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Chapter 18 Economics of arms trade
Chapter 18
ECONOMICS OF ARMS TRADE* CHARLES H. ANDERTON College of the Holy Cross
Contents Abstract Keywords 1. Introduction 2. The structure of the international arms market 2.1. Arms imports 2.2. Arms exports 2.3. Structural change: end of the Cold War
3. Causes of arms trade 3.1. Economic causes 3.1.1. Supply and demand model 3.1.2. Neoclassical trade model 3.1.3. Trade models with economies of scale and learning economies 3.1.4. Imperfect competition and trade 3.2. Domestic political economy 3.2.1. Defense industrial base 3.2.2. Employment 3.3. Economic and political synthesis
524 524 525 527 527
529 531
534 535 535 536 539 541 543 543 544 546
4.1. Theoretical models of arms trade and conflict
547 548
4.2. Empirical studies
550
4.3. Case studies
553
4. Arms trade and conflict
5. Arms trade and foreign policy influence
554
5.1. Sislin's theory of arms influence success 5.2. Determinants of arms influence success 5.3. Recipient influence
555
6. Concluding comments References
556 558
558 559
* I am grateful to Todd Sandler for comments and encouragement on earlier drafts of this chapter, Roxane Anderton and Joseph Smaldone for extensive bibliographic help, and Daniel Gallik for valuable assistance with the arms trade data. Handbook of Defense Economics, Volume 1, Edited by K. Hartley and T Sandler © 1995 Elsevier Science B. V All rights reserved
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Abstract The end of the Cold War has increased the relative importance of economic causes and consequences of arms transfers. Unfortunately, there is surprisingly little theoretical and empirical development of the economics of arms trade, making it a sub-field of defense economics ripe for foundational contributions. We offer some preliminary steps in this direction by applying simple international trade models to the arms trade. Fields other than economics have made major contributions to our understanding of arms transfers. We review the sub-literature on arms transfers and foreign policy leverage as well as the sub-literature on the relationship between arms trade and war. The central problem of the arms trade literature, for both economists and geopolitical scientists, is how to go beyond the proliferation of (albeit useful) policy position articles, to a more solid base of theoretical and empirical models. A new theoretical synthesis of economics and geopolitics would represent a major breakthrough, but the development of the economics of arms trade must move beyond its incipient stages for this synthesis to occur. Ultimately, it would be desirable to see theoretical and empirical work on the arms trade, narrow the range of outcomes which are regarded as plausible.
Keywords alliances, arms export restraint, arms trade, arms transfers, COCOM, conflict, Cold War, co-production, defense industrial base, defense industry, economic causes, economies of scale, employment, foreign policy influence, geopolitics, imperfect competition, information systems, intra-industry trade, learning economies, preemption, trade theory
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1. Introduction Weapons have been traded across national and territorial borders throughout human history. In the last one hundred years, the arms trade passed through six major phases, the historical attributes of which are summarized by Gerner (1983, p. 7) in Table 1 below. To the six phases identified by Gerner, we must now add a seventh: the postCold War arms trade. The end of the Cold War ushered in a dramatic structural change to the international arms market. For the first time in half a century, arms transfers are no longer viewed through the prism of superpower politics; economics now plays a central role in understanding the motivations and consequences of arms transfers. Of course, politics still matters in understanding the weapons trade; not only the politics of defense firms lobbying government officials to promote weapons exports (which can be viewed as "economic" under the rubric of public choice), but the geopolitics of transfers, i.e., nations using weapons sales as instruments of foreign policy in the international system. The usual starting point in the literature is that the arms trade is a geopolitical phenomenon, subject to domestic political variables, occurring interdependently with other segments of the international system [Pierre (1982), Catrina (1988), Harkavy (1975)]. One of the weaknesses of the geopolitical arms trade paradigm was that until the 1970s, it was essentially non-explanatory. The literature was dominated by three types of studies: descriptive compilations of data, case studies, and journalistic accounts, often condemnatory [Gerner (1983, p. 18)]. While many of the studies provided useful information about arms transfers in specific cases, in general, there was little systematic development of a theoretical structure and therefore little cumulative effort. There were some important exceptions to the atheoretical, non-cumulative approach. Some works in the 1970s were conducive to a cumulative effort: e.g., Leiss (1970), Leiss et al. (1970), SIPRI (1971), Stanley and Pearton (1972), and Harkavy (1975). Although Harkavy (1994, p. 12) sees his theoretical approach falling into disuse, his international systems approach is considered by some to be a methodological landmark in arms trade research [see, e.g., Laurance (1992, p. 12); Gerner (1983, pp. 19-20)]. According to Laurance (1992, p. 12), Harkavy linked the arms trade to the larger international system and focused on system change, thus providing a methodological approach that can be used to explain further shifts in the system. A few other theoretical and empirical works focused on specific issues like the relationship between arms transfers and war [e.g., Milstein (1972)] and were conducive to a cumulative effort. A second weakness of the geopolitical paradigm is its failure to promote a systematic empirical and theoretical treatment of the economics of arms trade. Economists have not adequately filled the gap. There are a few studies on the arms trade by economists, e.g., the economic impacts of arms trade [Grobar et al. (1990), Bajusz and Louscher (1988)], fungibility of military and civilian aid [Frey (1975), Ferejohn (1976), McGuire (1987)], motives for arms transfers [Smith et al. (1985), Levine et al. (1994)], and a review of the arms trade literature [Sandler and Hartley (1995, ch. 10)]. These works are exceptions to the general rule that economists have not seriously examined the arms
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Ch. 18: Economics of Arms Trade
527
trade. This is unfortunate because economists have much to offer in understanding the causes and consequences of arms transfers. A large body of international trade theory remains untapped. Even during the Cold War, non-economists cited the importance, albeit secondary, of economic motivations for arms transfers [e.g., Stanley and Pearton (1972, ch. 6); Pierre (1982, p. 24); Ferrari et al. (1987, pp. 63-66)]. With the end of the Cold War there has been an increase in the relative importance of economic causes and consequences of arms transfers. This chapter is about the economics of arms trade. Our aim is to review the half dozen or so major topics in arms trade research, but with a hefty bias toward economic aspects of the trade. Despite our emphasis on the economics of arms trade, our intention is not to discount geopolitics; it is crucial for understanding arms transfers. The relative research gaps in the arms trade literature, however, lie more in economics than geopolitics. In Section 2 we describe the major trends in the international arms market over the past twenty years. The primary economic impacts of the end of the Cold War on the arms market are woven throughout our data analysis in Section 2. In Section 3 we explore the causes of arms trade, primarily in the context of international trade theory. In Sections 4 and 5 we move to empirical and theoretical studies of selected geopolitical topics. The relationship between arms trade and conflict is explored in Section 4. In Section 5 we cover the relationship between arms trade and foreign policy leverage. Concluding comments are offered in Section 6.
2. The structure of the international arms market The decline of the Cold War led to a precipitous drop in the world arms trade. Figure 1 shows the trend in arms deliveries in constant 1993 dollars over the 1983-1993 period. The real volume of weapons trade reached a peak in 1984, fell for two years, rose in 1987, then declined by over two-thirds up to 1993. World arms sales agreements also declined substantially from a peak of $69.8 billion in 1985 to $38.0 billion in 1993 in nominal terms [US ACDA (1993/94)]. From 1992 to 1993, however, arms sales agreements rose in nominal terms from $28.7 billion to $38.0 billion [US ACDA (1993/94)]. Since arms sales agreements reflect probable future arms sales deliveries, the recent increases may signify that the volume of world arms trade has bottomed out and may start increasing. The major source of the increase in arms export agreements from 1992 to 1993 was the United States, whose nominal export agreements more than doubled from $13.5 billion in 1992 to $28.3 billion in 1993. 2.1. Arms imports The decline in the volume of world arms trade over the last ten years is reflected in regional breakdowns. Arms imports fell in both the developed and developing countries. Real developing country arms imports fell from a peak of $60.8 billion
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Year Figure 2. Arms imports by selected region, 1983 1993 [US ACDA (1993/94)].
in 1984 to $17.2 billion in 1993 while real developed country imports fell from a peak of $16.4 billion in 1986 to $4.8 billion in 1993 [US ACDA (1993/94)]. Figure 2 shows real arms imports by selected region over the 1983-1993 period. From 1990 to 1993, dramatic reductions occurred in the weapons imports of all regions.
