMt = -0.80 + 0.53 AM M - 0.08 AS M + 0.11 AB M - 0.87 (CI2) M + 0.20 (D75) (-7.59) (5.28) (-5.16) (4.72) (-7.59) (5.10) AS t = 0.59 AL,, + 1.02(D75) + 1.17(D88) (2.06) (3.06) (2.93) Model statistics ¥\ (18,88) Fvhet (132,71) X2nd(6)

0.93 (0.54) 1.33 (0.08) 3.11* (0.79)

Note: t- ratios are in parentheses.

military expenditures for developing countries as scarce resources are allocated to unproductive projects, it appears that for Turkey this is not the case. Increased military expenditure leads to economic growth in Turkey. This may be due to the fact that Turkey has one of the biggest armies in NATO, and a major part of military spending is allocated to payments of salaries to armed forces. This may induce demand increases, thus causing economic growth. Notes 1. For a detailed literature review on the Turkish defense-growth relation, see Brauer (forthcoming). 2. For a brief discussion see Charemza and Deadman (1997). 3. For the variable sources and descriptions, see Appendix 14A.1. 4. The results of the unit root tests are given in Appendix 14A.2.


331

5. See Hendry (1995) for a discussion of inclusion of the trend in the cointegrating space. 6. For a detailed analysis of imposition of restrictions on adjustment coefficients and eigenvectors, see Yildirim (1997). References Brauer, J. "Survey and Review of the Defense Economics Literature on Greece and Turkey: What Have We Learned?" Defence and Peace Economics. Special Issue on Economic Aspects of Defence in Turkey and Greece, (forthcoming). Charemza, W.W. and F.D. Deadman. New Directions in Econometric Practices. Aldershot, UK: Edward Elgar, 1997. Deger, S. and S. Sen. "Military Expenditures and Third World Countries," chapter 11 in Keith Hartley and Todd Sandier (eds.), Handbook of Defence Economics. Amsterdam: Elsevier Science, 1995. Doornik, J.A. and D.F. Hendry. Modeling Dynamic Systems Using PcFiml 9.0 for Windows. London: International Thomson Business Press, 1997. Dunne, J. P. "Economic Effect of Military Expenditure in Developing Countries: A Survey," chapter 23 in N.P. Gleditsch, O. Bjerkholt, A. Cappelan, R.P. Smith, and J.P. Dunne (eds.), The Peace Dividend. Amsterdam: Elsevier Science, 1996. Dunne, J.P., E. Nikolaiodu, and D. Voguas. "Defence Spending and Economic Growth: A Causal Analysis for Greece and Turkey." Defence and Peace Economics. Special Issue on Economic Aspects of Defence in Turkey and Greece, (forthcoming, 2001). Hendry, D.F. Dynamic Econometrics Advanced Texts in Econometrics. Oxford: Oxford University Press. 1995. Johansen, S. "Statistical Analysis of Cointegrating Vectors." Journal of Economic Dynamics and Control Vol. 112 (1988), pp. 231-254. Johansen, S. "Estimation and Hypothesis Testing of Cointegration Vectors in Gausian Vector Autoregressive Models." Econometrica Vol. 59(1991), pp. 1551-1580.

332 A rming the South

Johansen, S. and K. Juselius. "Identification of the Long-Run and ShortRun Structure: An Application to the ISLM Model." Journal of Econometrics Vol. 63 (1994), pp. 7-36. IMF (International Monetary Fund). International Finance Statistics Yearbooks. Washington, DC: IMF (various years). OECD. Labor Force Statistics. Paris: OECD Department of Economics and Statistics (various years). Ozsoy, O. "The Defence Growth Relation: Evidence from Turkey," pp. 139-159 in Jurgen Brauer and Keith Hartley (eds.), The Economics of Regional Security: NATO, the Mediterranean, Southern Africa. Amsterdam: Harwood Academic Publishers, 2000. Ram, R. "Defence Expenditure and Growth," chapter 10 in Keith Hartley and Todd Sandier (eds.), Handbook of Defence Economics. Amsterdam: Elsevier Science, 1995. Sandier, T. and K. Hartley. The Economics of Defense. Cambridge: Cambridge University Press, 1995. Sezgin, S. "Country Survey X: Defence Spending in Turkey." Defence and Peace Economics Vol. 8, No. 4 (1997), pp. 381-409. Sezgin, S. "Defence Expenditure and Economic Growth in Turkey and Greece: A Disaggregated Analysis." Paper presented at "The Arms Trade, Security, and Conflict" conference at Middlesex University Business School, London, June 11-12, 1999. Sezgin, S. "A Causal Analysis of Turkish Defence Growth Relationships: 1924-1996. "Ankara University Journal of Political Sciences Vol. 55, No. 3 (forthcoming, 2000). Sezgin, S. "An Empirical Analysis of Turkey's Defence-Growth Relationships with a Multi-Equation Model (1956-1994)." Defence and Peace Economics. Special Issue on Economic Aspects of Defence in Turkey and Greece (forthcoming, 2001). SIPRI Yearbook. World Armaments and Disarmament. Oxford: Oxford University Press (various years). State Institute of Statistics Turkey. Statistical Indicators 1923-1991. Ankara, Turkey, 1993. State Institute of Statistics Turkey. Turkish Economy, Statistics and Analysis. Ankara, Turkey, 1995. Yildirim, J. Currency Substitution and the Demand for Money in the

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relation in Turkey

333

European Union. Unpublished PhD thesis. University of Manchester, Manchester, UK, 1997.

334 A> in ing th e Sou th

Appendix 14A.1 Data sources and definitions of the variables The data for this study come from several sources (see references for detailed citations). First, defense expenditure data were taken from various SIPRI yearbooks. GNP, saving (calculated from national accounts), balance of trade (exports of goods and services minus imports of goods and services in the national accounts) were taken various IMF/EFS yearbooks. Labor force data were taken from OECD Labor Force Statistics. All financial data were deflated to 1987 million Turkish liras using GDP deflators from the State Institute of Statistics, Turkey. Definitions of the variables: Y S B M L D75 D88

gross national product (1985 constant prices) gross savings (1985 constant prices) balance of trade (1985 constant prices) Turkish defense expenditure (1985 constant prices) employed labor force Cyprus conflict dummy variable taking a value of one for the years 1974, 1975 and zero elsewhere impulse dummy for 1988 to reflect possible effects of the change in the economic policy


335

Appendix 14A.2 Stationarity Analysis In this section conventional unit root tests are applied to real income (Y), real balance of trade (B), real military expenditure (M), real savings (S), and labor force (L). Table 14A.1 below presents evidence relating to the augmented Dickey-Fuller tests. The lag length is chosen according to the AKAIKE and SCHWARZ criteria. The second column shows results of the tests of integration of order one, and the third column presents tests of integration of order two. The results of the conventional unit root tests suggest that all variables are integrated of order one. Table 14A.1: Unit root tests VarLAG

A-DF(X)

A-DF(DX)

Y B S M L

-2.91 -2.40 -2.95 -0.66 -1.95

-3.54* -3.36* -4.79** -5.30** -3.40*

3 3 1 1 1

Note : Significant at 1 percent level (**) and 5 percent level (*).


15 The Military-Civilian Tradeoff in Guatemala: An Econometric Analysis Kanta Marwah, Lawrence R. Klein, and Thomas Scheetz

Introduction There is a general supposition that a high degree of militarization competes with general economic advancement in the civilian sector of an economy. In order to examine this supposition in a quantitative and detailed fashion it is necessary to consider simultaneously the following effects or economic adjustments to the military situation: (a) the demand side, (b) the supply side, (c) the short-run, and (d) the long-run. The idea of simultaneous consideration means that both direct and indirect effects must be taken into account. Military expenditure is customarily (but not unequivocally) included in GDP, and military employment is included as part of total employment. When military expenditure is increased, assuming a balanced increase in armed forces, too, there will usually be a short-run increase in GDP, directly in the military component of final government expenditures, and an induced increase in spending on the total GDP, partly by the enlarged forces, and partly by others, including business firms. The total result is estimated by the familiar multiplier calculation, under the heading of military Keynesianism. This kind of reasoning can serve only as an approximate and rough first step just on the demand side.


Large-scale military activity also diverts the economy to inefficient lines of endeavor for producing goods for civilian consumption and investment. Military goods cannot produce future streams of output, while factories, farms, mines, etc. without military equipment and machinery can do just that. That is an essential supply-side difference between military goods and nonmilitaryfixedcapital. Some capital goods do have dual-use capabilities, but when they are producing military goods/services, they are diverted from producing goods/services that could serve the population at large. In many econometric studies of military activity in a general economy, it has been found that in the first instance, military Keynesian effects are at work, but after the passage of time nonmilitary activity, especially the production and consumption of nonmilitary goods/services, begin to contract (expand) when military activity is expanded (reduced). This aspect is apparent, for example, in three studies of the effects of reduced military spending in the global economy.1 In the present investigation we study the economic effects of militarization from similar points of view (demand and supply side, short-run and long-run) in the context of a newly built econometric model for Guatemala. The next section provides an historical perspective on the subj ect. The following sections describe the database, contain the model, and analyze the trade-off results. The final section concludes. Motivation and historical perspective During the 1970s, 1980s, and early 1990s Central America was a battleground with large-scale intervention by the United States. There were exceptions on the peaceful side, as in Costa Rica, but military intrusion and socio-economic turbulence were prevalent in several places. A careful study of a remote, small, poor country like Guatemala during this period is interesting and important in its own right, but it is also of great significance for the entire region of Central America - not to mention South America and the Caribbean. More importantly, Guatemala has just emerged from 33 years (1963-1996) of guerrilla war with an estimated 100,000+ dead. Our study covers almost the entire period of the war, and the results show that the

The military-civilian tradeoff in Guatemala: an econometric analysis

339

military effort, far from having alleviated the underlying social and economic development issues triggering the war, actually made them far worse, initiating a vicious spiral of violence. In that sense, military spending itself can often be said to have been subversive of the established order. From an historical perspective the initial formation of the guerrilla movement in Guatemala may be traced back to the US-organized toppling of the Jacobo Arbenz government in 1954 and the CIA's secret basing of anti-Castro fighters in Guatemala in 1960. But the beginnings of the internal armed conflict can perhaps best be dated from the formation of the Fuerzas Armadas Rebeldes in November of 1963.2 The period from Arbenz through 1970 can be characterized as alternating among weak civilian elected, and military controlled, governments. From 1966 to 1968 the army organized a major counter-insurgency offensive that drove the guerrillas from the northeastern jungle into urban areas. From 1970 through 1985 the military were continually in power, sometimes through fraudulent elections, sometimes by coup d 'etats. The heaviest internal struggle occurred between 1978 and 1983, especially under the government of General Efrain Rios Montt in 1982 - 1983. Finally, beginning in 1986 democracy was restored, albeit with civilian governments again heavily influenced by the generals. Among the other significant security events of the region during the period under study (1968 - 1994), 19 July 1979 marked the Sandinista's overthrow of the Somoza regime in Nicaragua. The following years witnessed struggles and counter-insurgency movements affecting the entire region, particularly in El Salvador and Nicaragua, with US presence heavily felt. Then on 7 August 1987 regional peace accords were signed in Esquipiilas, committing the respective governments to a process of peace negotiations.3 In Guatemala, however, from 1985 onward there began a gradual winding-down of the war: amidst massive human rights violations, almost entirely attributable to the military, the guerrillas largely had been defeated (though not eliminated). Since the level of defense expenditures are determined by internal and external tensions, our series on real military expenditure (MILR) and international arms purchases clearly reflect the pressure from the guerrillas and the general instability in the region as a whole. The trends


in real military expenditure and the ratio of military expenditure to GDP (APMIL) are shown, with time on the horizontal axis, in figures 15.1 and 15.2, respectively. Real military expenditure clearly accelerated from 1978 onward and peaked around 1983. Also, other factors such as a severe February 1976 earthquake and worsening economic conditions (reflected in negative or slow growth in 1975, 1981-1984, and 1986) added to the burden of military expenditure and arms purchases. Beside military expenditure, another variable, a more precise index of internal and external tension was developed and employed in the study. While the civil war continued during the entire period under study, not all of that period experienced the same level of violence, nor threat to state security, by the irregular forces. Nor was the external Central American situation always unstable. Our new variable, denoted by TENS, is an index (0 to 1) representing the political perception of events that we hypothesize influenced the Guatemalan budget process.4 The database: a quantitative challenge An econometric study of any developing country is challenging. A major econometric issue is always the availability of the database. The paucity of quantitative data that would be suitable for careful econometric analysi s is indeed a hurdle. Even in the best of circumstances, when there is no particular reason to cover up or mislead outsiders about the magnitude or type of military effort, it is difficult to estimate reliable economic statistics about a comparatively poor developing country. The errors of measurement are much larger and data are reported less frequently than in major industrial countries, where databases are also not precise. More so, in this geographic area, the quantitative record of military trade is a closely guarded secret, particularly in Guatemala, where US (or US proxies') intervention was quite substantial. Having said this, most models for developing countries rely on international sources (principallyfromthe Stockholm International Peace Research Institute, the US Arms Control and Disarmament Agency, the International Institute for Strategic Studies, or the International Monetary Fund's Government Finance Statistics) for their military expenditure


69 70

7b

80

85

*0

69 70 — APUIL

75

80

8S

341

90

Figure 15.1: Guatemala: real military Figure 15.2: Ratio of real military expenditure, 1969-1994 ('000s expenditure to real GDP, 1969-1994 of quetzales)

Note: In this chapter, all figures have time on the horizontal axis, and the variable value on the vertical axis.

database. The military expenditure datafromthese sources for most Latin American countries are of very poor quality (Scheetz, 1994). Moreover, these data (in trends and real outlays) vary greatly from source to source. In the case of Guatemala, at the very outset we judged that international data sources would not adequately reveal what was taking place in the economy (see data appendix table 15A.1). Accordingly, Thomas Scheetz and a team of local specialists gathered most of the data - military expenditure and other fiscal accounts, national accounts, sectoral labor force, and prices - within the country. As such there is consistency among data series in national accounts, especially in fiscal accounts and military expenditure data.5


For constructing military expenditure data, the basic NATO definition of military expenditure was used throughout the 27 year period under review. Accordingly, the entire national budget was examined by jurisdictional program for each year. Those programs where more than 50 percent was spent for military purposes were classified as military expenditure. This "more than 50 percent" rule is the IMFs criterion for government spending, including military spending. We extended this rule and applied it to the NATO definition for inclusion of other programs such as military education, health, and retirement benefits - as part of military expenditure. An important sub-component of military expenditure, namely arms acquisitions, was taken from the IMFs "Economic Classification of Government Expenditure." The role of this variable appears separately in our model, specifically in determining the level of total imports. Admittedly, the quality of the data on arms acquisitions until 1975 is quite poor. Parenthetically, it is worth noting that the military expenditure data developed for this study were also used by the United Nations (MINUGUA) in their September 1996 negotiations between the united guerrilla groups and the Guatemalan armed forces. The model specification and estimation Our objectives in econometric model building for Guatemala are to try to show the main interactions among markets or sectors of the economy, which are the main issues for studying military-civilian trade-offs, and to be able to determine main trends or tendencies in the economy especially the macroeconomy. A main paradigm, forming the core of a model for a developed industrial economy, is the IS-LM model. By introducing specific sectors such as international trade, wages, prices, exchange rate, interest rates, and public (military plus nonmilitary) and specific private sectors, one can make such systems informative for policy analysis, including forecast extrapolation. The corresponding paradigm for a developing economy must pay attention to both supply and demand sides. This can be done with the core