Ch. 18: Economics of Arms Trade
529
Table 2 Arms import share by selected regional, 1973, 1983, 1993 (in percent) Region
1973
1983
1993
Middle East Europe, All Western Europe Eastern Europe East Asia South Asia Africa North-America South-America Central America & Caribbean
28.4 26.0 31.1 3.4 3.6 -
40.4 20.0 9.7 10.2 9.6 4.7 14.2 3.0 3.7 3.4
42.6 20.8 15.9 4.9 12.4 2.1 1.3 7.4 1.0 0.7
a
-
Source: US ACDA (1984, 1993/94).
In addition to dramatic declines in the arms imports of regions, there have been significant changes in the distribution of arms imports. Table 2 shows regional arms import shares, comparing 1973, 1983, and 1993. The Middle East has dramatically increased its import share from 28.4% in 1973 to 42.6% in 1993. Europe is the second largest region in import share even though it has declined from 26.0% in 1973 to 20.8% in 1993. East Asia had a decline in import share from 31.1% in 1973 to 9.6% in 1983 (due, primarily, to the end of Vietnam hostilities). Since 1983, East Asia's import share has risen to 12.4%. Africa has significantly decreased its share of weapons imports since 1983, from 14.2% to 1.3% in 1993. In 1971, South Vietnam, West Germany, Egypt, Iran and North Vietnam had the highest arms import shares, primarily reflecting the geopolitical rivalry between the USA and USSR. By 1981, the top four importers were from the Middle East: Iraq, Libya, Saudi Arabia and Syria. By 1991, Saudi Arabia held the dominant share of the world's arms imports, followed by Afghanistan, the USA and Iran. It is likely that Iraq would have been the second largest arms importer in 1991, but for the Gulf War embargo. 2.2. Arms exports The dramatic reductions in arms imports, of course, are reflected in the arms export data. Real developed country arms exports fell from a peak of $66.7 billion in 1987 to $20.2 billion in 1993 while real developing country arms exports fell from a peak of $10.5 billion in 1984 to $1.8 billion in 1993 [US ACDA (1993/94)]. Developed countries continued to be the major exporters of weapons, providing more than 90% of world arms exports in 1983 and 1993.
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Year Figure 3. Arms exports by selected region, 1983-1993 [US ACDA (1993/94)]. Table 3 Arms export share by selected regional, 1973, 1983, 1993 (in percent) Region
1973
1983
1993
Middle East Europe, All Western Europe Eastern Europe East Asia South Asia Africa North America South America
0.2 59.6
0.7 70.5 23.5 46.9 5.2 0.6 0.2 22.6 0.4
1.0 45.1 32.2 12.8 5.0 0.0 0.6 47.9 0.3
a
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Source: US ACDA (1984, 1993/94).
Figure 3 shows real arms exports by selected region over the 1983-1993 period. Beginning in the late 1980s, significant reductions took place in the arms exports of all regions. Arms export market share by major region is shown in Table 3. Europe and North America dominated the arms export market in 1983 and 1993, accounting for greater than 90% of export market share. The market share of Eastern Europe declined dramatically between 1983 and 1993, due primarily to the breakup of the Soviet bloc. The market shares of the four major arms exporters from 1983-1993 are shown in Figure 4. The decline in market share in the USSR/CIS is dramatic. Many believe that the CIS's loss of market share is due to the relatively poor performance of Soviet weapons in the Gulf War and buyer perceptions that the CIS cannot provide adequate after-sales services for weapons given its recent political turmoil. In 1993, two developing countries were among the top ten weapons exporters: China and Israel [US ACDA (1993/94)]. With roughly $950 million in arms exports in 1993 (4.3% of market share), China has emerged as one of the top five or six weapons
531
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Year Figure 4. Arms export market share, 1983-1993 [US ACDA (1993/94)].
exporters in the world. Although Israel is in the top ten of weapons exporters, its market share was less than one percent. Another perspective on the arms trade is to consider the types of weapons transferred. Table 4 shows the supplies of major weapons to developing countries broken down by major weapons category and selected suppliers over the 1991-1993 period. The Soviet Union/Russia and the United States dominated the delivery of major weapons systems to developing countries over this period. France had a substantial presence in land armaments and missile exports to developing countries. China was a major deliverer of land armaments, especially artillery, and supersonic aircraft. 2.3. Structural change: end of the Cold War We can gain insight into the structural changes emerging in the international arms market by considering the four major arms trade submarkets identified by Catrina (1988, p. 42): industrial supplier and industrial recipient (submarket 1), industrial supplier and developing recipient (submarket 2), developing supplier and developing recipient (submarket 3) and developing supplier and industrial recipient (submarket 4). According to Catrina, the highest volume of arms trade occurs in submarket 2, followed by submarkets 1, 3 and 4. The highest level of arms trade sophistication (i.e., technology) occurs in submarket 1 followed by submarkets 2, 4 and 3. Catrina's volume of trade rankings are borne out by SIPRI data for the 19881992 period [see SIPRI Yearbook (1993, p. 444)]. His descriptive analysis of the levels of weapons technology occurring in the four submarkets is persuasive. Submarket I is dominated by highly sophisticated arms transfers among industrialized countries which are often allies. The second submarket generally varies widely in technological sophistication, but some highly sophisticated weapons pull up the average, e.g., F-14s, F-15s, F-16s, MIG-23s, MIG-25s, MIG-27s, MIG-29s, Mirage 2000s, Tornados and AWACs [Catrina (1988, p. 43)]. The fourth submarket (ranked third in sophistication) is a recent phenomenon in the arms market. Catrina (1988, p. 44) provides two examples of somewhat sophisticated weapons transfers from
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Table 4 Number of arms delivered, cumulative 1991-1993, by selected supplier, all developing country recipients, and major weapon typea China
USSR/ Russia
USA
France
UK
920 610 1200
470 175 713
60 380 30
70 80
380 1300 20
Naval craft Major surface vessels Other surface vessels Submarines Missile attack boats
2 6 4 -
10 -
2 12 -
4 12 -
4 12
Aircraft Combat - supersonic
60
208
10
20
130
-
51
-
20
-
Helicopters Other aircraft
110 40
90 39
60
10 30
60
Missiles Surface-to-air
880
986
1310
330
100
Weapon type
Land armaments Tanks Artillery Armored personnel carriers and armored cars
Combat - subsonic
a
2
Source: US ACDA (1993/94).