The military-civilian

tradeoff in Guatemala: an econometric analysis

343

of the Harrod-Domar model, which allows for production technology and its role in the processes of capital formation. The Harrod-Domar core can also be expanded by opening it to international trade, price, interest, exchange rate, and wage rate determination (or influences). To make it as useful as possible, given the data issues discussed earlier, the Guatemala model presented here is an extension of the Harrod-Domar model for studying the military-civilian trade-off as well as for looking at plausible expansion rates for the economy, over the medium-term, covering horizons of 5 to 10 years. In this context, it is important to note that ever since Benoit's (1973) initial single-equation study was published, research on the economic impact of military expenditure has progressed along several cross-sectional and time-series lines. Some studies have focused separately on developed economies and some on developing. The developed economies generally have good data in quality and availability, the greater abundance of fiscal resources, and the presence of a significant military industry that restrains arms imports. But these pertinent factors are absent in developing countries. Over time, Benoit-style single-equation models have largely been set aside, in favor of ever larger models that better describe details of the economy, and are either supply (and/or demand) driven, or they study special aspects of military expenditure effects. Nonetheless, in comparison with the Guatemala model developed in this study, they all remain, by and large, ad hoc in structure.6 Our model incorporates the joint interactions of both demand and supply effects within the HarrodDomar model. The complete model, together with the definitions of the variables, is presented below (table 15.1). The estimated equations are collected the table 15.2. The equations have been estimated by two methods, ordinarysingle-equation-least-squares (OLS) and two-stage-least-squares (2SLS). (AR1 indicates "with correction for first-order serial correlation".) The 2SLS method employs all the exogenous variables as instruments. The numbers within parentheses, printed below the coefficients, are t-ratios. Altogether, the model has 12 equations of which nine are structural and three are identities. The 12 endogenous variables determined within the model are: GDP, CON, GFI, EX, IM, KRM, L, MIL, NED, p, rf, and


vel. The remaining variables are exogenous. Let us briefly review the model specification which, although highly constrained by data availability, is put forward as the type of system that can be estimated from currently available data and be useful in the policy analysis of the economic role of the military sector. The strategic entry points of the military sector into the system are provided by four primary components of aggregate spending on the demand side and the production function on the supply side. Specifically, the first four equations covering the private demand side of the macro economy encompass consumer spending (15.1), business spending for gross private capital formation (15.2), imports (15.3), and exports (15.4). These four items (imports being treated negatively) add to an estimate of GDP when combined with total public spending (G) in equation (15.11). Since there also exist some direct estimates of GDP from overall statistics, equation (15.11) provides the value of a statistical discrepancy (SD) between the two sources of GDP measure. The distribution of aggregate demand over each of the five components (the ratio of each component to GDP) and the ratio of military expenditure to GDP are shown in figure 15.3. A major supply-side aspect of the model comes from the production function, relating factor inputs to output (real GDP), as in equation (15.5). A general price equation and an exchange-rate equation, equations (15.6) and (15.9), show market influences. Since military expenditure is to be examined endogenously, in relation to total government expenditure, which is exogenous, it is developed in equation (15.7). Equation (15.8) shows the scope for fiscal policy by relating spendable income (after taxes and transfers) to total GDP. Two more identities define the relation between investment and capital stock (15.10) and monetary velocity (15.12). Since there are too few statistical data points available to develop an informative series on interest rates, we have used velocity as a proxy for interest rate. This is, in fact, a way of interpreting the LM part of the IS-LM core and is often used in model building for developing countries in the absence of business appropriate interest rate statistics. Equation 15.1: The consumption equation shows the overall relation


Table 15.1: Guatemala: econometric model Consumption: (15.1) CON/p*N = Fx [NID/p*N, Ml/p*N, MIL/GDP, SD/p*N, D4, u,] Gross fixed investment: (15.2) GFI/pj = F2 [(GDP/p)2, Ml/p, KRM . „ TENS, D4D5, u2] Imports: (15.3) IM/Pm = F3 [GDP/p, pm/p, ARMS/Pm, Dl5 u3] Exports: (15.4) EX/p = F4 [YRUS, MIL/GDP, Pwt/p, (EX/p). „ u4] Production function: (15.5) ln(GDP/p*L) = F5 [ln(KRM/L), [ln(KRM/L)] 2, ln(MIL/GDP), [ln(MIL/GDP)] 2, TIME, \i5] Price formation: (15.6) Ap = F6 [Avel, Apm, vel. „ p m . „ p . „ u6] Military expenditure: (15.7) MIL/p = F7 [G/p, SD/p, (MIL/p) _,, u7] National disposable income and GDP linkage: (15.8) NID/N = F8 [GDP/N, SD/N, u8] Exchange rate: (15.9)

Arf = F9 [Avel, Ap, CUB/GDP, rf .,, \i9]

Identities: (15.10) KRM = GFI/p ; + 0.95 KRM ., (15.11) GDP = CON + GFI + G + E X - I M - S D (15.12) vel = GDP/Ml

345


Table 15.1 (cont.)

Note: Definitions of variables ARMS CUB CON EX G GDP GFI IM KRM L Ml MIL N NID SD YRUS P Pi Pm Pus

P rf vel TIME TENS Dl D4 D5 D4D5 A

arms imports, thousands of current quetzales (Q). current account balance, thousands of current Q. CUB = EX - IM + net foreign income from abroad. private consumption, thousands of current Q. exports of goods and services, thousands of current Q. central government total expenditure, thousands of current Q. gross domestic product, thousands of current Q. gross fixed investment, thousands of current Q. imports of goods and services, thousands of current Q. real fixed capital stock, thousands of 1987 Q. [KRM = GFI/p , + 0.95 KRM .,] economically active population, thousands, (EAP/1000). money supply, end of the year, thousands of current Q. military expenditure, thousands of current Q. population, thousands, (POP/1000). = national disposable income, thousands of current Q. (CON + GFI + G + EX - IM) - GDP. US GDP in billions of 1987 US$. GDP implicit deflator, 1987 = 1.00. implicit gross fixed investment deflator, 1987 = 1.00. import price, (pus*rf/2.66), 1987= 1.00. US implicit GDP deflator, 1987 = 1.00. weighted WPI of US, Japan, Germany and El Salvador, principal trading partners of Guatemala, 1987 = 1.00. average annual exchange rate, Q per US$. velocity of money, GDP/Ml. trend variable. internal and external security tension constructed variable. dummy variable, 1 for 1982-1994, 1 otherwise. dummy variable, 1 for 1993-1994, 0 otherwise. dummy variable, 1 for 1973, 1983-92, 0 otherwise. dummy variable D4+D5, 1 for 1973 and 1983-94, 0 otherwise. change. stochastic error.

Mean = 0.2532E+07; SE = 277998; adj. R2 = 0.80; d = 1.55 Serial independence (BG-LM(1) test) p-value = 0.426; Homoskedasticity (White-het test) p-value = 0.262; Normality (J-B test) p-value 0.678

Mean = 0.47391 E+07; SE = 623664; adj. R: = 0.87; d = 2.06 Serial independence (BG-LM(1) test) p-value = 0.754; Homoskedasticity (White-het test) p-value = 0.120; Normality (J-B test) p-value 0.246

Mean = 0.3044E+07; SE = 349766; adj. R: = 0.77; d = 2.16 Serial independence (BG-LM(l) test) p-value = 0.541; Homoskedasticity (White-het test) p-value = 0.816; Normality (J-B test) p-value 0.203


Gross fixed investment: (15.2) GFI/p , = 35508.40 + 0.92E-08 (GDP/p)2 + 0.60 Ml/p- 0.06 KRM ., + 922414.00 TENS - 304315.00 D4D, (0.08) (5.13) (1.90) (-2.92) (2.41) (-1.22)

Table 15.1 (cont.)

(a) Ordinary Least Squares model

Note: Definitions of variables

Consumption: (15.1) CON/p*N = 509.58 + 0.56 NID/p*N + 0.99 Ml/p*N - 4791.46 MIL7GDP + 0.24 SD/p*N + 125.22 D4 (6.80) (12.20) (3.63) (-2.46) (2.43) (5.02)

ARMS CUB CON EX G GDP GFI IM KRM

Pi Pm Pus

Mean = 1 743.70; SE = 29.80; adj. R2 = 0.95; d = 2.36 Serial independence (BG-LM(l) test) p-value = 0.365; Homoskedasticity (White-het test) p-value = 0.141; Normality (J-B test) p-value 0.421

arms imports, thousands of current quetzales (Q). current account balance, thousands of current Q. CUB = EX - IM + net foreign income from abroad. private consumption, thousands of current Q. exports of goods and services, thousands of current Q. central government total expenditure, thousands of current Q. gross domestic product, thousands of current Q. gross fixed investment, thousands of current Q. imports of goods and services, thousands of current Q. real fixed capital stock, thousands of 1987 Q. [KRM = GFI/p , + 0.95 KRM .,] economically active population, thousands, (EAP/1000). money supply, end of the year, thousands of current Q. military expenditure, thousands of current Q. population, thousands, (POP/1000). = national disposable income, thousands of current Q. (CON + GFI + G + EX - IM) - GDP. US GDP in billions of 1987 US$. GDP implicit deflator, 1987 = 1.00. implicit gross fixed investment deflator, 1987 = 1.00. import price, (pus*rf/2.66), 1987= 1.00. US implicit GDP deflator, 1987 = 1.00. weighted WPI of US, Japan, Germany and El Salvador, principal trading partners of Guatemala, 1987 = 1.00. average annual exchange rate, Q per US$. velocity of money, GDP/Ml. trend variable. internal and external security tension constructed variable. dummy variable, 1 for 1982-1994, 1 otherwise. dummy variable, 1 for 1993-1994, 0 otherwise. dummy variable, 1 for 1973, 1983-92, 0 otherwise. dummy variable D4+D5, 1 for 1973 and 1983-94, 0 otherwise. change. stochastic error. EX/p = - 0.18E+07 + 772.77 YRUS - 0.65E+08 M1LVGDP + 822924.00 p j p + 0.56 (EX/p)., (-1.08) (2.31) (-2.69) (1.51) (4.32) Exports: (15.4)


IM/pm = - 959481.00 + 0.58 GDP/p - 0.37E+07 pn/p + 8.45 ARMS/pm - 0.22E+07D, (-0.88) (10.56) (-4.39) (1.90) (-4.32) Imports: (15.3)

L Ml MIL N NID SD YRUS P

Table 15.2: Estimated models, 1969-1994

National disposable income and GDP linkage: (15.8) N1D/N = - 43.80 + 0.90 GDP/N + 0.10 SD/N AR1 (-3.77) (238.80) (2.41)

Mean = 1715.52; SE = 21.28; adj. R2 = 0.99; d = 1.89; rho = 0.53 Serial independence (BG-LM(l) test) p-value = 0.004; Homoskedasticity (White-het test) p-value = 0.605; Normality (J-B test) p-value 0.206


Mean = 249576.00; SE = 29917.50; adj. R2 = 0.88; d = 1.18 Serial independence (BG-LM(l) test) p-value = 0.192; Homoskedasticity (White-het test) p-value = 0.382; Normality (J-B test) p-value 0.888

Table 15.1 (cont.)

Production function: (15.5) ln(GDP/p*L) = 9.87 - 2.02 ln(KRM/L) + 0.14 [ln(KRM/L)]: - 2.83 In(MIIVGDP) - 0.31 [In(MILVGDP)]2 - 0.01 TIME (1.62) (-1.46) (1.73) (-12.46) (-2.33) (-5.97)

Note: Definitions of variables ARMS CUB

Military expenditure: (15.7) MIE/p = -14398.50 + 0.08 G/p - 0.03 SD/p + 0.53 (MIIVp) ., (-0.58) (4.57) (-2.31) (5.03)

o

Mean = 8.94; SE = 0.04; adj. R = 0.80; d = 1.56 Serial independence (BG-LM(l) test) p-value = 0.471; Homoskedasticity (White-het test) p-value = 0.268; Normality (J-B test) p-value 0.652 2

CON EX G GDP GFI IM KRM

Pi

L Ml MIL N NID SD YRUS P Pm Pus

Mean = 0.12; SE = 0.06; adj. R2 = 0.88; d = 2.09 Serial independence (BG-LM(l) test) p-value = 0.564; Homoskedasticity (White-het test) p-value = 0.180; Normality (J-B test) p-value 0.421

Co

arms imports, thousands of current quetzales (Q). current account balance, thousands of current Q. CUB = EX - IM + net foreign income from abroad. private consumption, thousands of current Q. exports of goods and services, thousands of current Q. central government total expenditure, thousands of current Q. gross domestic product, thousands of current Q. gross fixed investment, thousands of current Q. imports of goods and services, thousands of current Q. real fixed capital stock, thousands of 1987 Q. [KRM = GFI/p , + 0.95 KRM .,] economically active population, thousands, (EAP/1000). money supply, end of the year, thousands of current Q. military expenditure, thousands of current Q. population, thousands, (POP/1000). = national disposable income, thousands of current Q. (CON + GFI + G + EX - IM) - GDP. US GDP in billions of 1987 US$. GDP implicit deflator, 1987 = 1.00. implicit gross fixed investment deflator, 1987 = 1.00. import price, (pus*rf/2.66), 1987= 1.00. US implicit GDP deflator, 1987 = 1.00. weighted WPI of US, Japan, Germany and El Salvador, principal trading partners of Guatemala, 1987 = 1.00. average annual exchange rate, Q per US$. velocity of money, GDP/Ml. trend variable. internal and external security tension constructed variable. dummy variable, 1 for 1982-1994, 1 otherwise. dummy variable, 1 for 1993-1994, 0 otherwise. dummy variable, 1 for 1973, 1983-92, 0 otherwise. dummy variable D4+D5, 1 for 1973 and 1983-94, 0 otherwise. change. stochastic error. (-2.00)

(3.29)

(0.25)

(6.09)

(2.56)

P

Table 15.2 (cont.)

rf vel TIME TENS Dl D4 D5 D4D5 A

Price formation (15.6) Ap = 0.03 Avel + 0.39 Apm + 0.44E-03 vel., + 0.34 p m ., - 0.21 p .,

OO


Identities:

Table 15.1 (cont.)


Exchange rate: (15.9) Arf = - 0.18 Avel -* 4.82 Ap - 15.75 CUB/GDP - 0.45 rf., (-1.87) (540) (-3.23) (-4.22)


Pi

L Ml MIL N NID SD YRUS P Pm

vel = GDP/Ml

(15.12)

GDP = CON + GFI + G + EX - IM - SD

(15.11)

Pus

Mean = 0.43; SE = 0.34; adj. R2 - 0.69; d = 2.16; sample 1984-1994 Serial independence (BG-LM(1) test) p-value = 0.749; Homoskedasticity (White-het test) p-value = 0.000; Normality (J-B test) p-value 0.701

arms imports, thousands of current quetzales (Q). current account balance, thousands of current Q. CUB = EX - IM + net foreign income from abroad. private consumption, thousands of current Q. exports of goods and services, thousands of current Q. central government total expenditure, thousands of current Q. gross domestic product, thousands of current Q. gross fixed investment, thousands of current Q. imports of goods and services, thousands of current Q. real fixed capital stock, thousands of 1987 Q. [KRM = GFI/p , + 0.95 KRM .,] economically active population, thousands, (EAP/1000). money supply, end of the year, thousands of current Q. military expenditure, thousands of current Q. population, thousands, (POP/1000). = national disposable income, thousands of current Q. (CON + GFI + G + EX - IM) - GDP. US GDP in billions of 1987 US$. GDP implicit deflator, 1987 = 1.00. implicit gross fixed investment deflator, 1987 = 1.00. import price, (pus*rf/2.66), 1987= 1.00. US implicit GDP deflator, 1987 = 1.00. weighted WPI of US, Japan, Germany and El Salvador, principal trading partners of Guatemala, 1987 = 1.00. average annual exchange rate, Q per US$. velocity of money, GDP/Ml. trend variable. internal and external security tension constructed variable. dummy variable, 1 for 1982-1994, 1 otherwise. dummy variable, 1 for 1993-1994, 0 otherwise. dummy variable, 1 for 1973, 1983-92, 0 otherwise. dummy variable D4+D5, 1 for 1973 and 1983-94, 0 otherwise. change. stochastic error.