developing to industrial countries: Brazil's T-27 trainer aircraft sale to the United Kingdom and Israel's lease of Kfir aircraft to the USA. The third submarket (ranked fourth in sophistication) has long been characterized by retransferred weapons of relatively low sophistication. More recently, indigenous production and export of fairly sophisticated arms from developing countries to other developing countries has emerged as an important, though hardly dominant feature of the overall arms market. For example, Brazil exported no weapons until 1975 [US ACDA (1971-1980, p. 83)]. Brazil has emerged as one of the top ten exporters of major conventional weapons to developing countries. Over the 1988-1992 period, Brazil was the ninth leading major conventional weapons exporter to the developing world [SIPRI Yearbook (1993, p. 444)]. Developing nations received 99% of Brazil's major conventional exports over that period. The end of the Cold War implies far more than a relative shift in the weights attached to economic and political motivations for arms transfers. The nature of the international arms market has fundamentally changed along a number of dimensions that will reshape the arms trade in the four submarkets. The dramatic reduction of superpower competition in various regions has led to the virtual elimination of arms aid by the
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USA and Russia [Johnson (1994, p. 111)]. Recipients must now pay full price for their weapons systems and they have become choosier consumers. Developing countries cannot afford the most expensive weapons systems, but instead have increased their demand for upgrades. Industrial nations are demanding the best that money can buy -not only technologically sophisticated weaponry and upgrades but also guarantees of effective after-sales service, training, and access to reliable spare parts. It is likely that the average sophistication in each of the four arms trade submarkets will rise as arms producers and governments compete to bolster sales in a leaner world market. The reduction of superpower competition has also led to lower military budgets in many regions of the world. Cuts in military procurement tend to increase the unit costs of weapons production. Many nations look to weapons exports to increase production runs, lower unit costs and maintain defense industrial bases. But all nations cannot be successful in increasing weapons exports in a declining market. Competitive pressures will force some nations to cancel indigenous weapons programs and rely more on imports. Some nations will be forced to specialize in a narrower range of weapons exports (e.g., Israel in aircraft and missile defense, Germany and Sweden in naval systems). A few nations may establish niches in high technology systems for customers that most Western nations would not supply (e.g., Russia, China, North Korea to customers like Iran, Syria, Libya, Iraq). The competitive international arms market will hurt the ability of France, the United Kingdom and the United States to sell a broad range of weapons systems. It is likely that only the United States and possibly a revitalized Russia will be able to maintain a defense industrial base over the full range of advanced weapons systems. One response of defense firms facing more stringent competitive pressures is to merge or form alliances with other defense firms, domestic and foreign [see SIPRI Yearbook (1993, p. 434 and p. 441) for US arms industry mergers and joint ventures in 1992 and Sk6ns and Wulf (1994, p. 51) for international projects of the Russian military aerospace industry in 1992 and 1993]. Global partnerships among defense firms allows them to share the expense of research and development of new weapons systems. For sophisticated weapons, the research and development costs are often too much for one firm to bear alone. Mergers and alliances also enhance the ability of the defense firms to market weapons systems in their partners' countries. The post-Cold War international environment is also testing old alliance patterns between nations, leading to the emergence of new alliances, formal and informal. The changing world order is characterized by a greater presence of multilateral peacekeeping and humanitarian aid operations. The use of coalition forces in places like Iraq, Somalia and former Yugoslavia imply further development of inter-operable forces between nations. A partnership between defense firms in various countries can be better positioned to meet this new demand than a single defense firm. New security-sharing arrangements based on multilateral approaches, when combined with declining defense budgets and political pressure from defense workers and firms to maintain production, leads to further demands for co-developed and co-produced weapons systems and
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various payments restrictions (e.g., offsets, barter, debt reduction) rather than outright imports. The new arms trade environment emerging from the remnants of the Cold War also has important implications for arms trade restraint. During the Cold War, the Coordinating Committee for Multilateral Export Controls (COCOM) was formed by the United Sates and other Western nations to keep defense-related products and computer technology from the Eastern Bloc nations. Today, Western nations are encouraging economic development of their former adversaries and COCOM has been dissolved. This will lead to sophisticated technology transfers from West to East (and some from East to West) which could ultimately improve the defense industrial bases and sophistication of weapons exports from Eastern nations. Russia may be relatively uninterested in arms export restraint in light of its dwindling market share and its suffering defense industrial base. Although the end of the Cold War led to an initial optimism regarding arms export restraint, there are potent economic and political forces creating skepticism about future prospects for restraining the arms trade [Moodie (1994)]. While the new market will be characterized by a lower quantity of arms sales, the quality of the arms transfers will continue an upward trend which was empirically observed by Baugh and Squires (1983a). Carus (1994) considers the possibility that revolutionary changes in the technology of war may lead to a fundamental transformation of the international arms trade, perhaps as significant (or more so), than the structural shock associated with the end of the Cold War. The new technology of war could be more information-intensive than previously imagined, relying on advanced sensors, communications, data processing, long-range precision guided weapons and advanced simulation techniques. If this view is correct, dual-use equipment could become central to military capability. While specialized defense hardware would remain an important component of military capability, dual-use equipment could become a dominant feature of the arms trade. As a result, it would become more difficult to track and control the trade in militaryrelated equipment. Even the traditional arms trade data generated by US ACDA and SIPRI might have to be re-thought in order to more fully incorporate the transfer of information systems and technology [Carus (1994, p. 174)].
3. Causes of arms trade Bajusz and Louscher (1988, pp. 13-15) identify the following causes of arms trade: maintenance of indigenous defense industries, economies of scale, R&D cost savings, defense industry employment, increased trade balance, access to hard currency, foreign policy influence over recipients, maintenance of local power balances, promotion of internal security of recipients, stronger allies, and inter-operability of weapons between allies. While it is fairly easy to list causes of the arms trade, it is much more difficult to develop theoretical and empirical frameworks which discern the relative importance of causal variables in an economic and political context. There has been relatively little
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systematic cumulative theoretical and empirical work on the causes and consequences of arms trade. Indeed, some scholars believe that such work may not even be possible: "The subject [of arms transfers] is quite probably of a complexity well beyond the level where one might contemplate tight causal models, and explicitly set forth formal relationships between sets of dependent and independent variables." [Neuman and Harkavy (1979, p. 315)]. While the Neuman and Harkavy position might be true for some segments of the arms trade, it is unlikely to be true generally. Our failure to date to develop explicit sets of formal relationships between dependent and independent variables in the arms trade is due primarily to a lack of trying. For example, when considering the economic causes of the arms trade, a large body of international trade theory remains untapped. This is unfortunate given the variety of models applicable to the arms trade and the insights which can be gleaned from applications of international trade theory. 3.1. Economic causes Traditional international trade theory through the late 1970s was a "powerful monolithic structure in which all issues were analyzed using variants of a single model." [Krugman (1989, p. 1214)]. The new literature of the last fifteen years has broken the grip of a single international trade model by emphasizing economies of scale and imperfect competition. Increasingly, international trade is a field where many models are taught and research is an eclectic mix of theories. 3.1.1. Supply and demand model Assume that conditions are met for a perfectly competitive international arms market between two countries: Rongovia and Mendac [see Alexander et al. (1981, p. 23)]. The market in linear form is: Rongovia: Mendac:
Wr = ao - alPr, Wm = co - clP ,
Ws = bo + blPr, W m = do + dlP m ,
(1)
where Wr, W, WTm, W m are the domestic demand and supply of weapons with respective superscripts for Rongovia and Mendac, pr and pm are the domestic prices of weapons in Rongovia and Mendac, and the other terms are parameters where ao, co, bl,dl >0, al,cl > 0, and bo , do 0. Assume that Rongovia's autarky price is lower than Mendac's. The export supply and import demand schedules are respectively: ES = W - W = (bo - ao) + (b + al)P,
(2)
ID = W - W
(3)
= (co - do) - (ci + dl)P,
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C.H. Anderton
where P is the world price of weapons. The equilibrium free trade world price, P*, and weapons trade volume, W*, are: (co - do - bo + ao) (ai +bl +cl +dl)'
(4)
W* = (bo - ao) +(bl +al)P*.