Note: The property of serial independence of the residuals is tested by the BreuschGodfry LM(1) (BG-LM) test and the Durbin-Watson d test; homoskedasticity, by the likelihood ratio (LR-het) test; and normality, by the Jarque-Bera (J-B) test. The p-value is to be interpreted as the risk involved in rejecting the stated null hypothesis.

KRM = GFI/p , + 0 95 KRM.,

(15.10)


Table 15.2 (cont.)


Table 15.1 (cont.)

(b) Two Stage Least Squares model


Price formation: (15.6) Ap = 0.03 Avel+ 0.41 Apm + 0.61E-03 vel ., + 0.37 p m .,-0.24 p ., (1.72) (6.19) (0.34) (3.40) (-2.18) Mean = 0.12; SE = 0.06; adj. R2 = 0.88; d = 2.08


Pi

L Ml MIL N NID SD YRUS P Pm

EX/p = - 0.21 E+07 + 826.15 YRUS - 0.68E+08 MI1JGDP + 912756.00 pu1/p + 0.55 (EX/p)., (-1.20) (2.41) (-2.76) (1.64) (4.22) Mean = 0.30E+-07; SE = 350002.00; adj. R2 = 0.77; d = 2.1 5 Exports: (15.4)

Pus

arms imports, thousands of current quetzales (Q). current account balance, thousands of current Q. CUB = EX - IM + net foreign income from abroad. private consumption, thousands of current Q. exports of goods and services, thousands of current Q. central government total expenditure, thousands of current Q. gross domestic product, thousands of current Q. gross fixed investment, thousands of current Q. imports of goods and services, thousands of current Q. real fixed capital stock, thousands of 1987 Q. [KRM = GFI/p , + 0.95 KRM .,] economically active population, thousands, (EAP/1000). money supply, end of the year, thousands of current Q. military expenditure, thousands of current Q. population, thousands, (POP/1000). = national disposable income, thousands of current Q. (CON + GFI + G + EX - IM) - GDP. US GDP in billions of 1987 US$. GDP implicit deflator, 1987 = 1.00. implicit gross fixed investment deflator, 1987 = 1.00. import price, (pus*rf/2.66), 1987= 1.00. US implicit GDP deflator, 1987 = 1.00. weighted WPI of US, Japan, Germany and El Salvador, principal trading partners of Guatemala, 1987 = 1.00. average annual exchange rate, Q per US$. velocity of money, GDP/Ml. trend variable. internal and external security tension constructed variable. dummy variable, 1 for 1982-1994, 1 otherwise. dummy variable, 1 for 1993-1994, 0 otherwise. dummy variable, 1 for 1973, 1983-92, 0 otherwise. dummy variable D4+D5, 1 for 1973 and 1983-94, 0 otherwise. change. stochastic error. IM/pm = - 188872.00 + 0.57 GDP/p - 0.46E+07 pm/p + 7.30 ARMS/pm - 0.20E+07D, (-0.16) (10.10) (-4.75) (1.57) (-4.32) Mean = 0.47E+07; SE = 642029.00; adj. R2 = 0.87; d = 2.1 5 Imports: (15.3)


Table 15.2 (cont)

Consumption: (15.1) CON/p*N = 508.34 + 0.56 NID/p*N + 0.97 M l/p*N - 4675.43 MIL/GDP + 026 SD/p*N + 124.01 D4 (6.70) (11.54) (3.22) (-2.35) (2.45) (4.88) Mean = 1743.70; SE = 29.82, adj. R2 = 0.95; d = 2.37

Gross fixed investment: (15.2) GFI/p,= 137253.00 + 0.84E-08 (GDP/p)2 + 0.65 Ml/p-0.05 KRM ., + 728004.00 TENS - 482374.00 D4D5 (0.29) (4.42) (192) (-2.20) (1.74) (-1.63) Mean = 0.25E+-07; SE = 281 846; adj. R2 = 0.80; d = 1.75

Production function: (15.5) ln(GDP/p*L) = 8.39 - 2.17 ln(KRM/L) + 0.14 |ln(KRM/L)]2 - 3.85 ln(MlL/GDP) - 0.43 [ln(MII7GDP)]: - 0.01 TIME (E28) (-1.51) (1.77) (-2.70) (-2.59) (-5.97) Mean = 8.94; SE = 0.04; adj. R2 = 0.80; d = l.58

Table 15.2 (cont.)


Table 15.1 (cont.)

o K

ARMS CUB

Pi

Mean = 1772.90; SE = 21.14; adj. R2 = 0.99; d = 2.02; rho = 0.54

CON EX G GDP GFI IM KRM L Ml MIL N NID SD YRUS P

Pm

Pus

vel = G D P / M l

(15.12)

rate: Arf = - 0.18 Avel + 4.82 Ap - 15.75 CUB/GDP - 0.45 rf., (-1.87) (5.40) (-3.23) (-4.22) Exchange (1 5.9)

P

GDP = CON + GFI + G + EX - IM - SD

(15.11)

< •

National disposable income and GDP linkage: (15.8) NID/N = - 49.52 + 0.90 GDP/N +- 0.09 SD/N (-3.73) (224.80) (2.35)

Note: Definitions of variables

^

o

arms imports, thousands of current quetzales (Q). current account balance, thousands of current Q. CUB = EX - IM + net foreign income from abroad. private consumption, thousands of current Q. exports of goods and services, thousands of current Q. central government total expenditure, thousands of current Q. gross domestic product, thousands of current Q. gross fixed investment, thousands of current Q. imports of goods and services, thousands of current Q. real fixed capital stock, thousands of 1987 Q. [KRM = GFI/p , + 0.95 KRM .,] economically active population, thousands, (EAP/1000). money supply, end of the year, thousands of current Q. military expenditure, thousands of current Q. population, thousands, (POP/1000). = national disposable income, thousands of current Q. (CON + GFI + G + EX - IM) - GDP. US GDP in billions of 1987 US$. GDP implicit deflator, 1987 = 1.00. implicit gross fixed investment deflator, 1987 = 1.00. import price, (pus*rf/2.66), 1987= 1.00. US implicit GDP deflator, 1987 = 1.00. weighted WPI of US, Japan, Germany and El Salvador, principal trading partners of Guatemala, 1987 = 1.00. average annual exchange rate, Q per US$. velocity of money, GDP/Ml. trend variable. internal and external security tension constructed variable. dummy variable, 1 for 1982-1994, 1 otherwise. dummy variable, 1 for 1993-1994, 0 otherwise. dummy variable, 1 for 1973, 1983-92, 0 otherwise. dummy variable D4+D5, 1 for 1973 and 1983-94, 0 otherwise. change. stochastic error. KRM = GFI/p , + 0.95 KRM .,

(15.10)

0}

rf vel TIME TENS Dl D4 D5 D4D5 A Identities:

o ^ £

Mean = 249576.00; SE = 29936.10; adj. R = 0.88; d = 2.34 2

a Mean = 0.43; SE = 0.34; adj. R = 0.69; d = 2.16; sample 1984-1994 :

3 expenditure: MIL/p = -15316.30 + 0.08 G/p - 0.03 SD/p + 0.52 (MIL/p) (-0.61) (4.64) (-2.40) (4.84) Military (1 5.7)


1.0-

0.8-

APCON

0.6-

0.4

APIM

0.2-

^

- ^ " ' \

\

0 \ 0 \ £ I O O O O O O O C \ I \ 1 - V J N ) N 1 0 \ O C \ C \ C \ 0 \ U 0 0 - S ] | I - ^ 0 \ ^ - O V 1 U I W ^ ^ O O O \ ^ I O O ^ O \

o b b b b

0 0 C 0 s ) 0 N U i 4 ^ 0 0 L K > t O s l - O O ^ K ) 0 0 - O I \ ) O ' ~ -£> " -t^ " O ~ ._ ^ — O ^ - ^ o os u> MD O si O — ^ - - 4^ Ift N! to to C N -fc» MD 4^- O N

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0 0 0 0 0 ^ ^ ^ 0 ' > J ^ ^ - ' 0 ' -

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The

military-civi ian tradeoff in Guatemala: an econometric analysis

371

Tablel5A.2(contin ed) Year

P

1966 1967 1968 1969 1970 1971 1972 1973 1974 1975 1976 1977 1978 1979 1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994

0.16717 0.16784 0.17097 0.17387 0.18256 0.18025 0.17782 0.20358 0.23549 0.26638 0.29699 0.34586 0.36486 0.39623 0.43594 0.47308 0.49674 0.56511 0.58127 0.65453 0.92595 1.00000 1.11655 1.23834 1.73895 2.31411 2.51918 2.86170 3.21638

Source: 5.

PI 0.12270 0.12660 0.12820 0.13210 0.13840 0.14100 0.14660 0.17220 0.23020 0.25650 0.29480 0.31130 0.33990 0.37840 0.42280 0.43720 0.44530 0.44760 0.47230 0.67670 0.84770 1.00000 1.11430 1.24130 1.89330 2.36010 2.66620 3.05180 3.24240

PM 0.10985 0.11368 0.11921 0.12560 0.13199 0.13921 0.14602 0.15541 0.16861 0.18477 0.19669 0.20989 0.22650 0.24650 0.26951 0.29677 0.31508 0.32782 0.46210 0.97646 1.03500 1.00000 0.93699 1.15960 1.93717 2.25333 2.35534 2.61055 2.72240

PWT

RF

0.26050 0.26360 0.26920 0.27760 0.28950 0.29740 0.30880 0.34810 0.42180 0.45410 0.48790 0.52780 0.54690 0.60620 0.69740 0.75760 0.79960 0.83420 0.88090 0.92410 0.95110 1.00000 1.09450 1.23930 1.42370 1.55320 1.70020 1.90380 2.17680

1.00000 1.00000 1.00000 1.00000 1.00000 1.00000 1.00000 1.00000 1.00000 1.00000 1.00000 1.00000 1.00000 1.00000 1.00000 1.00000 1.00000 1.00000 1.35000 2.75000 2.84000 2.66000 2.40000 2.84000 4.55000 5.05000 5.18000 5.62000 5.74000

Compiled by Thomas Scheetz mostly from domestic sources; see text and note


Tablel5A.2 (continued) Year

TENS

Dl

D4

D5

D4D5

1966 1967 1968 1969 1970 1971 1972 1973 1974 1975 1976 1977 1978 1979 1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994

0.50000 0.50000 0.50000 0.70000 0.70000 0.70000 0.70000 0.70000 0.80000 0.70000 0.70000 0.80000 0.90000 !.00000 1.00000 1.00000 1.00000 0.70000 0.60000 0.60000 0.50000 0.40000 0.40000 0.30000 0.20000 0.20000 0.20000 0.20000

0.00000 0.00000 0.00000 0.00000 0.00000 0.00000 0.00000 0.00000 0.00000 0.00000 0.00000 0.00000 0.00000 0.00000 1.00000 1.00000 1.00000 1.00000 1.00000 1.00000 1.00000 1.00000 1.00000 1.00000 1.00000 1.00000 1.00000 1.00000 1.00000

0.00000 0.00000 0.00000 0.00000 0.00000 0.00000 0.00000 0.00000 0.00000 0.00000 0.00000 0.00000 0.00000 0.00000 0.00000 0.00000 0.00000 0.00000 0.00000 0.00000 0.00000 0.00000 0.00000 0.00000 0.00000 0.00000 0.00000 1.00000 1.00000

0.00000 0.00000 0.00000 0.00000 0.00000 0.00000 0.00000 1.00000 0.00000 0.00000 0.00000 0.00000 0.00000 0.00000 0.00000 0.00000 0.00000 1.00000 1.00000 1.00000 1.00000 1.00000 1.00000 1.00000 1.00000 1.00000 1.00000 0.00000 0.00000

0.00000 0.00000 0.00000 0.00000 0.00000 0.00000 0.00000 1.00000 0.00000 0.00000 0.00000 0.00000 0.00000 0.00000 0.00000 0.00000 0.00000 1.00000 1.00000 1.00000 1.00000 1.00000 1.00000 1.00000 1.00000 1.00000 1.00000 1.00000 1.00000

Source:

in the study.

16 The Allocation of Resources to the Armed Forces in Chile: A Case of Limited Transparency Guillermo Pattillo

Introduction The purpose of this chapter is to describe the process by which resources are allocated to the armed forces of Chile. Among the many alternative approaches available, I consider the allocation mechanism only from the point of view of transparency. This means that I analyze processes and procedures more than budget numbers. Also, I advance a diagnosis more than proposals for solution. The common denominator of resource allocation to armed forces in South America is their relative independence from effective social control. Even though civil authorities formally possess the ability to make budget allocations, for a variety of reasons these allocations ultimately occur to a great extent outside their scope of influence, thus lending the armed forces some kind of special status. This special status reduces social welfare and undermines the armed forces' legitimacy in society, promoting conflict and distrust. I addressed transparency for the first time as an important issue in military budgets during a workshop held in Brazil on budgeting and


democracy, sponsored by the Lyndon B. Johnson School of Public Affairs of the University of Texas at Austin and the Getulio Vargas Foundation (see Pattillo, 1998). The discussion at that time highlighted the low level of social involvement in the process by which fiscal budgets, and of course military budgets, are allocated in most of the South American countries. Although I survey here only the Chilean case, the issue is relevant because it is widespread, and the truth is that despite the defects of the Chilean situation, we are in this regard in a better position than most other countries in this part of the world. Transparency is an area where much remains to be done, and awareness about where we stand now is the first step to initiate action to improve public decision-making. Transparency always has been a desirable characteristic of public decision- making. But it has been only in the last two decades or so that this term has become widely used in South America, and a growing degree of awareness has arisen among the general public about their right to ask government for better information and to make it accountable for the way in which public policy is defined and conducted. The huge changes experienced during the 1980s and 1990s, with global interdependence becoming a reality of everyday life, have brought about significant restructuring of economic paradigms and of the perceived economic role of government. Certainly, these changes have had an important impact on the way that people today understand the functions of government and what they can and should demand of it. The old approach to government as an agent somehow endowed with special knowledge and only pursuing general social well-being is no longer valid. Government and its agencies are formed by people who respond to incentives, and they maximize a utility function whose arguments surely contains private objectives also. Fiscal transparency has thus become a leading concept and one that is highly correlated with the social image of valid decision-making. There is no universal consensus about the meaning of transparency and about the conditions that must be met before an action can be called transparent; nevertheless, in an effort to provide a set of basic guidelines for common understanding of transparency in public policy, the IMF published a Code of Good Practices on Fiscal Transparency (IMF, 1999). This code consists of four general principles (as quoted from the

Chile: a case of limited transparency

375

IMF http://www.imf.org/external/np/fad/trans): 1

The first general principle - Clarity of Roles and Responsibilities - reflects the importance of clear boundaries within government between fiscal, monetary, and public enterprise activities, and between the public and private sectors. However, the Code does not advocate any particular allocation of responsibility among government agencies.

2

The second general principle - Public Availability of Information - is concerned with the need for both comprehensive fiscal information and for governments to commit themselves to publish fiscal information at clearly specified times. The concept of comprehensiveness goes beyond that typically reflected in government budget and accounts reports. In particular, the Code emphasizes the need to report on any quasi fiscal activities that have been assigned to or otherwise undertaken by agencies outside general government.

3

The third general principle - Open Budget Preparation, Execution, and Reporting - encompasses traditional standards relating to the coverage, accessibility, and integrity of fiscal information. Considerable emphasis is placed on the development and harmonization of international statistical and accounting standards for government reporting.

4

The fourth general principle - Independent Assurances of Integrity - emphasizes the traditional means of providing such assurances through external audit and statistical independence, but then goes beyond this and calls for openness by governments to allow independent scrutiny.