(5)
p*
The arms trade volume is determined by the variables which define the domestic demands and supplies of the two countries. Domestic demand for a country is defined by: (1) the strength and stability of its perceived external and internal threats; (2) plans for military action; (3) national income; (4) supply of foreign exchange (if importing); and (5) supply of substitutes for countering perceived threats or carrying out military action, e.g., the strength and reliability of allies [Alexander et al. (1981, pp. 7-8)]. Domestic supply for a country is defined by: (1) price of resources, (2) technology, and (3) price of alternative goods which could be produced. Even the simple supply and demand model challenges conventional wisdom in the arms trade literature. For example, some arms trade scholars take a condemnatory "merchants of death" view of the arms trade [e.g., Engelbrecht and Hanighen (1934)]. These scholars implicitly or explicitly assume a positive relationship between the volume of arms trade and the volume of arms in the international system. Since a nation's international arms transactions and indigenous arms production are jointly determined economic activities, a positive relationship between the volume of arms trade and volume of arms in the international system does not necessarily hold. For example, an increase in Rongovia's domestic demand reduces the volume of arms trade but increases indigenous weapons production in each country leading to more weapons in the system. Alexander et al. (1981, pp. 12-13) find empirical evidence of this for the United States during the primary Vietnam buildup years 1966-1968: as US domestic demand for weapons rose, US weapons production increased while its weapons exports decreased. Obversely, a fall in Rongovia's domestic demand increases the volume of arms trade but lowers indigenous weapons production in each country, leading to less weapons in the system. 3.1.2. Neoclassical trade model Figure 5 illustrates a free trade equilibrium between Rongovia and Mendac where (Pw/Pf), terms-of-trade price of weapons relative to food; (Pw/Pf)R, (Pw/Pf)M, autarky relative prices in Rongovia and Mendac; R*, M*, autarky points of Rongovia and Mendac; Rp, Mp, production points of Rongovia and Mendac with trade; Rc, Mc, consumption points of Rongovia and Mendac with trade. Rongovia has a comparative advantage in weapons and Mendac in food. Rongovia exports A-B weapons and imports C-B food; Mendac is the other side of the trade. The volume of weapons trade and the relative price of weapons are determined by the three key variables of the neoclassical model: tastes, production technology,
Ch. 18: Economics of Arms Trade
537 -
o...Ioft rlr I
t t
Food
Weapons Rongovia
Weapons Mendac
Figure 5. Neoclassical trade model.
and resource endowments. Tastes depend on perceived external and internal threats, reliability and strength of allies, and plans for military action. In the Heckscher-Ohlin model, production technology and tastes are assumed to be identical between nations. Differences in factor endowments between nations explains the volume and terms of trade. For example, if weapons production is capital-intensive and Rongovia is capital abundant, the Heckscher-Ohlin theorem predicts that Rongovia will export weapons. The Stolper-Samuelson theorem relates international trade and real factor rewards. According to the Stolper-Samuelson theorem, the factor used intensively in the rising price industry has an increase in real rewards. The opening of trade between Rongovia and Mendac causes the relative price of weapons to rise in Rongovia and fall in Mendac. Assuming that weapons are capital-intensive, real returns to capital owners rise in Rongovia and fall in Mendac. A short-run variation of the neoclassical model, the specific factors model, assumes that one or more factors are specific to an industry while one or more other factors are mobile between industries within each country. For example, Rongovia might have capital specific to weapons production, capital specific to food production, and labor which is mobile between food and weapons. Starting from a free trade equilibrium in Rongovia, a shift in tastes away from weapons would cause the real rewards of weapons capital to decline and the real rewards of food capital to increase. There is an ambiguous effect on the real returns to labor. Figure 5 holds constant the other countries that influence the tastes of Rongovia and Mendac (e.g., enemies and allies). These countries could be built into an extended general equilibrium framework where arms race and alliance impacts are endogenous. For example, Jones (1988) examines the impact of alliance formation on the arms trade. In Figure 6 assume that Rongovia and Mendac are identical in every respect, have homothetic preferences, and are "small", i.e., price takers on the world market. (Pw/Pf)0 is the world relative price of weapons and PPFR and PPFM are the production
538
CH.Anderton Food
weapons
Weapons Mendac
Rongovia
Figure 6. Trade creation impact of alliance formation.
possibility frontiers of Rongovia and Mendac, respectively. Prior to alliance formation the countries produce and consume at R*, M* under free trade. Since the world price is the same as the autarky prices of both countries in this particular example, there is no trade. This special case allows Jones to isolate the pure impacts of alliance formation on trade in the small country case. When Rongovia and Mendac form an alliance the spill-over effects shift the consumption possibilities for both countries out to CPFR and CPFM. Since world price is given, production remains at R* and M*, but excess supplies of defense goods emerge in each country. Rongovia exports R*A of defense goods and imports AB in food from the rest of the world (i.e., nonallies). A similar opportunity exists for Mendac (not shown). Rongovia's consumption at Rc is made up of OFR of food, FRB of domestically produced weapons which were not exported, and BRc of implicit provision of weapons spilling over from the alliance with Mendac. The alliance has created weapons exports as well as trade in food. If Rongovia and Mendac were "large", either individually or jointly, the new weapons exports resulting from their alliance would lower the relative world price of weapons. World production of weapons would fall with the lower price. Many other variations of the Jones model are possible [see Jones (1988, pp. 133-138)]. The neoclassical model highlights the general equilibrium nature of arms trade. The arms trade is co-determined with weapons and non-weapons production and trade and factor markets in both countries. The interdependence of these markets are significantly influenced by alliances and arms races. The neoclassical model predicts that a country will trade with other countries that are different from itself in factor endowments, production technology or tastes. For example, from 1981-1991 the United States exported $3.6 billion of arms to Latin America while Latin America exported essentially zero weapons to the United States [US ACDA (1991/92, p. 138)]. Focusing on purely economic motivations, the Heckscher-Ohlin theory offers a possible explanation of the "North-South" trade in weapons between the USA and Latin America: the capital abundant US exports
Ch. 18: Economics of Arms Trade
539
capital-intensive weapons to labor abundant Latin America in return for labor-intensive civilian goods. The Heckscher-Ohlin prediction of US-Latin weapons trade seems plausible, but even if it received empirical support it would not be general because much of the weapons trade occurs between countries which are similar in relative factor endowments, production technologies and tastes. For example, from 1987-1991 the United States exported $2.8 billion in weapons to West Germany and imported $1.1 billion in weapons from West Germany [US ACDA (1991/92, p. 132, 134)]. This is intra-industry trade, i.e., two-way trade of differentiated products within a broad product group. The Intra-Industry Trade Index (IIT) can be used to gauge country i's intra-industry trade in arms: aims- I
(6
IExportsans - Importsrs Exports/ + mportrm s
.
If IIT = 0, then intra-industry trade is not present. If IIT = 1, then a nation's exports and imports of weapons are equal implying the highest degree of intraindustry trade. Some intra-industry trade indexes for selected countries based on 19871991 US ACDA data are as follows: United States=0.30, United Kingdom=0.25, Brazil = 0.66, Columbia = 0, Greece = 0.05, Switzerland= 0.76. The indices imply that intra-industry weapons trade is prevalent in the world economy. 3.1.3. Trade models with economies of scale and learning economies Arms trade scholars believe that some weapons production processes are characterized by economies of scale. Given fixed input prices, economies of scale lead to lower unit costs when output levels are increased. This is shown by the average cost (AC) curve in Figure 7. Figure 7 shows why economies of scale can be such a powerful motivation for weapons exports. Let Dd represent a perfectly inelastic domestic demand curve for $ unit costs L
d
D
ac1= P1 pC
i
ac 2
_., -
-'
AC I-
f 1
f2
fighters
Figure 7. Economics of scale motivation for weapons exports.