The IMF defines fiscal transparency ... as openness toward the public at large about government structure and functions, fiscal policy intentions, public sector accounts, and projections. It involves ready access to reliable, comprehensive, timely, understandable, and internationally comparable information on government activities - including those activities undertaken outside the government sector - so that the electorate and financial markets can accurately assess the government's present and future financial position. [IMF, World Economic Outlook, Annex I, 1998.]

But transparency, from my perspective, is more than information: it is involvement; so I would state the meaning of transparency in government actions as a way of management, in which decisions are made that clarify to the public the objectives, means, and expected results of fiscal


initiatives, and in which there is at least indirect public involvement to generate the final decision. In this sense, the conclusion of this chapter is that the allocation of resources to the Chilean armed forces is not a completely transparent process, especially so in the case of arms acquisitions. The reasons for this, explored in the following sections, are related to at least one fundamental factor: the inability of political parties during the 50 years preceding the establishment of military government in 1973 to fulfill their role as a key component of the set of institutions that shape national defense policy. This gave rise to an institutional structure that does not promote transparency. Contributing to this outcome is the very slow introduction of modern management techniques in the public sector as a whole and the Ministry of Defense in particular. The first of the factors that helps us to understand the present situation is closely tied to the severe undervaluation by political elites of the functions performed by the armed forces and of their social value that used to exist up until the early 1970s. This translated into a sharp division between civil society and the military and resulted in a deteriorated social image of the military career. The consequences of this short-sighted approach were various: one prominent one was the exclusion in the early 1940s of the legislature from analysis and decision-making in the area of weapons procurement and, much later, the limitation of the scope of their ability to modify the armed services' annual budget. Another factor is the prevalence of non-optimal managerial processes. Management techniques used by public agencies, of which the armed forces are but one example, and particularly the budget process, have not been instruments for greater efficiency and transparency of public actions, but instruments for bureaucratic control. The chapter is organized as follows. The next section provides a short description of the organizational structure of the Ministry of Defense. The section thereafter describes the way in which the Chilean armed forces are funded. The final section summarizes the most relevant conclusions. The structure of the Ministry of Defense The Chilean Ministry of Defense (MoD) today is the result of a variety of


311

factors that shaped the organizational history of the armed forces in Chile. Legal and external influences are predominant. From a structural point of view, the MoD is a kind of multidivisional structure1 that evolved from a group of formerly independent organizations to a unified structure that could better coordinate the services.2 As we will see in the following section, service unification has been only partially achieved. Even if the services had been fully brought under a single umbrella, the organizational structure was not designed to produce proper incentives for joint decision-making. Indeed, the first set of regulations about how the new MoD would function (October 1947) kept most of the relevant decision-making within the armed forces themselves, leaving the Minister of Defense without independent technical assistance (Diaz, 1996). The Ministry is composed of a group of autonomous "core divisions" (the armed forces and the police)3, as well as of the Directorate General of National Mobilization, the National Academy of Political and Strategic Studies, and a set of staff units of different levels and relevance. These staff units are: the Commanders in Chief Committee, the Superior Council of National Defense, the General Staff of National Defense, and the Undersecretariats for the Army, Navy, and Air Force.4 The Commanders in Chief Committee (JCJ) is the Minister's highest level advisor in matters that involve the armed forces. The committee was created in 1960, and its permanent working organ is the General Staff of National Defense (EMDN). The latter is the permanent working and advising organ to the Minister of Defense in aspects related to national defense and the preparedness and uses of the armed forces. It is a joint entity established in July 1942, and one of its main tasks is to put together an overall strategic plan to guide the services' war planning. The Superior Council of National Defense (CONSUDENA) is a consultant organism of the Minister of Defense. Today, it has the task of being the comptroller of financial flows associated with weapon acquisitions funded by the Copper Law (see the subsection on the Copper Law later on). CONSUDENA was created in 1942 to effectively coordinate decision-making, but there is no evidence that it has ever accomplished this missions. Finally, on the staff side, the Undersecretariats are administrative assistants to the Minister, their heads being directly appointed by the


Joint Chiefs ofStaff CONSUDENA

-^Ministry of^-Defense

Armedforces

General Staff of National Defense Undersecretariats

Police forces

Figure 16.1: Chile: the Ministry of Defense structure

President of Chile and of his exclusive confidence. Also under the Minister's authority are the Directorate General of National Mobilization and the National Academy of Political and Strategic Studies (ANEPE). The former is the agency mainly in charge of general mobilization planning and conducting the annual military draft (i.e., the recruitment of those required to present themselves for obligatory military service).5 ANEPE is a postgraduate center attended by people from various departments and government agencies to obtain formal training in security and defense issues. The academy was founded in 1982, being the successor institution to the Superior Academy of National Security (1974) and, even earlier, the National Defense Academy (1947). Figure 16.1 summarizes this overall structure. As can be seen from figure 16.1, there is no defense agency in charge of common supply and support. This is a distinctive characteristic of ministries of defense in South America. In the Chilean case, the structure of MoD has remained unchanged since the early 1960s, when there was still a strong influence by the United States.6 Similarly, the structure of the Ministry of Defense does not have in the line of authority any joint military organization that could effectively coordinate armed forces' planning and operation. In theory this is the role


379

of the General Staff of National Defense, but as a staff unit its capacity to promote jointness is severely limited. To understand that, two points must be taken into account. First, the Chief of Staff (a position that is rotated among the services every two years) is an armed forces staff specialist flag officer with the rank of Major General, Vice Admiral, or Air Force General who directly depends on the Minister and whose authority is in direct proportion to the Minister's willingness to be involved in substantive military matters (something that has been more the exception than the rule). Secondly, the Chief of Staff in some way must report to his service and to his Commander in Chief because after two years in office he will resume his professional career there. In practice, then, key aspects of the services' management and development strategies are conducted by them without much interaction amongst them, and the decision system implied by the MoD structure does not provide the correct incentives to a joint approach to defense issues. The result is a partially integrated defense organization where the different components operate more as independent entities than as parts of a closely interrelated system whose product is not simply the sum of individual contributions but a complex function of them. Because jointness is not a true characteristic of defense management, the potentially synergistic effects of the mixture of capabilities and unity of effort are absent. The evident weakness that the systemic approach to defense issues in Chile has implies that the efficiency of resource allocation is sub-optimal, but this is not all. It has also an effect on transparency because it motivates a less open decision-making process. If an improvement is to be made in the quality of the latter, the organizational structure of the Ministry of Defense must be changed significantly; a matter that is beyond the scope of this chapter. Funding the armed forces Two main sources fund the armed forces (Army, Navy, and Air Force) in Chile. They are (a) the fiscal contribution through the annual budget law that is approved by Congress and (b) a secret law that imposes a tax on the state-owned copper production company Corporacion del Cobre


(Codelco). The latter is known as the Copper Law.7 The funds provided by this law are never consolidated with annual budget data so that a comprehensive picture of the annual funds available to the armed forces does not exist. The fiscal contribution included in the annual budget law considers resources in domestic currency, and in US dollars, for the services' operations but not for investment in capital equipment, especially not for arms procurement. What Congress approves each year therefore are funds to cover the set of items that finance the planned uses of existing equipment. The most important of those items is, of course, personnel. The income generated by the Copper Law tax is used to acquire weapon systems and their spare parts and may not be used for anything else. Of course, in any particular year the value of arms bought and imported by the services can be much greater than the proceeds of the copper tax. In this case, the services habitually borrow from suppliers to finance their purchases. But there is no public record of that debt, neither of the actual level of indebtedness, nor of its structure, nor of the conditions under which it was contracted. My conjecture (but I cannot prove it) is that the services are close to the maximum debt they can service insofar as resources for amortization and interest payments also must come from copper-tax income alone.8 Because there is an upper bound to the absolute debt level, credit does not constitute an additional source of financing in the long-run. In the last decade (the 1990s), total funds allocated to the military from both sources, i.e., the annual budget law and the copper law tax, have been declining when measured against GDP. They fell from almost three percent of GDP in 1989 to around 1.8 percent of GDP in 1999 (Ministry of Defense, 2000; also see figure 16.2). The next subsection summarizes the mechanism by which these two types of resources are allocated to the services. The budget cycle The budget cycle for the public sector (see figure 16.3) begins in April and ends with congressional approval of the budget law on the last working day of November of the year preceding the fiscal year. (In


381

% 3.50 -I

3.00 2.50 2.00 -

1.50 1.00 \

• , , , r-, , r— , -, r 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999

Figure 16.2: Global fiscal income to the armed forces, 1989-1999 (as percentage of GDP) Source: Ministry of Defense, 2000.

Chile the fiscal year coincides with the calendar year.) Of the four major budgeting stages - executive preparation, legislative consideration, execution, and control - the focus here is on the first two. The Budget Department of the Ministry of Finance centralizes the preparation of the budget (Balbontin and Chamaca, 1999). This process takes place between April and June and ends with two products, (a) the projected fiscal position for the next three years and (b) a projected budget by ministries and public agencies for the following year. The latter is constructed by each government agency according to financial guidelines provided by the Budget Department. Because the projected budget is normally less than what agencies requested, they can at this stage present what is called an "expanded budget". This has, however, a crucial limitation: any request for additional monies must not only be extensively justified but must have its own financing. This implies that additional expenditures must be financed with agencies' own resources, e.g., with the sale of its services or assets, an alternative that is generally not available to the armed forces. After consolidation of all requests, there is a period of administrative hearings during which every budget request is analyzed. This phase,


Ministry of Finance " ^ Budget Department

Financial guidelines

H_ Financial requests

Government agencies and departments

Budget Department Proposal (BDP) \ Analysis of BDP by Cabinet \ Proposed budget law Finance Committee of the House of Representatives Specialized subcommittee hearings Bicameral Finance Committee consolidation House of Representatives approval Senate approval ^

Executive promulgation of the Budget Law

Figure 16.3: Chile: the budget cycle

during which specialists from the Budget Department interact with the agency under review, produces the Budget Department Proposal. A final revision of this Proposal takes place at a Cabinet meeting. Once the President approves, a proposed budget law is sent to Congress at the beginning of October. After the executive has submitted the budget proposal to the


383

legislature, the Finance Committee of the House of Representatives, which receives it, splits the budget into as many parts as agencies will appropriate resources and submits those parts to subcommittees that are formed from members of the Senate and the House. These subcommittees initiate a period of hearings with government departments and agencies. Each subcommittee produces a budget document submitted to the Bicameral Finance Committee, which consolidates the information and, in turn, submits the final document for approval to the House of Representatives. After the Lower House has approved the appropriations, the proposed budget law is sent to the Senate. This has to give its formal consent on or before the last working day of November because the President must sign the budget law on the first working day of December. So far this budgetary process looks very standard. Nevertheless, and even at this global level, there are two important differences to the way things are done in other countries. In Chile, the legislature does not have the ability to reallocate resources within an agency's budget, nor can it increase the level of spending the executive has proposed for any agency. What then is the legislative analysis of the budget all about? It is basically to study the consistency between agencies' stated objectives and requested resources, with the possibility to reduce funds only when more than needed has been requested and the agency's level of spending is not determined by another law. The second limitation is that if Congress does not approve the budget within 60 days, the initial executive proposal will automatically become law. Clearly, there is an imbalance between the executive and legislative branches of government. Chile has a presidential system, but in sharp contrast with other countries ruled by the same general system, such as the United States,9 the Chilean constitution gives much power to the President to the detriment of Congress. The reasons for this are twofold: an historical tradition that favors a strong presidency, and the prominence of the figure of the President at the time the current constitution was written (the late 1970s, during the military government). The budgetary process described here applies to every fiscal agency in Chile. But in the armed forces' case, its budget approval process is subject to an additional and unique restriction in the Chilean public sector.

384 Anning the South

On 27 February 1990, two weeks before the military government left office,10 it enacted the Constitutional Organic Law ofthe Armed Forces (law number 18,948) which mandates, among others things, that fiscal contributions in domestic currency to the services should be, from then on, equal to what they had received in 1989, adjusted each year by the increase in the consumer price index (CPI), with the exception of personnel expenses which should be adjusted at least in line with the rest ofthe public sector (normally more than the CPI variation).11 This law, which requires the approval of 4/7 ofthe House of Representatives and the Senate to be modified, was enacted on the expectation that civilian governments would try to severely reduce funding for the armed forces.12 What maneuver room is left to Congress - or, indeed, the executive - in deciding on budget allocations to the armed forces? Not much indeed. The executive can increase, but not reduce funding. Congress cannol increase or reallocate resources and has a floor to how much it could reduce funding. At a global level the funds the armed forces receive are mainly defined, then, by indexation ofthe 1989 budget and salary increases. Although these limitationsper se do not necessarily imply a reduction in transparency, in practice they contribute to it. Because there is a floor to the amount to be allocated, the armed forces do not need to go into an extensive and in-detail justification ofthe budget each year.13 Another factor that makes the budget process opaque is that in Chile the fiscal budgel is an object-of-expenditure budget - i.e., items are budgeted by categories such as personnel, food, and purchases of goods and services - not a performance budget or a program budget.14 It is therefore impossible to tell from the budget what activities will be performed and how much they will cost. In the case ofthe armed forces, activity and cost are not necessarily known even by Congress, much less by the general public The state of limited and fragmentary information could be overcome if the administration were committed to produce the relevant information, but so far this has not happened. Another central question is how the defense budget is divided among the services. Here emerges another rigidity that is particularly binding in the case ofthe armed forces. The funding of each service is calculated using what is euphemistically called "historical criteria". In practice this


385

Table 16.1: Chile: services' share in fiscal income in selected years (in percentages, Copper Law included) Year

Army

Navy

Air Force

1994 1998 2000*

41.55 42.44 42.06

34.14 33.82 33.87

24.31 23.74 24.07

Note: * projected Source: Ministerio de la Defensa Nacional de Chile 1994-2000, March 2000.

means that the fraction of the total that is allocated to any particular service today is fairly constant over time and represents its share ofthe budget over some undefined period ofthe post-1973 years. It is interesting to note that before 1973 the services' total budget share was very different from today's shares. The turning point took place in 1975, the last year in which the Navy had the biggest share (36.9 percent), followed by the Army (36.4 percent), and the Air Force (26.7 percent). Since 1976 the Army assumed the budgetary forefront and has remained in that position (see table 16.1). The way in which the defense budget is split has an additional and very undesirable property: it freezes the structure ofthe services in the past. This means that the structure of national defense does not respond to contemporary events, but is artificially locked in the past, reducing the social value ofthe product that the armed forces produce. Nevertheless, relative to GDP, the budgetary allocation to the services has been declining throughout the 1990s and today is around 1.4 percent of gross domestic product (see figure 16.4). Although it is well understood by public officials that budget processes should be a central tool to efficiently allocate government resources, control agencies' performance, and improve social welfare, prevailing practices in Chile do not allow, in general, full use of this instrument. This is particularly true in the case of Chile's armed forces. Military budgets should be clear statements of plans, priorities, cost, and performance, but in Chile they are not.

386 Arming the South % 1.90

1.80 — ^ — 1.70

^ ^ * ^

1.40 j

-S^-

1.30 I 1.20 i

^ ^ ~ " ^

""^ —

^

. , • • , , , • , , • 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999

Figure 16.4: Chile: fiscal budget allocation to the armed forces (as percentage of GDP), 1989-1999 Source: Ministry of Defense, 2000.

The tax on copper sales During most of the 20th century, and without doubt during the period from the early 1920s to the 1970s, weapon acquisition for the armed forces in Chile was, to a great extent, a process characterized by government improvisation and forced by international events that threatened the territorial integrity ofthe country. In general, the political leadership of those days considered investing in the armed forces a low priority, and they invested only when it was clear that there was no alternative. Usually this meant that the services would be reequipped only when some strategic imbalance challenged national security. Because there was no rational plan to maintain the capabilities ofthe armed forces, there was no planned way of equipment financing, and special funds needed to be raised each time a new threat appeared. This was the case with a classified law known as the Cmisers Law of 1938. It was enacted in response to the Argentine naval plan of 1937. This was the case, too, years later, with the Copper Law (see Meneses, Duran, and Neeb, 2000). But the Copper Law has another vital precedent. In 1942, enactment


387

of law number 7,144 created the Superior Council of National Defense (CONSUDENA) and established new sources of funds for the armed forces, different from the fiscal contributions included in the annual budget law. The new funds had two distinct origins, according to the currency in which they were raised. Money came in US dollars from income fiscal authorities raised from the multiple exchange-rate system that prevailed for copper exports.15 In addition to this, domestic currency funds were raised by means of a tax on tobacco and wine. But more than for the funds themselves, CONSUDENA was important for the authority it received to approve the uses of those funds. This has had a long-lasting influence on the way defense acquisitions are handled in Chile. In 1958, having extinguished the source of extra-budgetary dollars created in the 1940s and partly motivated by an incident with Argentina over the sovereignty ofthe Snipe islet in the Beagle Channel, Congress enacted a law that imposed a tax on profits ofthe copper mining industry and allocated the proceeds exclusively to the acquisitions of weapon systems.16 In those days the tax rate would have been 7.5 percent of profits and the funds were probably allocated not to the armed forces directly but to the Superior Council of National Defense for distribution among the services according to some set of criteria.17 The intention of the authorities in those days (as in the precedent cases already mentioned) was to establish a permanent flow of US dollars to the armed forces, independent ofthe changes in political willingness. Following tradition, the law was kept secret. Nevertheless, as time went by at least part ofthe law became gradually known for a variety of reasons (and by a variety of means), so that today we can be confident that its important aspects are no longer secret. For sure, there are details that remain unknown but the basic stmcture ofthe post-1973 versions ofthe law are now believed to be in the public domain.18 Apparently the law did not contain any instmction for how to transfer the resources to the services, and for the first two years for which published figures exist (1963 and 1964) the fraction going to any particular service was variable, although in a small range.19 But starting in 1965 a new pattern emerged: the proceeds were divided among the services in equal parts, so each one of them received a third ofthe total. Nobody denies that for decades the armed forces made due with

388 Arm ing the Sou th

chronic underinvestment, and the income generated by the Copper Law from 1959 to 1973 did not change that in any substantial way because the funds produced by the law were insufficient to fill the huge gap that already existed. By the time the military government took power in September 1973, the military capabilities ofthe services were therefore severely limited for lack of modem equipment. By the end of 1973 the new, military, authorities introduced significant changes to the Copper Law. Today, the most relevant and best known changes include the increase in the tax rate from 7.5 to 10 percent, the enhancement ofthe tax base from profits to gross yearly sales of stateowned copper mine exports (at that time the whole industry), the establishment of a US$90 million minimum income for the armed forces,20 the explicit division in thirds of the total, and the direct allocation of that amount to each service. In turn, each service would put forth US$ 3.3 millions a year to CONSUDENA to finance joint projects in which more than one service could be interested. The reasons behind these changes were twofold: (a) to increase funding for the armed services and (b) to prevent disputes among them at a time when their Commanders in Chief were, simultaneously, the legislature (the military junta that replaced the civilian Congress in 1973 was formed with the Commanders in Chief of the armed forces and the General Director ofthe police force). Both purposes were achieved. The changeover ofthe law greatly increased the resources that the armed forces received for the purpose of arms acquisition. During the period 1963-1972 the annual average of total Copper Law proceeds was equivalent to 0.32 percent of GDP, with a standard deviation of 0.11; in the 1974-1985 period that average total income was equivalent to 0.78 percent of GDP, with a standard deviation of 0.21 (calculated from Ministry of Defense, 1998, p. 212). Relative to GDP, Copper Law proceeds increased by 144 percent. In nominal terms they reached a maximum of US$ 31,130,012 in 1969 and declined to less than 10 million dollars in 1971.21 With the change in the law at the end of 1973, the services' income jumped to US$ 102 millions in 1974.22 But the final version ofthe law had not yet been written. In October 1985 the law was modified again and at that time, as far as is known (Villar, 1992; O'Reilly, 1997), the main modifications were an increase


389

% 1.40 -I

1.20

1 .oo 0.80 -j 0.60

^ V V N.

0.20

1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999

Figure 16.5: Chile: armed forces' income generated by the Copper Law (as percentage of GDP), 1989-1999 Source: Ministry of Defense, 2000.

by 100 percent ofthe guaranteed minimum income to the armed forces to US$ 180 millions, the indexation of this base income to the wholesale price index of the United States, and the inclusion of copper's byproducts in the tax base. From 1986 onward therefore the resources provided to the armed forces jumped to a new level, which continues to the present. They represent today around 0.4 percent of GDP (see figure 16.5). This is the story of how the Copper Law evolved and the amounts that it generated for the armed services. But for my purposes it is more important to describe the features the allocation process has adopted. The first characteristic of that has already been mentioned: the money collected by this tax is divided in equals parts among the services and is distributed directly to them with a marginal amount given by the services to CONSUDENA. This approach has, of course, a negative impact on the efficiency of resource allocation. Since the services do not have to compete for resources, there is nothing that can assure that, from the point of view ofthe national defense system, the best projects are undertaken. It istmethat this type of partial analysis has historically been the way

390 Ann ing th e Sou th

resources were allocated to the armed forces in Chile. But the Copper Law institutionalized this way and made it permanent. When the law established that the tax proceeds would be given directly to each service, it created a huge degree of independence among the armed forces regarding the way they purchase equipment and the way in which they make acquisition decisions. Of course, efficiency and transparency are not necessarily correlated. It is possible to have a transparent allocation process that produces an inefficient outcome, and vice versa. What defines the degree of transparency is the way in which different actors are taken into account at the various stages ofthe decision-making process, who they are, and what level of information is available at reasonable cost to the public at large. It is from this point of view that we have to analyze the allocation process ofthe Copper Law. To summarize what follows, for acquisition an appropriation decree must be signed by the Minister of Defense and the President, so the approval of these authorities is essential. But this is a formality; the relevant question is how deeply the armed forces allow civil authorities to be involved in the analysis of weapon acquisition and their real power of veto. The Ministry of Defense produces basic guidelines to armed forces' planning by means of its periodic strategic assessment and projections. This is made explicit in the Political and Strategic Global Appraisal23 which is written by the Ministry of Defense with input from the armed forces, the Ministry of Foreign Affairs, and other institutions. Under this umbrella the services plan (or should plan) their operations and investment. Because the Copper Law produces funding for the latter, the basic question here is by which mechanism an intended purchase of a certain weapon system becomes an actual purchase. What we know ofthe process suggests that the origin of any arms acquisition project is found in the service that will operate it. There is nothing surprising in this, but because the services receive arms funding independently of potential acquisitions, and ofthe requirements of other services, they do not need to coordinate their intended acquisitions with each other. Thus, the first characteristic ofthe decision-making process is that a joint analysis is generally absent. Once the preliminaries are sufficiently developed by the service


391

involved, and assuming that it can finance the intended acquisition with its expected net income from the Copper Law,24 two scenarios are possible. If the weapon system under review is particularly relevant because of political, strategic, or other considerations, the service will have to discuss it with the Minister of Defense and his closest advisors, mainly to analyze its political viability. It is my impression that not much discussion takes place about the specific military role that the new weapons are supposed to fulfill or what the alternative options might be. But if the purchase is a relatively minor one, it is more likely that the Minister will merely be informed ofthe service's intentions. In any case, there is a flavor of formality to this process that probably dominates its content. We do not know if this is an accurate description of what really happens because we do not have the required information; but it is likely because the services view the Copper Law funds as their "own", so there is not much that others can say about it, and they generally do not acknowledge that civilians may possess the technical ability to question such projects from a substantive point of view. A recent case illustrates the point. In mid-June 2000, a senator denounced in Congress that the Air Force had recently bought a Gulfstream-IV airplane for non-military uses, this being a non-affordable luxury at a time of severe fiscal constraints. Independent ofthe validity ofthe basic argument, the point is that the very existence of this purchase was completely unknown for a non-insider and of course for public opinion. The first notice of it was that speech in the Senate. In reply the Air Force said that the airplane was operating since May 2000, replacing a Gulfstream-III airplane, that they asked the pertinent authorities for permission, that the airplane was bought with services' "own" resources (i.e., with money from the Copper Law), and that the reserve with which this replacement had been treated is only "normal and legally valid in acquisitions for the armed forces" (El Mercurio, 14 June 2000, p. 16). A completely different scenario arises when the projected Copper Law income is insufficient to finance a project and additional funding is needed. In this case, the earliest participation ofthe Minister of Defense and the Ministry of Finance becomes essential.23 But these cases are exceptional and until very recently there was no public record of any example were additional funding was sought.


The state of affairs, at least thus far, is one in which the services finance the acquisition of any desired weapon system with Copper Law proceeds and do not receive any additional financial support. In this scenario, the opinion ofthe Ministry of Defense in the early stages ofthe project cycle is much less relevant. The service will evaluate projects from a technical and financial standpoint. This results in a prioritized list of options from which each service's authorities will choose. They will discuss their selection with the Minister and, that done, the selected projects are sent for approval to the Superior Council of National Defense. The Council is, in theory, but not in practice, the most important actor in the decision-making process. CONSUDENA is formed by the Minister of Defense, who is the chairman ofthe Council, the Ministers of Foreign Affairs and Finance, the Army, Navy, and Air Force Commanders in Chief and their Chiefs of Staff, the Chief of the General Staff of National Defense, and the War, Navy, and Air Force Undersecretaries. Among the functions that the law gave to the Council26 there are at least three that are of huge importance for the equipment acquisition decision-making process. These are: 1 2 3

to study and establish the needs ofthe armed forces and propose the acquisitions and innovations necessary to satisfy them, to authorize the referred acquisitions and investments, and to control the acquisition process.

There is no public information about how these functions have been undertaken by CONSUDENA, but case analysis suggests that the role played by the Council has been much more one of formal approval than of analysis ofthe way in which each branch's project would support its mission and about the contribution this would make to national defense. There is strong support for this hypothesis in the Copper Law itself since it gives the funds, in three equal parts, directly to the services. Since each service has then a property right over a certain level of funding, and because nobody else will help finance the investment it wants, nor the operational cost associated with it, there appears not to exist much room to maneuver for the Council to question any service's project. Furthermore, the resources that a service appropriates by means ofthe


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Copper Law do not compete with other public uses of the same funds. They are specific to the armed forces,27 so the most probable scenario at the Council is one in which the Ministry of Finance cannot stop an expenditure with considerations about its opportunity cost; and because the funds "belong" to the services, there is no way that the other two services can argue against a desired project of its fellow service if they want their own to be approved in the future. This leads to the hypothesis that the only objection that the Council could possibly raise is a political one. That has happened, but only in major acquisitions and not really by the Council, but by the President himself28 The Copper Law thus provides decision-makers with incentives to look at parts, not at the whole system. If this is the case, and everything points to that, the role of CONSUDENA is essentially a formal one: to produce the administrative act of approval of any project that the services send for its consideration. It is even hard to believe that, because ofthe rank ofthe members ofthe Council, it ever really achieves a high quorum or full attendance. What CONSUDENA surely does is to engage in the financial control of payments ordered by the services (the third function stated above) in fulfillment of contracts from previous acquisitions and to check the financial feasibility of new projects. It is with the Council's secretary where the administrative control of all financial flows generated by the Copper Law is located. After the service has CONSUDENA's formal approval for an acquisition, a decree is sent for signature to the Minister of Defense and the President. When this administrative act is completed, the service can finally sign the contracts with the firm that will provide the equipment and can start using the money it has in secret accounts at the Treasury. The only external scmtiny of the whole process is an ex-post administrative control made by the General Accounting Comptroller (GAC), an independent public institution in charge of reviewing the legal soundness of administrative actions of public employees. Nevertheless, the control exerted by GAC is limited in scope and superficial in nature, and its results are classified information for everyone except the organizations directly involved. The entire decision-making process, from beginning to end, includes


then the service that owns the project, the Minister of Defense, with whom some level of negotiation may take place, CONSUDENA, the executive, and the General Accounting Comptroller. Figure 16.6 summarizes this process. Obviously, the missing actor here is Congress. Although it may seem unnatural that the legislature does not have any involvement in the process of deciding which type of weapon system the country should and will have, this is in fact the way things are handled in Chile today. But this is not new; this dates back to 1942. Why was Congress eliminated from decisions that are so cmcial for the country's long-term survival and position in international affairs? The short answer is distmst and lack of interest of political parties in defense matters. For most of the 20th century, the relation between the armed forces and political parties in Congress was complex. The military tended to see politicians as intrinsically opportunistic and focused, essentially, on short-run election cycles. With opportunistic political parties,29 and in the context of voteassociated demands from a variety of social groups, the expected outcome is a very low priority for defense issues and expenditures. This characterizes the situation that the military faced for decades until 1973. They were poorly paid and worse equipped. Surely nobody would deny now that the relation between the military and politicians was inadequate and that the mistake lasted too long. It is fair to say, then, that Chile's history validates the fear ofthe military that Congressional discussion of weapon acquisitions - implying by definition a long-term view of national interests - could be not appropriately treated and could undermine their operative capacity first and their role and very existence, second. Things are changing and civil-military relations have started to be built on different assumptions, but a long time will have to elapse to modify peoples' firmly rooted perceptions. Nevertheless, in the long-mn the only way to socially validate the resources consumed by the armed forces is to give real control over military expenditure to elected representatives ofthe community. To advance in that direction extensive reform is needed in procedures, organizational design, and in the roles different participants play in the


Navy

•Army

GAC

395

Air Force

" • CONSUDENA

Ministry of Defense

Ministry of Finance

Presidency Figure 16.6: Chile: The decision-making cycle of Copper Law funds

process of determining national defense goals and stmcture. This reform is, probably, still far away because of lack of confidence and political leadership, but surely at some point in time all parties will realize what is now obvious only for a minority: that the reform of decision-making in defense is a Pareto-improving measure. Conclusions The allocation of fiscal resources to the Chilean armed forces is not a transparent process since it occurs almost completely outside the scmtiny of society and is to a great extent independent of social preferences. No prescribed minimum level of discussion exists at the various stages ofthe allocation mechanism to allow a reasonable understanding of the objectives being pursued, the opportunity cost incurred, the benefits accmed, and to identify those who should be accountable. At the most general level the explanation for today's situation lies in the incapacity shown by all political parties, for decades, to fulfill their role as tmstful counterparts in the decision-making about defense issues.