540
C.H. Anderton
fighter aircraft. Pi is the "controlled price" set by the government buyer of fighters. The weapons producer is capturing revenues (PI f l) just equal to total costs (total costs include normal profits). If the weapons producer increases its production to f2 it will reap lower unit costs due to economies of scale (acl to ac 2 ). This will improve the cost competitiveness of the weapons producer, enhancing its ability to export weapons. In the figure, weapons exports equal f2 -fl. If PI is the price of fighters on the world market and the government lowers the price it pays for domestic needs to P, both the government and the weapons producer gain from weapons exports. The government's "defense burden" for fighters falls from P flI to PI fl. The weapons producer receives "above normal" profits equal to (PI f2) - (a' 'f2). Using a cross-sectional pooled times series analysis, Snider (1987) found that arms exports significantly lowered the defense burdens of Great Britain, France and West Germany. The average yearly procurement savings from arms exports for each country ranged from $844 million to about $1 billion. See also Kolodziej (1987) for a discussion of the perceived procurement benefits to industrialized and developing countries from arms exports. If economies of scale were fully exploited in the global economy, each country would specialize in producing a limited range of weapons systems. For example, Germany might specialize in naval systems and Israel in aircraft and missile defense. If each country produces only a subset of the weapons systems, then weapons are produced more efficiently than if each country tried to produce everything for itself. The result would be greater production of each weapon system in the world economy. The specialized economies would then trade with each other to consume the full range of weapons. Hartley (1987, pp. 297-298) estimated that NATO weapons standardization policies, which led to economies of scale and gains from trade, likely reduced unit costs by at least 20%. Further savings were available through the elimination of duplicate R&D and from economies in life-cycle costs [Hartley (1987, p. 298)]. Of course, weapons are not the same as civilian goods. For security or domestic political reasons, most nations restrict weapons exports or produce a wider subset of weapons than suggested by a free trade economies of scale model. For example, the USA accepted scale economy sacrifices to maintain production sources for its Sidewinder, Maverick, and Sparrow missiles and for Los Angeles and Trident submarines [Scherer and Ross (1990, p. 529)]. This allowed the USA to have a substantial and diverse industrial base in these weapons systems as well as a capacity to maintain competitive bidding over the weapons. Despite many examples of unspecialization in weapons production throughout the world, economies of scale provides a strong motivation for specialization and trade in weapons. Learning economies (also known as dynamic increasing returns or dynamic scale economies) are present when unit costs fall with cumulative production over time, rather than with the current rate of production [Krugman and Obstfeld (1994, p. 144)]. If a nation has extensive experience in an industry, it may have lower unit costs than an inexperienced nation even if the inexperienced country's learning curve is
Ch. 18:
Economics of Arms Trade
541
lower because of lower input prices. Dynamic scale economies can thus "lock in" an initial advantage or head start in an industry [Krugman and Obstfeld (1994, p. 144)]. Weapons exports can be an effective mechanism for a nation to accumulate experience in weapons production, garnering lower unit costs through learning effects. The lower unit costs, as with economies of scale, imply the two-fold benefit to the weapons exporter: (1) lower defense burden for the domestic country's weapons acquisition and (2) lower unit costs which further enhances weapons export competitiveness. 3.1.4. Imperfect competition and trade Economies of scale, learning economies and intra-industry trade of differentiated weapons generally imply imperfectly competitive market structures: monopolistic competition, oligopoly or monopoly. In imperfectly competitive markets for differentiated weapons systems, a nation that produces a wide variety of weapons will not reap the scale advantages that could be gained from larger production runs over a narrower range of weapons. On the other hand, a nation that pursues large production runs over a narrow range of weapons gains the scale advantages but has a limited variety of weapons. Weapons trading improves the scale/variety tradeoff for nations. Krugman and Obstfeld (1994) develop a monopolistic competition model of trade that is applicable to the international arms market. Assume that there are n symmetric weapons firms, i.e., the demand and cost functions are identical for all firms, even though they are producing and selling somewhat differentiated products. The average cost of each firm depends on the size of the market and the number of firms in the industry: AC= (n. F) +c,
(7)
where AC, average cost of weapons production; F, fixed cost; S, total weapons sales of the industry (in physical units); c, firm's marginal cost. Equation 7 implies that average costs are higher the more firms there are in the industry (since with more firms, each produces less). The upward-sloping relationship between n and the average cost is the CC schedule in Figure 8. Krugman and Obstfeld also derive a relationship between the number of firms in the industry and the price charged by each firm: P'c+
6nl
(8)
where P, price charged by each firm; b, parameter measuring the sensitivity of each firm's market share to the price it charges. Equation 8 implies that the more firms there are in the industry, the lower the price each firm will charge. The downward-sloping relationship between P and n in Figure 8 is the PP curve.
C.H. Anderton
542 Price, P
_,_.
-
firms, n Figure 8. Monopolistic competition model of weapons trade.
Figure 8 is a monopolistically competitive model of production, consumption and trade. The equilibrium number of firms is n* and the equilibrium price charged by each firm is P*. P*=AC* reflects the long-run zero-profit equilibrium. Trades in differentiated weapons (not shown) are the differences between each firm's total weapons sales and its weapons sales to its home country. The integrated market of Figure 8 supports more firms, each producing at a larger scale and selling at a lower price, than national markets alone [Krugman and Obstfeld (1994, p. 128)]. The end of the Cold War led to a decline in the quantity of weapons demanded in the world market. This led to decreases in total weapons sales S (see Figure 1) that shifts the CC curve to the left in Figure 8. The "shakeout" in the world defense industry causes n to fall from n*to n2 . The surviving firms each produce smaller weapons quantities at higher prices, even though overall demands for weapons have fallen. The new long-run equilibrium of P=AC occurs at higher price P2 because lower production runs raise average costs. In the high technology weapons markets (e.g., fighters, missiles, submarines), smallgroup oligopoly is more applicable than large-group monopolistic competition. With oligopoly comes the potential for collusion and strategic behavior. Firms can raise profits through explicit or tacit collusion. Co-production or co-development weapons agreements are often driven by political considerations, but they also may be motivated by gains from collusion. Strategic behavior, i.e., actions that affect the behavior of competitors in desirable ways, might lead firms to accept lower profits to deter entry of a rival or governments to subsidize its weapons manufacturers to shift profits and unit cost competitiveness from foreign to domestic firms. Figure 9 provides a typology of the arms trade in terms of weapons type, trade theory, submarkets, and number of suppliers.
Ch. 18: Economics of Arms Trade
543 A
Few Suppliers
I Submarkets 1 23
Oligopoly Trade Theories
I I
/ S
/
PGMs, aircraft carriers, sophisticated submarines, I --.Zenth
.\
helicopters
~~~~~~~~~~~~~~~~~~~~~I I
Monopolistic Competition Trade Theories
/ Slow fighter aircraft, transport aircraft, detection
technologies, military communications systems, large destoyers, submarines, frigates, transport helicopters, tanks, howitzers, night vision technology
All submarkets
I Many suppliers
/
Mortars, rifles, machine guns, grenades, jeeps, trucks,
F
Competitive Market Trade Theories . supply & demand neoclassical model
ammunition, minelayers and minesweepers, patrol boats, gun boats, light helicopters, simple communications and detection systems, simple aircraft
Figure 9. Typology of the weapons trade.
3.2. Domestic political economy
3.2.1. Defense industrial base Many governments view the maintenance of a defense industrial base (DIB) as essential to national security. In the event of war or in negotiations where war is a possible outcome, a nation with a strong DIB can deter a rival or improve a negotiated settlement. The DIB argument can enhance or contract the arms trade depending on its impact on trade policy and the nation's position in the arms market. For example, Rongovia might subsidize its machine gun production and move from an importer to an exporter of machine guns. Alternatively, Rongovia might subsidize its machine gun production, import less, but remain a machine gun importer. If economies of scale are widespread throughout weapons industries of the world, then government efforts to maintain defense industrial bases over many weapons systems might actually shrink the weapons trade and reduce the number of weapons in the international system. Indigenous procurement and subsidization of production lines for many weapons systems may not reap the gains from economies of scale that subsidization or even laissez faire of a few lines would. The result is production of many weapons systems in many countries, missing out on large production gains from specialization and economies of scale. This is shown in Figure 10. Assume average costs are the same in Germany and Israel for each weapons system. Assume Germany specializes in ships, spends P .S 1 on ships, and then exports half of its ships for half of Israel's missiles. Israel produces Ml missiles, exporting half
C.H. Anderton
544 ships
missiles
price
price
p
P. S2
.5S1
S1 quantity
M2
.5M1
M 1
quantity
Figure 10. Costs of maintaining defense industrial base.