The prejudice with which matters of armed forces were handled in Congress, and the significant undervaluation of the social value of the public good that these institutions produce, at last brought into being the self-exclusion ofthe legislature from the arms procurement process in the early 1940s and the limitation of its capabilities to decide upon other military matters later on. In light of this background, the structure ofthe system that evolved is, in the end, a reflection ofthe most-promising looking strategy for each ofthe different groups in conflict. Behind the veil that shrouds defense issues is the prevalence of an institutional stmcture that does not generate the proper incentives from a national point of view, and in particular does not motivate an open discussion of military expenditure. To the contrary, it helps to hide them from the analysis that should take place if maximizing the social value of defense products were the effective ultimate goal. The long history of distmst between the armed forces and political parties was the leitmotif of the relation between the military and politicians during the period of military mle and was the basis for enacting the Constitutional Organic Law ofthe armed forces in 1990 that forbade future reductions in military expenditure (from domestic currency resources). And it was, at least partly, the reason, too, for the design of a less powerful Congress in the constitution of 1980. An additional factor that contributes to limited budgetary transparency is that Chile's fiscal budget is of an object-of-expenditure type so it is impossible to numerically disentangle what activities will be performed and how much they will cost. Two things would make the allocation mechanism more transparent: (a) to strengthen Congress' ability to oversee all military expenditure operational funds and weapon acquisitions - and (b) to produce an understandable, regular, and timely accounting about the use of taxpayers' funds put forth to finance national defense. These look like easy measures, but they are not. In fact they imply a drastic restructuring of Chile's defense organization and procedures and, more importantly, surmounting a history of mistrust and mutual disqualification. Only in the long-mn can we expect to see new processes and defense institutions in Chile, but with a certain dose of political willingness and


397

determination the authorities in the Ministry of Defense could initiate even now a significant move in the appropriate direction, making public what should have always been public: disaggregated information about defense income, expenditures, and resource stmcture. This is a role for which the Ministry of Defense has no substitute. Notes I thank Roberto Duran, Margaret Daly Hayes, Miguel Navarro, Thomas Scheetz, Paolo Tripodi, and the editors of this book for very helpful comments. Any remaining errors are my own. 1. A multidivisional stmcture (or M-form) is characteristic of firms that decide to organize themselves by product lines, regions, or customer types. In business, it grew up as a response to problems with functional stmcture in large, diversified firms. 2. The Ministry of Defense was created in 1932 subsuming the Secretaries of War, the Navy, and the Air Force. 3. Although police forces are grouped under the Ministry of Defense, their operational coordination lies with the Ministry ofthe Interior. 4. For a complete description of the defense stmcture see Ministry of Defense (1998, part HI, chapter 4). 5. Other functions of this agency are weapon and explosive control, chemical and noxious weapon control, and martial arts control. See Ministry of Defense (1998, part III, chapter 4). 6. For a brief history of that influence, see Donley, 1995. 7. There are two more sources of financing, operational income (referred to by the services as "own resources") and a revolving fund (FORA). Operational income is received for the sale of goods or services to military personnel and their families (e.g., medical services) and to firms (e.g., maritime security). The revolving fund is not included in the budget


law and derives from the sale of goods (e.g., maps) or services (e.g., medical assistance) to the general public. Although the relevance of these funds in total financing differs by service, jointly they do not comprise more than 20 percent of total services' income, with FORA making up the smaller part. 8. This conjecture derives mainly from media discussions about the amount of additional money the Navy and the Air Force are asking for to purchase new equipment as compared to the expected value (in statistical terms) of copper-tax income I projected for the same period. 9. I am grateful to Margaret Daly Hayes for emphasizing this point. 10. The military government lasted from 11 September 1973 to 10 March 1990. The democratically elected government took office on 11 March 1990. 11. The law did not index fiscal contributions in US dollars. Today, the dollar income represents almost 10 percent ofthe armed forces' total fiscal income. 12. In fact, the coalition that was to take office in March 1990 was formed by those that had been in opposition to the military. This was a crucial factor for the military's lack of fiscal confidence in civilian government. 13. Of course, this does not apply if they are trying to get an increase over the CPI variation. 14. In object-of-expenditure budgeting, expenditures are organized according to commodities or resources purchased; in performance budgeting, expenditures are classified by work load or activity; and in program budgeting they are related to public goals (see Mikesell, 1991). Chile once had a program budget from 1959 to 1966 on an experimental basis, and extended it to the entire public sector from 1967 to 1970. However, the results did not convince its opponents and the interest in program budgeting was abandoned (see Petrei, 1997).


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15. In 1955 the multiple exchange-rate system came to an end and with it the flow of dollars to the services. 16. This was a classified law, published in November 1958 (law number 13,156). 17. Because ofthe classified character ofthe law, we have to speculate here using fragmentary public information, trying to identify what could have been, or are, the central characteristics ofthe Copper Law. 18. To cite some ofthe most useful references: Carlos Villar, Gasto Militar: Tema de Reflexion, published in the Memorial del Ejercito, July 1992; an editorial of El Mercurio, 1 November 1993; an article by Vice Admiral Patricio Carvajal in El Mercurio, 2 February 1994; and a recent article by Juan Pablo Lorca, "Economia de Defensa y de Guerra," in Revista de Marina, January-February 2000. 19. In 1963 the Army got 36 percent of total funds, the Navy 26.9 percent, and the Air Force 37.1 percent. In 1964 those percentages were, respectively, 37.3, 28.1, and 34.6. 20. And if the proceeds of the law are less than US$ 90 millions, the Treasury would have to make up the difference. 21. In 1972 and 1973, the then-ruling socialist government did not transfer the funds to the services. 22. This is based on figures obtained from a paper by Col. Carlos Villar, Gasto Militar: Tema de Reflexion, published in the Memorial del Ejercito in July 1992. Obviously, a more adequate comparison should include figures in real terms, but it is extremely difficult to know which is the proper index to translate the purchasing power of a dollar's worth of guns and bullets in the 1960s to today. In any case, that index is not the US wholesale price index (WPI), nor the CPI, and not even a specific index of military equipment prices because what Chile could buy in the sixties was not only a problem of price but that developed countries wanted to sell some of their near obsolete equipment. Because my intention here is


only to give a rough measure ofthe scale-effect ofthe 1973 law, I kept figures in nominal terms so as not to introduce additional distortions. 23. In addition to the obstacles that might be encountered when pursuing national objectives, the Political and Strategic Global Appraisal is a systematic assessment of the country's domestic and international situation. From this assessment stem opportunities for cooperation and conflict. See Ministry of Defense (1998) for a description. 24. Because weapons are purchased on credit, all services incur debt that must be paid with Copper Law proceeds. There is no public information at all about this debt, its level, maturity stmcture, rates charged, and so on. These are entirely in the domain ofthe services and CONSUDENA. 25. This is the case now with the new fighter that the Air Force plans to have for the next decade, and the frigates the Navy plans to build. 26. Law number 7,144 of 1942 created CONSUDENA and its functioning was regulated in March 1958. A complete analysis ofthe structure ofthe whole institutional system of national security in Chile can be found in Guzman, 1986. 27. This is unique in Chilean legislation because by constitutional mandate taxes cannot be raised for specific purposes. 28. In 1 998 the government decided to postpone the acquisition of a new aircraft for the Air Force. The reason given was that because spill-over effects of the Asian financial crisis were contracting the Chilean economy, and thereby public sector resources, the budget could not afford additional expenses. That this argument could be raised at all at the time was because the Air Force did not have enough financing with its own money from the Copper Law and needed additional funding. Had this not been the case, it would have been much more complicated for the President to postpone the purchase ofthe aircraft. 29. Opportunistic as defined in the economics literature on political business cycles (see, for instance, Nordhaus, 1989).


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References Balbontin, Marcelo and Alvaro Chamaca. Sistema de Administracion Financiera del Estado, El Subsistema Presupuestario. Unpublished paper for the Defense Economics course, Master of Political Science, Institute of Political Science, Catholic University of Chile, June 1999. Diaz, Jose. "Administracion de la Defensa: la Experiencia Chilena en el periodo 1932-1973." Fuerzas Armadas y Sociedad Vol. 11, No. 4 (October-December 1996), pp. 6-14. Donley, Michael. "Problems in Defense Organization and Management." Joint Force Quarterly No. 8 (Summer 1995), pp. 86-94. El Mercurio. Various articles and editorials during the 1990s. IMF. World Economic Outlook 1998. Washington, DC: IMF, 1998. IMF. Manual on Fiscal Transparency. Washington, DC: IMF, April, 1999. Guzman, Enrique. "Formulacion Constitucional de la Seguridad Nacional." Unpublished thesis at the National Academy of Political and Strategic Studies (ANEPE), 1986. Lorca, Juan. "Economia de la Defensa y de Guerra." Revista de Marina Year CXV, Vol. 117, No. 854 (January-February 2000), pp. 19-29. Meneses, Emilio, Roberto Duran, and Ricardo Neeb. "Factibilidad de una Agencia de Adquisiciones Militares en el Ministerio de Defensa de Chile." Working Paper, ANEPE, April 2000. Mikesell, John L. Fiscal Administration: Analysis and Applications for the Public Sector. Brooks/Cole Publishing, 3rd edition, 1991. Ministry of Defense. Ministerio de Defensa Nacional de Chile 19942000. Santiago: Ministry of Defense, March 2000. Ministry of Defense. The Book of the National Defense of Chile. Santiago: Ministry of Defense, 1998. Nordhaus, William. "Alternative Approaches to the Political Business Cycle." Brookings Papers on Economic Activity No. 2 (1989). O'Reilly, Kevin. "Chile and Argentina: Asymmetrical Air Force Modernization and the Building of Confidence." Thesis at the United States Naval War College, 1997. Pattillo, Guillermo. Proceedings of the Workshop on Budgeting and Democracy. Lyndon B. Johnson School of Public Affairs, University


of Texas at Austin and Getulio Vargas Foundation, August 19-22, 1998. Petrei, Humberto. Presupuesto y Control, Pautas de Reforma para America Latina. Washington, DC: BID, 1997. Villar, Carlos. "Gasto Militar: Tema de Reflexion." Memorial del Ejercito (July 1992), pp. 102-122.

PART IV: THE PEACE MOVEMENT


17 Arms Sales and Development: The Role of the Peace Movement Tony Kempster

I didn't understand; and I didn't see the blood on my own two hands. Jessica Simpson (1995)

Introduction Peace campaigning is essentially about persuading those in positions of power (the decision-makers) to seek an end to existing conflict through justice and reconciliation, and to remove the reasons for potential future conflict. My remit here is to discuss the role ofthe peace movement in persuading decision-makers to ban (or, at least, severely restrict) arm sales to developing countries. I would like to draw particular attention to the information needs of campaigners. At the outset, it is important to emphasize that, for most people in the peace movement, the sale of arms is a moral issue because it causes human suffering and death. Although economic and political considerations may be important, they are not the main concerns. The tragedy of war According to some criteria, the world is now a safer place than it was in the recent past. The number of ongoing conflicts between states can be counted on one hand. The period of nuclear proliferation appears to be

406 Aiming the South

over, and many "proxy conflicts" that were characteristic ofthe cold war era have also ended. Nevertheless for millions of people around the world, violent conflict remains the most direct threat to their life and liberty, and their ability to remain peacefully in their own homes. Some 30 civil wars and many more lower-intensity conflicts are currently being fought, mostly in developing countries (United Nations High Commission for Refugees, 1997). The spectacle of these conflicts reaches us through the media as pictures of the dead and injured, the burnt houses, and the lines of refugees. But it is in the faces of the innocent victims of conflict, particularly those of individual women and children, that we see the tme horror reflected. A poignant image ofthe early 1990s was Kevin Carter's photograph of a vulture waiting for a baby girl to die in an African refugee camp (which inspired the song by Jessica Simpson from which the opening quote is taken). The United Nations estimates that two million children have been killed in armed conflicts in the past decade (most in developing countries) and three times this number seriously injured or permanently disabled. Millions more have had their lives spoiled forever by the effects of war: hunger, disease, uprooting from home, sexual violence and, for some, the trauma of being made to fight (Machel, 1996). Yet, as John Pilger says in his new book Hidden Agendas, such issues are considered by the international media to be "slow news ... used on days when the authorized sources of information are at rest. Nothing happens then, apart from acts of God and disorder in faraway places" (Pilger, 1998). These issues are not prime news and do not create banner headlines. There is no media outcry like the demand for tighter gun controls which followed the Dunblane school shooting tragedy, although the scale of death is grotesque by comparison. This lack of media interest and the shallow reporting of events often prevent the public from understanding what is really going on. This makes it more difficult for the peace movement to mount campaigns which appeal directly to humanitarian concerns. Instead, we have to rely more on economic and political arguments, appealing wherever possible to enlightened self-interest. In anti-arms trade campaigning, these arguments include the risk that we may be supplying arms to potential

Arms sales and development: the role ofthe peace movement

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future enemies, and the fact that the government provides excessive financial support to arms exporters. Similarly, any attack on government policy which takes humanitarian issues head on is unlikely to be successful unless there are other positive factors in the balance. This is why scholarly conferences on arms trade are so important to us. They can provide new insights into the analysis of arms transfers and valuable information for campaigning. The facility to meet and talk with experts from other countries is especially important because we are tackling a global issue. To understand the views and motivations of decision-makers in other countries, both exporting and importing countries, is vital. Peace campaigning in Britain Despite the campaigning that contributed greatly to the signing of the 1998 Ottawa Convention banning anti-personnel land mines, it is important to recognize that the peace movement is a relatively weak political lobby. This weakness reflects both the nature ofthe movement and the issues that it addresses. The movement is a loose coalition of organizations with different ideologies and agendas. Its roots are both secular, deriving from the socialist antiwar movement established between the two world wars, and religious, through the Quaker movement and the peace organizations within the main Christian churches and those of other faiths. But, whether secular or religious, most peace organizations tend to be marginalized: even the religious peace groups are on the fringes of mainstream church politics. The movement tends also to have a weak image because its aims, particularly those associated with pacifism and unilateral nuclear disarmament, are seen by many as too idealistic in a world where the maintenance of military strength - the big stick of realpolitik - is regarded as essential. Another difficulty, specific to campaigns against the arms trade is that the issues involved are often secret and technically complex. The concern is about weapons (or components of weapons) which may be used many thousands of miles away against people who are rarely able to say what has happened to them. Even if the facts are reported by the media, they


can be readily challenged or distorted by vested interests. The whole business of export marketing, government licencing, and the routes for delivering arms can easily become a tangled web of tmths and half tmths, as the Scott Inquiry into the illegal sale of arms to Iraq so clearly showed (Norton-Taylor, 1995). Moreover, such campaigning is normally prophetic, the force of argument depending on the belief that the weapons now being sold will eventually be used for internal repression or aggression against other countries. Critics can always counter that the weapons are being purchased purely for internal security and defense, the legitimate right of every state. Even if the recipient country has a track record of aggression, critics can argue that the political climate has improved. Indeed, they may say that the sales contract allows the British government to restrict the way in which the weapons are used or even influence the human rights policy ofthe recipient country. Such counter-arguments may well have substance in some circumstances, but they can also be used cynically to justify unethical arms sales. Arms supply to developing countries Ironically, the main arms suppliers are four of the five permanent members ofthe UN Security Council, namely, the US, Russia, Britain, and France. The first three now dominate the global market. This role has been established over many years by their national defense and arms manufacturing policies. With the decline in arms demand in the industrialized countries following the end ofthe cold war, arms manufacturers have had to rely more on sales to the developing world and on the opening up of new markets in the emerging economies. Some 80 percent ofthe international trade in conventional arms now goes to such countries compared with just 50 percent in 1990. The regions with increasing arms procurement are the Middle East, South Asia, and East Asia. Notable for the size of their purchases are Saudi Arabia, Turkey, Indonesia, Burma, Pakistan, India, Egypt, Nigeria, Angola, Iran, and Sudan. Sub-Saharan Africa spends an exceptionally high proportion of its GDP on arms (Stockholm International Peace Research Institute, 1997).

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The ending ofthe cold war has not brought the expected reduction in world conflict: what had begun largely as an East-West ideological stmggle continues under different guises, now often related to ethnic interests and resurgent nationalism. Many countries in the developing world are currently expanding their military capability as fresh divisions and tensions emerge. A more detailed discussion on the arms trade and development has been published by CAAT (Campaign Against Arms Trade, 1997). The extent to which the supply of arms from industrialized countries has fueled these conflicts remains a matter of debate. But, it is clear that major arms procurement is an important cause of tension and instability in developing countries through its impact on their economies and political systems. In the first place, many developing countries suffer from a chronic lack of investment in social development programs which is crowded out further by military expenditure. Moreover, social investment programs are often the first to be cut during financial crises whereas military expenditure tends to be the last as has happened in recent years in Egypt, Iraq, and several South Asian countries. Second, high levels of arms expenditure can push the political process into a preoccupation with military matters. Powerful armed forces seldom go hand-in-hand with democracy in developing countries and often lead to dictatorship. This is because military organizations tend to be ineffective without authoritarian command stmctures, and military regimes when threatened are prone to exhibit intolerance of minorities for security reasons. It is, therefore, extremely difficult for tmly democratic political systems to flower in militarized societies (see Dumas, chapter 1 in this volume). Such purchases also contribute to the debts which have become a major problem for many developing countries. SIPRI estimates that some 20 percent of the developing world's debt can be attributed to arms procurement (Stockholm International Peace Research Institute, 1997). It also considers that much of this can be attributed to the ready availability of loans for arms purchases in the late 1970s and throughout the 1980s. In some countries, the Philippines for example, debt servicing and military expenditure together accounted for most government


spending, leaving virtually nothing for development obj ectives. Many are indebted as a result of so-called soft loans, especially to the ex-USSR states, which are now calling in these debts to fund their own domestic development programs. But above all, the instability created can easily become a vicious spiral of increasing civil unrest and ever greater military spending to contain it, which has blighted many developing countries and led to gross human rights abuses. As the situation worsens, civil war may follow with the possibility of a spillover into neighboring countries and the outbreak of international conflict. Making the campaign case So it is often the struggling, debt-burdened countries that Britain and the other arms exporting countries are targeting for sales, with potentially devastating effects on their social stmctures and the lives of ordinary people. The issue for organizations like Campaign Against the Arms Trade (CAAT) is how we obtain the relevant facts and assemble them into a convincing case for campaigning. Where should we focus our arguments and how far can they be generalized across different countries? It is relevant to ask how important the direct effects of military conflict on human suffering are when compared with the indirect effects of disease and malnutrition, caused by the lack of social investment due to excessive arms spending. We maybe in danger of focusing too sharply on military conflict per se, when it is the impact of the arms trade on social spending which is more important. Clearly, we need, as far as possible, to consider the impact of arms sales as part of a holistic view of the various factors influencing development and international security a point made forcibly by representatives of NGOs giving evidence to the Strategic Defence Review currently being carried out by the British Government (Committee Office ofthe House of Commons, 1998). Although the situation is obviously complex, differing from one developing country to another, ideally we need an assertion which can be used generically. This would be equivalent, for example, to the statements made by Oxfam on the immorality of forcing children to be soldiers or statements made by Amnesty International on the violation of


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human rights. Having listened to various talks at scholarly military expenditure and arms trade conferences, it seems reasonable to assert that military spending in developing countries has a negative effect on social spending programs and increases human suffering. This requires just two qualifications. First, we are considering military spending beyond what might be regarded as adequate for defense and the maintenance of law and order. Second, we are considering countries where the military force cannot be used to gain resources. In the past, development has often been aided by military force - war (or at least the threat of war) has been the foundation of empires. But in today's world, only a few powerful countries can use force with impunity to achieve their economic objectives. For most developing countries, certainly those with little international weight, the use of military force in this way is not an option because of world reaction. If they act against the interests ofthe West, particularly of the US, retaliation is likely to be brutal, as it has been against Iraq following the invasion of Kuwait. Having established a generic position, one would then go on to consider country-by-country situations. This requires a careful analysis of the situation of individual countries and, wherever possible, information that is 1

accurate and up to date. In this context, I was concerned to hear Professor Scheetz's reservations about the accuracy of some published statistics on military spending for certain countries (Scheetz, chapters 3 and 15 in this volume);

2

damaging to the image of the arms exporting companies or the government departments that support them. CAAT is a campaigning organization, and we obviously need hard-hitting material, just as a journalist requires original and incisive material to write a good story;

3

supported by the underlying facts and, where appropriate, sound argument. This would include historical trends, the reasons for any policy changes, the legal background to the anus transfers, and so on.


At present, information is lacking in a number of important areas, and I would call on researchers and academics who sympathize with the cause to assist wherever they can. Information needs include the export strategies adopted by individual arms companies, in particular how they target specific countries and the tactics they use to gain competitive advantage there. Detailed information on sales policy is important in that it may allow us to demonstrate that companies have acted unethically or have encouraged arms purchases well beyond those needed for defense (actions that seem inevitable in some circumstances, when profit is the bottom line and ethical concerns are a nuisance factor in marketing strategies). As Charles Masefield, Head ofthe Defence Export Services Organisation (DESO) at the British Ministry of Defence so clearly puts it: "The objective is to sell ... we must become more pro-active and instead of reacting to market situations ... we must work upstream to influence market movements in our direction" (Masefield, 1995). Knowledge about the evolving structure of the international arms manufacturing industry, in terms of mergers and take-overs, and prediction of likely future developments are also important because these allow us to plan campaigns more effectively particularly those involving collaboration with activists in other countries. We are also interested in the dynamics of arms purchases. What encourages a certain country to buy, especially when the purchase is beyond its needs for defense? This is important because it may be important for us to campaign for policies that reduce demand, as well as for those that restrict supply. As Dr. Neil Cooper concludes in his excellent overview of current arms diffusion and internal conflict: "The problem is most likely to be addressed by a combination of economic strategies designed either to reduce the recipient's ability to pay or to raise the cost of arms, and by lateral strategies that address the problem indirectly via the development of an internal security community" (Cooper," 1998).1 The availability of such information is also likely to create more opportunities for campaign alliances with other NGOs involved for example with human rights, Third World development, and related issues. We might also be able to develop and promote international codes of conduct for arms transfers which effectively cover all the loopholes


413

that might be used by unscmpulous governments or companies to avoid the restrictions. Important points include end-user controls and methods of controlling brokerage and licenced production in other countries (Crowley, 1998). Indeed, these coalitions might go beyond other NGOs and include political parties and government departments concerned with development. For example, we have much common ground with the British policy on international development. In her recent white paper, Clare Short, the Secretary of State responsible for Britain's international development policy, has stated that the objective is to halve the proportion ofthe world's population living in extreme poverty by 2015 (Secretary of State for International Development, 1997). The target would be more realistic if the Government not only increased overseas development aid but also acted to limit the detrimental impact of arms sales on Third World development. It is, therefore, essential to point out that arms sales encouraged by the British government contradict the efforts ofthe Overseas Development Agency to alleviate world poverty. This brings me to consider, as a final issue, the political and economic background against which we campaign in Britain. This background informs the way CAATs campaigns are designed and carried out. The campaigning environment The key factors are as follows. 1

The hypocrisy ofthe new Labor Government's foreign policy. The Foreign Secretary has stated that "Labour will not permit the sale of arms to regimes that might use them for internal repression or international aggression" (British Foreign Office, 1997). But the Government has already reneged over arms sales to Indonesia that were in the pipeline at the time of taking office. It will be increasingly open to criticism if sales to repressive regimes continue in future.

2

The need to increase social expenditure in Britain. This is reflected in the growing tension between the desperate need for the government to find money for its social expenditure program and the massive


expenditure on the Eurofighter and Trident programs. 3

The restructuring taking place in Europe's defense and aerospace industry (and the globalization ofthe arms industry in general). This will move the policy decisions of British companies into an international arena where the British Government will have less direct influence.

4

The extension of NATO to Eastern European countries and the alienation of Russia. There is a weight of opinion that favors the offering of economic links to these countries, with longer-term entry to the EU, rather than the creation of a new market for arms (and potentially a new cold war). Although not directly related to the subject of this chapter, it is relevant to include it for completeness because the new NATO countries represent a major arms market.

5

The effect of increasing competition in the international arms market. This reflects the declining global market for arms and the competition from the vast US defense industry. Effective British (or even European) competition is likely to demand even higher subsidies and other kinds of Government support.

6

Growing public awareness of the possibility of terrorism in Britain by people fighting for the interests of developing countries or retaliating for grievances suffered. The spread of sophisticated weapons to developing countries increases the danger.

7

Growing public awareness ofthe link between the armed conflict and environmental degradation. This is particularly important in the context of developing countries.

8

Globalization and the effect of the policies of multinational companies on developing countries, particularly debt and the use of military force to achieve commercial objectives. Underneath the surface of this point are several deeper issues associated with modernity, whether development (in the sense of colonization) is

Arms sales and development: the role ofthe peace movement

415

progress, and the psychological attitude ofthe West to Third World countries. Conclusion We should remember that the peace movement does not campaign alone but in brotherhood (sisterhood) with the people in developing countries. The two flames of anger and hope which historically brought social justice and democracy to the Western world are at work today in developing countries. People in these countries are striving to escape poverty, dependency, and insecurity. We are morally obliged to assist them by removing the burden of amis purchases that our society places on them. References British Foreign Office. Press statement. 27 July 1997. Campaign Against Anns Trade. The Arms Trade and Development. London: CAAT, 1997. Cooper, N. "Arms Diffusion and Internal Conflict." Paper presented at arms trade conference, Middlesex University Business School, 1998. Committee Office of the House of Commons. Evidence given by the Department of Peace Studies, Bradford University and Saferworld and Oxfam to the Defence Committee on 25th March 1998. Crowley, M. "Curbing the EU Anns Traffic." Amnesty (1998), pp. 4-5. Dumas, J. "The Role of Demilitarization in Promoting Democracy and Prosperity in Africa," chapter 1 in Jurgen Brauer and J. Paul Dunne (eds.). Arming the South: The Economics of Military Expenditure, Arms Production, and Arms Trade in Developing Countries. London: Palgrave, 2002. Machel, G. Children and War. Geneva: United Nations, 1996. Masefield, C. "Defence Exports: The Challenge Ahead." RU SI Journal (August 1995), pp. 15-19. Norton-Taylor, R. Truth is a Difficult Concept: Inside the Scott Enquiry. London: Guardian Books, 1995. Pilger, J. Hidden Agendas. London: Vintage, 1998.

416 A rm ing the Sou th

Secretary of State for International Development. Eliminating World Poverty: A Challenge for the 21s' Century. Government White Paper. Cm 3789, 1997. Simpson, J. R. Quote from the song "Kevin Carter." Jessica Ruby Simpson © 1995 Hagweed Music. On Red House Records 1996 (RHR CD 96). Scheetz, T. "Military Expenditure and Development in South America," chapter 3, and "The Military-Civilian Tradeoff in Guatemala: An Econometric Analysis" (with Kanta Marway and Lawrence R. Klein), chapter 15 in Jurgen Brauer and J. Paul Dunne (eds.). Arming the South: The Economics of Military Expenditure, Arms Production, and Arms Trade in Developing Countries. London: Palgrave, 2002. Stockholm International Peace Research Institute. SIPRI Yearbook 1997. Oxford: Oxford University Press, 1997. United Nations High Commissioner for Refugees. The State of the World's Refugees: A Humanitarian Agenda. Oxford: Oxford University Press, 1997. Note I would like to thank Martin Broek for his helpful comments on the text. 1. [Editors' note: Dr. Cooper chose to submit a different paper for the present volume (see chapter 2). The paper referenced here may be requested directly from the author at [email protected].]

Index

ACDA, 102, 104, 132, 133, 161 Adeola, O.F., 276, 282 Afghanistan, 40 Africa demilitarization, 19 demobilization, 24 elections, 22 militarization, 16 poverty, 16 violence, 16 weapons, 16 aid agencies, 46 Al-Ghrair, A., 203 Alexander, R., 299 Alogoskoufis, G., 295 Anderton, Charles, 111 Angola, 6, 7, 46 amis imports, 255 civil war, 8 defense industrial base, 255 demobilization, 25 dual-use activities, 255 import substitution industrialization, 254 industrial performance, 7 manufacturing industry, 7, 251 anti-personnel land mines, 407 Antonakis, N., 296, 300, 302 Arbenz, Jacobo, 339

Argentina, 94 military expenditure, 52 armed forces, 132 civilian control, 56 funding, in Chile, 379 operational capacity, lack of, 57 role of, in Chile, 376 Armington, P., 303 arms imports Angola, 255 elasticity of, 130 Guatemala, 339 arms industry in developing nations, 101 arms production, 4, 99 "graduation" to higher capabilities, 118 alternative to arms imports, 5, 129 and arms control, 119 and foreign-exchange earnings, 112 and small arms, 120 arms exports, 5 as industrial policy, 108 defense procurement, 5 economic motives, 4, 107 Greece, 104 model, 6, 129 non-economic motives, 4, 106 Singapore, 104

418 Arming the South South Africa, 222 stages of, 105 subsistence quantity, 135 substitution among inputs, 133 the distress argument, 115 transnationalization of, 118 weapons platforms versus weapons, 105 arms race Asia. 78 balance of power, 80 arms trade, 99 and arms production, 161 and mercenary companies, 43 and post-modern peace, 36 and the role of the peace movement, 405 Asia, 72 defense policy, 408 depreciation of Asian currencies, 74 embargoes, 106 Latin America, 57 model, 5, 162 replacement of obsolete equipment, 81 secret, 407 ASEAN, 78, 80 long history of non-conflict, 75 ASEAN Regional Forum (ARF), 77 Asia arms race?, 78 arms trade, 72 military expenditure, 71 Athanassiou, Emmanuel, 8, 291, 303 Avramides, C , 294 Ayoob, M , 84, 87 Ayres, Ron, 109 Azar, E., 89, 90 Balbontin, Marcelo, 381 Balfousias, A., 296 Ball, Nicole, 16,26, 107, 110, 115, 120 Barnes, Sam, 242 Barros, Carlos Pestana, 264

Batchelor, Peter, 107, 109, 113, 115, 222, 226, 228, 230 Benoit, Emile, 51, 85, 224, 252, 277, 343 Berdal, Mats, 44, 45, 242 Berthelemy, Jean-Claude, 236 Birdi, Alvin, 6, 221, 225 Biswas, Basudeb, 226, 280, 296 Bitencourt, Luis, 119, 120 Bitzinger, Richard, 111 Bosnia, 46 Bradbury, Malcolm, 36 Brauer, Jurgen, 4, 48, 86, 101, 107, 110, 112, 114, 120, 121, 236, 255, 295 Brazil, 106 arms industry in, 101 Briick, Tilman, 7, 235, 242-246 Brunei, 75 Brzoska, Michael, 102, 104, 106, 110, 113, 119,282 Burnham, Peter, 239 Buzan, Barry, 89 Campaign Against the Arms Trade, 10, 410 Chamaca, Alvaro, 381 Chan, Steve, 88, 277, 279, 281 Chatterji, Manas, 236 Chechnya, 37 Chile, 6, 94, 373 allocation of resources to the armed forces, 9 military expenditure, 52 structure ofthe Ministry of Defense, 376 transparency of budget allocation, 9 China, 71,75, 79, 86, 106 Chletsos, M., 296 Chung, J.W., 134, 150 civil war and economic policies, 266 and manufacturing performance, 252 civilian control over armed forces, 56

Index Clapham, Christopher, 45 Coker, Christopher, 35 Collier, Paul, 238 Colombia, 44 Conetta, C , 80, 82,91 conflict changing nature of, 3 possible versus probable, 91 Congo, 44 Constas, D., 293 conversion, 24 and demobilization, 25 Latm America, 57 Cooper, Neil, 3 , 3 5 , 4 1 2 Cooper, Robert, 36 Copper Law, 380 Cortright, David, 120 cost of peace budget allocation process, 243 forward-looking conditionality, 245 institution building, 246 policy bias, 246 Costa Rica, 18,92 elimination of armed forces, 18 countertrade offsets, relation to, 198 presumed benefits, 2 country risk analysis Latin America, 57 country studies, 193 Crowley, M., 413 Czechoslovakia, 102 Davis, David R., 279, 281 de Waal, Alex, 46 defense policy and institutional rationality, 61 arms trade, 408 cost effective, 92 forward offensive defense, 80 incorrectly formulated, 60 institutional structure, in Chile, 376 non-provocative defense, 64 optimal military doctrine, 285