to Germany. Now, suppose Germany subsidizes its missile production and Israel its ship production to have a defense industrial base in each system. Assume that trade ceases and each country produces S 2, M 2 for its own needs. Germany and Israel spend (P2.S 2 ) + (P2.M 2 ) for weapons which is higher than what they used to spend, (P .SI1) and (Pn.*MI), respectively (we assume that PS 2 = =Ps S 1 and Pm M 2 =P .M 1). The difference between the old and the new weapons expenditure levels represents the subsidy to maintain defense industrial capacity in both goods. In spite of greater spending for weapons by both countries, the arms trade has ceased and the volume of weapons in the system has declined (2S 2
Ch. 18:
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545
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sectors of the economy can expand with a decline in weapons production and exports. Grobar et al. found that a unilateral US embargo on exports and imports of military goods led to significant net employment declines in the US transport equipment and electrical machinery sectors. Roughly two dozen other sectors of the US economy, however, experienced net employment increases from the unilateral US embargo. Broadly similar results were obtained for the USA under a multilateral arms export restraint system. 3.3. Economic and political synthesis Levine, Sen and Smith (1994) have developed a model of the international arms market that synthesizes two major motivations of arms transfers: (1) economic benefits and (2) security repercussions of recipient behavior. The model describes an arms market consisting of a set of similar competing suppliers, who have both economic and security objectives, selling to a single generic recipient. The total amount of weapons supplied to the recipient, Qt, and the end-of-period aggregate stock of weapons held by the recipient, St+l, are defined by: Qt = Qit +qit,
St+l = (1 - d)St + Qt,
(9,10)
where: Qit, amount of weapons supplied by all countries other than i; qit, amount of weapons supplied by country i; d, depreciation rate. The recipient's demand schedule for weapons is: Pt(Qt) = a - bQt = a - b(Qit + qit),
(11)
where P is the price of weapons. Supplier i's single-period objective function, Uit, is made up of profits from the arms sales, rit, and security repercussions, V(St), which is a function of the stock of arms held by the recipient: Uit = Tit + V(St),
(12)
where sit = P(Qt)qit - cqit, V(St) = gSt + eSt2, (13,14) with c being the supplier's average and marginal cost and Equation 14 being a quadratic security function. The parameters g and e in Equation 14 represent various security aspects of arms transfers. Two are the straightforward cases of sales to allies (g >0, e > 0) and adversaries (g < 0, e < 0). Sales to allies increase a supplier's security while sales to adversaries reduce security. In two other cases, the short-run and long-run effects of arms transfers differ. In the "legitimate security limits" case (g > 0, e < 0), arms transfers increase security up to a point, but beyond that point reduce security. In the "potentially cooptive" case (g < 0, e > 0), transfers reduce security in the short run, but in the longer run the supplier can coopt the recipient thus increasing security. In a dynamic version of the model, the authors derive the following propositions (among others):
Ch. 18: Economics of Arms Trade
547
(1) If the recipient is an ally or is sufficiently capable of being coopted, the total volume of arms sales exceeds the pure profit maximizing level. (2) If the recipient is an adversary or represents a "legitimate security limit", the total volume of arms sales is below the pure profit maximizing level. (3) Greater competition in the arms market (i.e., greater number of suppliers) increases the total volume of arms sales. (4) If the recipient is an ally or is sufficiently capable of being coopted and the suppliers can credibly pre-commit to future deliveries of weapons and spare parts, then the effect of forward-looking behavior by the recipient is to import a greater volume of weapons. If the suppliers lack a reputation for pre-commitment, then the effect of forward-looking behavior by the recipient is to import less weapons. The Levine, Sen and Smith model not only treats the commercial and security motives for arms exports, it also highlights the likely lobbying strategies of arms manufacturers. Weapons manufacturers have a profit incentive to counteract arms export restraints. If the recipient is questionable from a security point of view (as in the "legitimate security limit" case), arms manufacturers would tend to discount security considerations and highlight the economic benefits of arms exports. On the other hand, when security is promoted by weapons sales (as in the allies case), arms manufacturers would highlight the importance of security considerations in arms sales. An extension of the Levine et al. model could be the development of an analytical framework for how the supplier's objective function is a product of the domestic political process.
4. Arms trade and conflict SIPRI (1971, p. 73) states that "perhaps the most important question about arms supplies [is] ... what effect they have on the development of wars - on the likelihood of wars breaking out, on the course of wars and on their general severity". The "destabilizing school" generally believes that arms transfers promote conflict by exacerbating regional or international tensions, strengthening the clout of the military, and providing the tools to carry out a greater level of conflict. The "stabilizing school" generally believes that arms transfers can restrain conflict by restoring a balance of power in unstable regions. Connections between arms trade and conflict, however, are not easy to make. Arms transfers can increase or decrease the likelihood of inter-state war or internal conflict depending upon a variety of intervening variables: conflict setting (i.e., intensity of rivalry, issues at stake, history, geography), types and quantities of weapons transfers, existing weapons stocks, goals and perceptions of political leaders, commitments of allies, and prospects of foreign intervention. In many cases there will be too many intervening variables to establish causality between arms trade and conflict. But, if the word "causal" is used in the weaker sense of Dessler (1991, p. 347) to mean "an insufficient but necessary part of an unnecessary but sufficient condition", then what we would really mean when we use the word causal is whether arms transfers promote or restrain conflict [Kinsella (1994, p. 20)].
548
C.H. Anderton
The relationship between arms transfers and the outbreak and longevity of wars is similar to the question of the relationship between arms rivalry and war. Since arms transfers are part of the material of arms racing (along with the rivals' indigenous weapons production), understanding the impact of arms rivalry on the probability and severity of war would help us understand connections between arms transfers and war. The literature, however, is ambiguous on the relationship between arms races and war (see chapter 6 of the Handbook). The necessary research directions on the relationship between arms trade and conflict are theoretical and empirical. Can arms trade scholars sort out the set of variables and conditions under which arms transfers promote and restrain conflict? Relatively little systematic theoretical and empirical work has been directed to this question, although useful case study research and anecdotal evidence abounds. 4.1. Theoretical models of arms trade and conflict Figure 11 shows attack and defend regions in a rivalry between J and L. The weapons stocks of the two nations, Wj and WL, are measured on the axes. If the weapons vector is in region 1, mutual security exists, i.e., neither party can successfully initiate attack against the other. If the weapons vector is in region 2J or 2L, then respectively, J and L could attack the other and win the war. The slopes and positions of the attack/defend lines can be derived from the Lanchester war model [Anderton (1990)]. A variety of variables affecting the course of war - quality of weapons, terrain, defense production capacity, perceptions of decision makers, resource constraints - can be embodied in the attack/defend lines depending on the variant of the Lanchester model chosen [Anderton (1992, 1993)]. Even the simple model of Figure 11 illustrates the ambiguity in the relationship between arms trade and conflict. Suppose the weapons vector is at point A. Based on the technical specifications of the Lanchester model, L could attack and defeat J. Some policy makers might conclude that the regional imbalance in weapons between J and L might lead to aggression by L. A third nation, say K, could move the weapons vector from A to B by exporting weapons to J under the pretext that a regional weapons balance would reduce the possibility of war. This stabilizing view of weapons exports underlies the arguments of some US officials for allowing US weapons exports to Bosnia in its conflict with the Serbs. It could be argued, however, that the weapons export illustrated in Figure 11 increases the likelihood or intensity of war. Party L might perceive the arms exports to J as eliminating L's advantage or eventually moving to a point where J could attack L. L might initiate war (i.e., preempt) or prosecute an existing war more fervently before it loses its dominance or becomes vulnerable. In this case, the weapons exports to J serve as a catalyst for war. The preemption motive for war based on arms transfers is cited as a possibility in Pakistan's 1965 attack on India [Gerner (1983, pp. 20-21)] and Israel's 1956 attack on Egypt [Becker (1977, p. 4)]. Critics of US arms export restraints on Bosnia claim that months of speculation about whether the restraints
Ch. 18: Economics of Arms Trade
549
can attack
W Figure 11. War creation and war diminishing aspects of arms trade.