419

political rent-seeking, 61 defense procurement arms exports, 5 defense-growth relationship empirical studies, in Turkey, 321 Deger, Saadet, 53, 85, 112, 121, 278, 284,319 demilitarization, 3 demobilization, 24 Guatemala, 362 prerequisite to democratization, 30 unilateral, 92 vital to development, 30 demobilization a form of conversion, 25 and discharge, 27 and long-term reintegration, 27 and re-orientation, 27 Angola, 25 assembly and encampment, 26 economic incentives, 95 Eritrea, 25 Ethiopia, 24 Liberia, 25 Mozambique, 25, 243 Namibia, 25 recruitment for mercenaries, 45 Sierra Leone, 25 Somalia, 25 Uganda, 25 democracy and civil society, 21 Guatemala, 339 incompatible with militarization, 19 Latin America, 56 long-run value to development, 22 source of security, 28 Denoon, D., 71 Dervis, J., 303 development and democracy, 22 economic investment, 17 more than growth, 16

420 Arming the South source of security, 28 diaspora funding of arms, 45 Diaz, Jose, 377 Dibb, Paul, 76 disarmament a type of investment, 88 Doornik J.A., 323 dual-use technologies, 338 Angola, 255 used by post-modern armies, 37 Duffield, Mark, 41,42 Dumas, Lloyd J., 3, 15, 16, 29, 409 Dunne, J Paul, 6, 85, 87, 221, 223. 224, 226, 228, 230, 276, 279, 291, 294,296,319,320 Duran, Roberto, 386 East Timor, 76 Economists Allied for Arms Reductions, 10 ECOWAS, 29 Egypt, 106 elections strategy for maintaining power, 22 Ellis, Stephen, 40 Erhard, Ludwig, 7, 235, 237-239, 245 Eritrea, 24 demobilization, 25 Esquipiilas peace accords, 339 Ethiopia, 24 demobilization, 25 ethnic violence, 15 built on population displacement, not popular support, 41 economic rationale of, 42 political economy of, 35 European Union, 29 Feder, Gershon, 279, 296, 298 Feder-Ram model, 225 Felice, W., 83, 89, 91 Ferreira, Manuel Ennes, 7, 251, 254, 264, 265 Findlay, T., 81

Finnegan, William, 240 Fontanel, Jacques, 107, 112, 117, 130, 291 Franko-Jones, Patrice, 106, 109, 111, 113, 114 Frederiksen, Peter, 277, 282 Frelimo, 44 Galtung, Johan, 90 Garcia-Alonso, Maria del Carmen, 5, 161 Garfinkel, Michelle, 130 Garrett, John, 120 Geffray, Christian, 240 Georgiou, G., 294 Germany, 7 post-war reconstruction, 235 war debt, 7 Gissy, William, 121 Gleditsch, Nils Petter, 224, 236, 291 Glenny, M.,293 Glitman, Maynard, 43 Gold, David, 118 Gray, Chris Hables, 40 Greece, 6, 291 arms production, 104 economic effects of military expenditure, 295 economic growth, 8 economy, 295 high military expenditure, 291 military expenditure, 8 opportunity cost of defense, 8 security concerns, 293 Guatemala, 6, 337 data, 340 guerrilla war, 338 military expenditure, 52 military-civilian tradeoffs, 9 guerrilla war Guatemala, 338 Gimluk-$enesen, Giilay, 106, 109-111 Gunning, Jan Willem, 238 Gupta, S., 75

Index Gurel, S., 293 Harris, Geoff, 4, 71,86, 92 Harrod-Domar model, 343 Hartley, Keith, 109, 236, 255, 280, 319 Hartung, William, 108, 118 Haruna, I.B.M., 281,282 Hendry, D.F., 323 Hewitt, Daniel, 281 Hong Kong, 71 Hooper, N., 203 Huang, C , 299 Human Poverty Index, 86 humanitarian concerns combined with self-interest, 406 Humm, Anthony, 107, 112, 117, 130 Hutus, 46 ICRC, 46 ideology decline as legitimizing force for conflict, 40 import substitution industrialization Angola, 254 India, 7 1 , 7 5 , 8 6 arms industry in, 101 Indonesia, 74, 76 International Court of Justice, 93 International Institute for Strategic Studies, 142,281 International Monetary Fund, 246, 262, 267 Intriligator, Michael, 88, 130 Islamic fundamentalism, 40 Israel, 4 arms industry in, 101 Japan, 71,74, 75 weak regional role, 76 Johansen, R., 83 Johansen, S., 323 Jones, D., 294 Joon, N.M., 79-81 Jouganatos, G., 295 Judah, Tim, 45 Juselius, K., 323

All

Kaldor, Mary, 41,46, 89,278 Kapopoulos, P., 294 Keen, David, 40, 44, 242 Kempster, Tony, 10, 405 Keynes, John Maynard, 238 Khmer Rouge, 40 Kingma, Kees, 25, 27 Klein, Lawrence R., 9, 52, 53, 236, 337 Knight, C , 80, 82, 91 Kollias, Christos, 8, 291, 293, 294, 296 Kornai, Janos, 253, 260, 261 Kosovo, 45 Kosovo Albanians, 45 Krause, Keith, 104, 105, 107, 113, 114, 120 Krueger, Anne, 261 Kurop, M.C., 293 Lamb, Geoffrey, 236 Laos, 71 Larrabee, S.F., 293 Latin America, 51, 58 and arms trade, 57 conversion of military industry, 57 country risk analysis, 57 defense policy, 60 democracy, 56 military expenditure, 51 military reform, 62 military's mission, relation to, 58 Lazaretou, S., 294 Levine, Paul, 5, 130, 145, 161, 162 Lewis, Neryl, 243 Liberia, 40, 42, 45 Lim, David, 282 logo warriors quasi-uniform of paramilitaries, 46 Looney, Robert, 277, 282 Luckham, Robin, 37 Luttwak, Edward, 36 Machel, G., 406 Majeski, S , 294 Makrydakis, S., 294, 296 Malaysia, 74, 80

422 Arming the South manufacturing industry and civil war, 252 Angola, 251 South Africa, 230 Martin, B., 94 Marwah, Kanta, 9, 52, 53, 337 Masefield, C , 412 Matthews, Ron, 6, 195, 201, 203-205, 210,213 Mazula, Brazao, 243 McMillan, S., 225, 227 Melko, Matthew, 77 Meneses, Emilio, 386 mercenaries, 36, 39 and virtual states, 43 corporate partners of local elites, 43 Croatia, 43 economic incentives, 45 mercenary companies, 42 recruitment from demobilization, 45 Sierra Leone, 43 Mexico, 40 Mikesell, John, 384 militarization, 409 and civil society, 20 and civil war, 410 and economic growth, in Guatemala, 337 authoritarian structure, 21 culture of obedience, 21 Greece, 293 human rights, 91 impediment to democracy, 19 impediment to development, 16 incompatible with democracy, 19 Nazi Germany, 236 search for significant missions, 56 war debt, in Nazi Germany, 236 military expenditure supply-constrained, 278 absorptive capacity, 277 and disequilibrium, 60 and displacement of social

expenditures, 52, 86, 409 and economic growth, in Turkey, 323 and peace dividend, 85 and post-modern peace, 38 and steady-state growth, 59 Argentina, 52 as a public good, 59 Asia, 4, 71 augmented Feder-type model, 292 Bolivia, 54 budget allocation process, 83, 243 Chile, 52 computable general equilibrium model, 292 data, 53, 101 determinants, in Asia, 72, 81, 87 development, 4, 16, 71 development, in Asia, 85 economic growth, in Asia, 85 economic growth, in Greece, 296 economic impact, 2, 51 effects, empirical question, 224 effects, theoretical, 223 externality effects, 276 factor productivity differential, 278 field work, 101 genuine cuts, 1 Greece, 8 growth-supporting role, 60 Guatemala, 52 impact on income distribution, 237 impact on manufacturing sector, 228 institutional models, 223, 276 interviews with decision-makers, 84 Keynesian models, 223, 276 Latin America, 4, 51 Marxist models, 223 military's mission, relation to, 51 neoclassical models, 223, 276 non-optimal managerial processes, 376 noncontributive activity, 16

Index opportunity cost, 17 opportunity cost of defense, 72 opportunity cost of defense, in Greece, 302 overviews, 13 Paraguay, 52 Peru, 52 production function models, 280 simulated reductions, in Greece, 305 South Africa, 6, 221 strategic posture, 63 sub-Saharan Africa, 8, 275 substitution effect, 276 transition to civilian rule, 55 transparency of, 373 military Keynesianism, 337 military reform Latin America, 58, 62 military spending case study, 221 data, 221 econometric analyses, review of, 222 economic growth, 221 military training social and psychological conditioning, 19 Milward, Alan, 239 Mintz, Alex, 299, 300 Modise, Joe, 107 Mohammed, Nadir, 85, 236, 243, 280 Moller, Bjorn, 77, 78, 80, 81 Mongolia, 86 Moon, C-I, 90 Mouzakis, Fotis, 5, 129, 131, 139, 145 Mozambique, 6, 7, 44 demobilization, 25, 243 post-war reconstruction, 235, 242 war debt, 7, 243 Munslow, Barry, 265 Murdoch, J.C, 302 Myanmar, 75, 79, 86 Myint, Hla, 261

423

Nabe, Oumar, 16 Namibia demobilization, 25 Natsios, Andrew, 46 Neeb, Ricardo, 386 Nepal, 71 Neuman, Stephanie, 117 Nikolaidou, Efi, 8, 225, 291, 296 Nolan, Janne, 109, 111 Nordhaus, William, 394 North Korea, 75 North, Douglass, 240 Norton-Taylor, R., 408 O'Reilly, Kevin, 388 Obasanjo, Olusegun, 22 OECD, 16 offset trades, 195 presumed benefits, 2 Saudi Arabia, 6 offsets and development, 197 as mode of technology transfers, 197 cost of establishing offset companies, 200 countertrading, relation to, 198 creation of skilled workforce, 213 development impact, 207 growing importance of, 195 offset credits, 211 policy implications, 212 purpose, 195 straddle the civil-military divide, 196 technological absorptive capacity, 215 the Philippines, 197 typology, 198 Olaniyi, Oyinlola, 8, 275, 278, 282 Ottawa Convention, 407 Ozsoy, Onur, 320 Pakistan, 75, 86 Paraguay military expenditure, 52 Pattillo, Guillermo, 9, 373, 374

424 Arming the South Payne, James E., 16 peace campaigning, 407 campaign alliances, 412 campaigning environment, 413 information needs, 412 peace groups marginalized, 407 peace movement the role of, 10 information needs of, 405 Pearson, Frederic, 106, 107, 109, 118, 119 Peru military expenditure, 52 Pesaran, B., 229 Pesaran, M., 229 Peters, Ralph, 41 Pilger, J.,406 Portugal, 4 post-modern armies use of dual-use technologies, 37 post-modern conflict, 35 acquisition of booty, not territory, 41 military-business complex, 277 post-modern peace, 35 and arms trade, 36 the thesis, 35 post-modern states privatization of state functions, 38 post-modern weapons, 35 from militarism to armament culture, 37 post-war reconstruction Germany, 235 Mozambique, 235 role of war finance in, 236 Prendergast, John, 24 preventive diplomacy, 94 Ram, Rati, 226, 279, 280, 291, 296, 298, 299,319 Rana, Swadesh, 102, 104, 121 Rathmell, Andrew, 37 Refenes, A., 296

Renamo, 44 Reno, William, 39 resource allocation Chile, 373 South America, 373 transparency, 373 Richardson, Lewis, 130 Rothschild, Kurt, 281 Roux, Andre, 120, 121,225 Russett, Bruce, 28 Rustomjee, Z., 222 Rwanda, 45 ethnic genocide, 15 Saal, David, 225, 226, 228, 230 Sahu, Anandi P., 16 Samudavanija, C.A., 84 Sandier, Todd, 109, 255, 280, 319 Santos, J. Eduardo, 254 Sams, A.H., 303 Saudi Arabia, 6,40, 195 defense offsets, 6 offset programs, chronology, 203 Scheetz, Thomas, 4, 9, 51-53, 337, 341, 411 Schmolders, Giinter, 236, 238, 240 security alternative, 89 and conflict management, 94 and conflict resolution, 93 and peace theory, 89 and social defense, 94 arbitrate and adjudicate, 93 changing nature of, 72 changing type and source of threats, 90 democracy, source of, 28 development, source of, 29 forums, 93 nature of armed conflict has changed, 89 non-aggression treaties, 92 non-military options, 92 privatized, 43

Index Sen, Amartya, 121 Sen, Somnath, 121, 162, 284, 319 Sezgin, Selami, 9, 319, 320, 327-329 Sharp, G., 94 Shearer, David, 44 Sierra Leone, 45 demobilization, 25 Simon, S.W., 77-80 Singapore, 4, 71, 74, 75, 79, 80, 86 arms production, 104 SIPRI, 72, 74, 75, 79, 81, 101, 133, 142, 144,408,409 Sivard, Ruth, 275 Skons, Elizabeth, 118 small countries incapable of defending themselves militarily, 63 Smith, Ron, 107, 112, 117, 130, 145, 162,294 Soesastro, H., 71 Sogge, David, 259 Sollenberg, M., 89 Somalia, 37, 46 demobilization, 25 South Africa, 6, 102, 106, 221 arms production, 222 manufacturing industry, 230 military expenditure, 6 nuclear weapons program, abolished, 222 South Korea, 4, 71,74, 75, 81 arms industry in, 101 Spain, 4 Sri Lanka, 75, 79, 86 Stavrinos, V., 294, 296 Stevenson, R., 300 Stewart, Frances, 237 strategic environment, 1 strong states relation to weak states, 39 structural violence, 89 sub-Saharan Africa, 6 human capital, 283

425

Summy, R., 94 superpower confrontation effect on Balkans, 293 removal of, 1 world conflict, no end to, 409 switch-trade, 198 Synge, Richard, 242 Taiwan, 4, 71, 74, 75, 106 arms industry in, 101 Tamil Tigers, 45 Tan, A., 80 technology transfer, 200 and offsets, 197 Terhal, Piet, 112 Thailand, 74 the Philippines, 74, 81 offsets, 197 Thisen, Jean, 243 transparency and arms imports, 376 IMF guidelines, 374 is more than information, 375 of budget allocation process, 374 Turkey, 6, 106,319 defense-growth relation, 9 Uganda demobilization, 25 UNDP, 2, 73, 86, 89-91 UNITA, 40, 42, 44, 46 United Nations High Commission for Refugees, 406 Ury, W., 93 van Creveld, Martin, 41 Vayrynen, Raimo, 113 Vietnam, 79 Villalon, Leonardo, 15, 22 Villanon, A., 197 Villar, Carlos, 388 Vines, Alex, 42, 46, 240, 243 virtual states and mercenary companies, 43 and weak state elites, 39 in the developing world, 38

426 Arming the South m the West, 38 Vougas, Dirmtrios, 225 Wang, S., 79 war debt Mozambique, 243 time inconsistency problem, 237 transparency of, 238 war finance Germany, 235 Ward, Michael, 279, 281, 299, 300 warlords acquisition of booty, not territory, 41 weak state elites and civil companies, 44 and mercenary companies, 43 weak states, 339 interests of rulers, 39 relation to strong states, 39 relation to virtual states, 39

weapons acquisition status symbols, 80 Weisburd, A., 77 Weissman, Fabrice, 42 West, R., 81 Willet, Susan, 16 Williams, R., 201 World Bank, 104, 246, 258, 281 Wulf, Herbert, 107, 118,282 Yildirim, Julide, 9, 319, 327 Zaire, 38, 46 Zapatistas first post-modern revolutionaries, 40 Zografakis, S., 303 Zografakis, Stavros, 8, 291 Zunes, Stephen, 94

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