would be lifted gives the Serbs an incentive to be extra aggressive to gain territory before their weapons advantages are diminished. The Wittman (1979) model can be used to evaluate theoretically the promotion or restraining influence of arms transfers on war initiation and termination. The variables in a model of possible war between J and L are (for i =J,L): Pi, country i's subjective probability of winning the war; U, country i's utility function; s, settlement outcome (e.g., amount of territory gained or lost); i, unconditional surrender by i; U(w), i's expected utility of initiating or continuing a war; U'(s), i's expected utility of settlement or not initiating a war. Figure 12 shows two cases: (1) the feasibility of peace between J and L and (2) necessary conditions for war initiation or continuation. If J receives expected utility U,(w) =A ° from initiating or continuing a war, J will only accept a settlement that gives it at least as much utility as A°. Settlements to the left of A' give J more utility than U}(w). L will only agree to a settlement if it is to the right of B,. The area of overlap between points to he left of At and points to the right of B' indicate the feasibility of a negotiated settlement. On the other hand, if U5(w)=AJ is J's expected utility from initiating or continuing a war, the gap between At" and Bt implies that a peaceful settlement is not feasible. In this case, necessary conditions are met for war initiation or war continuation. In Figure 12, suppose U(w)=A° and peaceful settlement holds. If L receives new weapons imports and J does not, it could create the necessary conditions for war initiation. Since L has additional weapons and J does not, L's expected utility from war would rise while J's would fall. If L's expected utility rises sufficiently more than J's expected utility falls, the settlement region could vanish, possibly giving way to war initiation. Alternatively, the settlement region might not vanish but it would move in L's favor as L's new source of weapons gives it greater relative negotiating power. In Figure 12, suppose UJ(w) =Al and J and L are at war. Suppose L receives new weapons imports. If L's expected utility rises by a sufficiently smaller amount than J's expected utility falls, a settlement region could emerge. US exports of Stinger missiles
550
C.H. Anderton
settlement region
settlement region
settlements favorable to L settlements favorable to J
Figure 12. Peace and war in the Wittman model.
in the 1980s to the Mujahadeen may have dramatically reduced the Soviet Union's expected utility from continuing the war, thus contributing to their withdrawal. The Wittman model seems inherently ambiguous on the relationship between arms trade and conflict initiation or termination. Only if the weapons trade has a sufficiently asymmetric impact on expected utilities of war for the two parties will a peaceful settlement shift to war or a war settlement shift to peace. Where the Wittman model is unambiguous is on the effects of weapons trades on the relative negotiating powers of the conflicting parties. 4.2. Empiricalstudies Table 6 summarizes selected empirical studies of the relationships between arms trade and conflict. Relative to the arms race modeling literature where over one hundred empirical studies can be found, the arms trade/conflict empirical literature is quite sparse. The majority of the studies cited in Table 6 indicate that arms trading promotes conflict, but there are enough exceptions to suggest that the relationships between arms trade and conflict are not amenable to general statements. The results vary quite widely depending on the nations, data sets, empirical models, and time frames of the studies. Some of the ambiguity of the arms trade/conflict relationship, which is borne out in the theoretical models, is prevalent in the empirical literature as well. The necessary empirical research directions on the arms trade/conflict relationship are two-fold. First, some of the new empirical work should draw upon existing studies and data sets in order to develop a cumulative effort. Second and perhaps more importantly, empirical research should, if possible, identify the conditions under which arms transfers seem to promote conflict in some situations but not in others.
Ch. 18: Economics of Arms Trade
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Ch. 18: Economics of Arms Trade
553
4.3. Case studies The arms trade literature is replete with useful qualitative studies on the relationship between arms trade and conflict. An early example is Kemp's (1970) study of the correlations between arms trade and Third World conflict between 1945 and 1970, with an emphasis on the 1960s. During this period, many Third World conflicts took place and "nearly all the weapons used in these conflicts ... originated from the factories of the industrial powers." [Kemp (1970, p. 5)]. Nevertheless, Kemp maintains that "it cannot be argued from this evidence alone that arms cause or contribute to conflict." [Kemp (1970, p. 9)]. The relationships between arms supplies, conflict and Third World stability are exceedingly complex. Kemp's paper is designed to cull out general principles about arms transfers, military requirements, and conflict in the Third World and then apply these principles on a regional case-by-case basis. A summary of Kemp's principles is that in evaluating the impacts of arms transfers on Third World conflict, it is important to estimate the effectiveness of the weapons transferred. Effectiveness is a multi-dimensional variable depending on military environments, technical specifications of weapons and political factors. "Only if it is possible to apply qualitative criteria based on some measure of a weapon's "effectiveness" can one argue that the transfer of some types of weapons would introduce more destabilizing factors in the Third World security environments than the transfer of others." [Kemp (1970, p. 22)]. Kemp recognizes that it is difficult if not impossible to label weapons as "offensive" or "defensive" based on technical specifications alone, but this does not mean that no judgment can be made. "When making a qualitative distinction between various classes of weapons, it is essential to be more precise about the various types of military, geographical, and technical environments that exist, or are believed to exist, in various areas of the Third World." [Kemp (1970, p. 26)]. Kemp undertakes a region-by-region analysis of the impacts of arms trade and arms trade control on Third World environments in terms of peace and security in those areas. Kemp (1970, p. 70) reaches the following conclusions: ". .. it has been suggested that the arms trade to the Third World is neither "good" nor "bad", that certain types of arms transfers can both serve and harm the interests of suppliers and recipients and, more particularly, that there is no a prioritruth that predetermines that arms transfers inevitably contribute to the outbreak of conflict." Figure 11 above illustrates how the arms trade might restrain or promote conflict. The direction of causality is from arms trade to conflict. Neuman (1986) considers how conflict, by fueling the demand for weapons, can cause more arms trade. She investigates the impacts of war on arms transfers for eight less developed country wars - five conventional inter-state wars and three insurgencies. Neuman finds that for most warring states, the dollar value of arms imports escalated during conflict, but the contributions of the USSR and, particularly, the USA declined, with other suppliers moving in to meet the demand. Neuman (1986, p. 92) concludes that both superpowers showed concern about escalating Third World conflicts with arms exports,
554
C.H. Anderton
and exercised restraint, particularly during the early stages of war or until a political or strategic advantage emerged. Harkavy (1987) also considers the interrelationships between arms trade and ongoing conflict. He lays out the myriad dimensions of the subject and creates a preliminary classification of cases of arms resupply during conflict. Harkavy believes that there has been so little systematic treatment of the subject that it is premature to venture generalizations or describe causal interrelationships. Pearson et al. (1992) analyzed the effects of arms transfers on ten inter-state wars, reaching the following general conclusions: (1) Arms transfers are a factor in decisions to go to war because of considerations of military superiority, perceptions of changes in the balance of power, and interest in establishing links with supporting states. (2) Supplying states have little leverage in conditioning or even determining the outcome of hostilities. (3) Arms transfers generally prolonged and escalated wars, resulting in more suffering and destruction. (4) Arms embargoes, whether partial or total, in and of themselves had little chance of compelling warring parties to stop wars or come to the negotiating table. They did serve to contain the actual fighting. (5) The two superpowers were more prone to use arms transfers as a means to influence warring parties than were other suppliers. During wars the superpowers' share in deliveries generally declined. Consistent with the theme of ambiguity in some of the theoretical and empirical literature described above, Pearson et al. (1992, p. 399) conclude: Arms transfers have both precipitant and deterrent effects on armed conflicts; they are also a factor in the conduct and the cessation of wars. Often heard categorical statements either that arms transfers are inherently conflict enhancing or that, properly managed, they are a trustworthy instrument for stability - ignore the complex record. Despite the obvious relevance of these factors, the literature contains little systematic evidence of the actual effects of arms transfers on conflicts.
5. Arms trade and foreign policy influence Arms suppliers often use their weapons exports to create foreign policy influence over arms recipients. For example, Snider (1978) found empirical evidence that, under certain conditions, some weapons exporters gained influence over several Middle Eastern countries through arms transfers. Roeder (1985) found that Soviet economic and military aid to Third World countries from 1960-1980 increased the recipient's trade dependence on the Soviet Union, which in turn induced political compliance. Case studies of the US-Israeli relationship, e.g., Nachmias (1988), Pollock (1982), and Wheelock (1978) found that the USA sometimes used its weapons exports
555
Ch. 18: Economics of Arms Trade Table 7 Frequency of US arms influence attempts by administration', 1950-1992 Administration Truman (1950-1952) Eisenhower (1953-1960) Kennedy (1961-1963) Johnson (1964-1968) Nixon (1969-1974) Ford (1975 1976) Carter (1977 1980) Reagan (1981-1988) Bush (1989 1992) Total (1950-1992) a
Average attempts per year 3.0 2.0 3.0 6.4 3.8 8.5 10.5 3.5 3.8 4.5
Source: Sislin (1993, p. 159).
to influence Israel. Table 7 shows the frequency of 191 arms influence attempts by US Presidential Administration. Although arms influence attempts are widespread, they are successful only part of the time. For example, Snider (1978, p. 262) says that his relationships do not always hold and Gelb (1976/77) shows examples of both US successes and failures in arms influence. Although these studies and others identify both successes and failures in arms influence attempts, they fail to solve the key puzzle: why are such practices successful only part of the time? Answering this question requires that the context of arms trade influence attempts be thoroughly examined. "The key question then becomes: What environmental, contextual, or intervening variables involved in the influence attempt are important in determining success?" [Sislin (1993, p. 4)]. 5.1. Sislin 's theory of arms influence success Sislin (1993) makes a major contribution toward identifying the determinants of arms influence successes by offering a theory of arms as influence. He considers two decision-makers: recipient and supplier that are assumed to behave as unitary actors [for caveats see Sislin (1993, pp. 47-48)]. Stage 1 has the recipient engaged in some behavior which the supplier does not approve of. In Stage 2, the supplier decides to manipulate arms exports to alter the behavior of the recipient. Finally, in Stage 3, the recipient decides how to respond to the supplier's influence attempt.
Although Sislin did not present his three-stage theory mathematically, it can be done as follows: Stage 1 Vs(c) > VS(nc), where VS(c) is the value to the supplier of compliance by the recipient; V(nc) is the value to the supplier of non-compliance by the recipient.
556
C.H. Anderton
Condition 15 is necessary for an arms influence attempt, but it is not sufficient. "It is possible, and frequently the case, that the costs of the influence technique, ... , would be so high as to lower the benefit the supplier receives from compliance to the point where more value could be obtained by simply doing nothing." [Sislin (1993, p. 47)]. Stage 2 (Supplier Decision Calculus) E [VS] = Pc V(c) +(1 - Pc) V(nc) - Cs(i) > VS(nc) where E[Vs] is the expected value to the supplier of an arms influence attempt; P,, probability of recipient compliance as perceived by the supplier; Cs(i), cost of influence attempt as perceived by the supplier. Ignoring risk preference, condition 16 is sufficient for an arms influence attempt. A variety of arms influence techniques might satisfy condition 16 [see Sislin (1993, pp. 51-54)]. Assuming that only Pc and Cs are functions of the arms influence attempt, the supplier chooses an arms influence instrument to maximize E[VS]. Stage 3 (Recipient's Decision Calculus) Vr(c) > Vr(nc) - PiCr(i),
(17)
where Vr(c) is the value to the recipient of compliance; Vr(nc), value to the recipient of non-compliance; Cr(i), costs to the recipient of arms influence instrument; Pi, probability that costs of arms instrument will actually be incurred. Ignoring risk preference, condition (17) is sufficient for the recipient to comply with the arms influence attempt. 5.2. Determinants of arms influence success What are the key determinants under which Equations (16) and (17) would hold, giving rise to arms influence success? Sislin (1993) addresses this question for the United States based on his data set of 80 successful influences out of 191 attempts over the 1950-1992 period. Table 8 lists the variables that Sislin identifies as possible determinants of arms influence success. Using a winnowing procedure on multivariate logit analysis, Sislin identifies the core determinants of arms influence success. He finds six variables that seem to play a significant role in the probability of successful influence: sanction type, policy, regime, hegemony, supplier arms, and alternate supplier. Sislin's (1993, p. 187) general conclusion is: "Influence attempts are more likely to succeed when (1) sanctions are positive (reward or promise) rather than negative; (2) the focus of the attempt is to alter the recipient's foreign rather than domestic policy; (3) the recipient is a civilian regime, not a military one; (4) the United States was more powerful in the world system; (5) the recipient receives more of its arms from the United States; and (6) the recipient has less alternative suppliers available to it." Sislin's research implies that arms influence success is not determined by one or two key variables, but by a set of variables which defines the context for a high probability
Ch. 18:
Economics of Arms Trade
557
Table 8 Possible determinants of arms influence successa I. Characteristics of influence attempt 1 Sanction type - supplier's sanction is positive or negative 2 Goal - supplier's goal is deterrence or compellence 3 Policy - supplier is attempting to alter recipient's foreign policy or domestic policy II. Characteristics of recipient A. Political 4 Regime - recipient state ruled by military elites or civilian elites 5 Recipient cohesion - recipient elites are cohesive or fragmented B. Military 6 Conflict - recipient engaged in international conflict or not 7 Security - recipient feels secure or insecure 8 Civil strife - recipient leaders face domestic conflict or domestic tranquility C. Economic 9 Resource - recipient's resource base 10 Indigenous arms - recipient's level of indigenous arms production III. Characteristics of interaction between recipient and supplier 11 Supplier arms - degree of dependence of recipient on supplier's arms 12 Trade - degree of economic interaction between supplier and recipient 13 Precedent - outcome of previous influence attempt (if any) IV. Characteristics of supplier 14 Supplier cohesion - supplier elites are cohesive or fragmented 15 Presidential style - active-positive US presidents versus other types V. System characteristics 16 Hegemony - trend of US hegemony 17 Cooperation - degree of friendliness or hostility between the US and USSR 18 Alternate supplier - number of alternative arms suppliers available to the recipient a
Source: Sislin (1993, pp. 108-109).
of arms influence success. Altering any one of the variables in the set has only a small impact on the probability of arms influence success. Sislin's results challenge some of the conventional wisdom in the arms influence literature. For example, the recipient's level of indigenous arms production is sometimes cited as a variable which diminishes a recipient's vulnerability to arms influence. Sislin finds that indigenous arms production is not a significant determinant of arms influence success or failure. Another example is the belief by some analysts that a nation involved in conflict is more likely to be influenced through weapons restraints. Sislin, however, finds that this variable is generally insignificant.
558
C.H. Anderton
5.3. Recipient influence Sislin (1993, pp. 196-200) identifies directions for future research: (1) test other suppliers, (2) consider other forms of influence attempts, (3) test the robustness of his work, and (4) comparative analyses of arms influence with other forms of influence. One direction of research that Sislin did not mention is recipient influence. The literature on arms influence generally presumes that the supplier has the leverage to initiate an arms influence attempt. Although the presence of alternative suppliers might diminish the recipient's vulnerability to the arms influence attempt, the action is still from the supplier to the recipient. It is possible, however, that the consumer of weapons could exercise foreign policy influence over the supplier. The economic perspective reminds us that a market is made up of two sides. Under conditions of pure competition or bilateral monopoly (or bilateral oligopoly, etc.), each side of the market might lack a clear path for creating arms influence. Other market structures (e.g., monopsony, oligopsony) might allow the buyer to levy influence on the seller. The arms trade literature to date, theoretically and empirically, has not investigated arms trade influence from the buyer to the seller. This part of the spectrum could be relevant in the immediate post-Cold War era which is often characterized as a "buyer's market". Nykvist (1995) has undertaken theoretical and case study research on arms trade foreign policy leverage from the buyer's side.
6. Concluding comments The international arms market experienced a dramatic structural change with the end of the Cold War. Economics has risen in importance, relative to geopolitics, in understanding the motivations and consequences of the arms trade. Nevertheless, there is surprisingly little theoretical and empirical development of the economics of arms trade. Almost the whole body of international trade theory remains untapped. It seems reasonable to conclude that the economics of arms trade is essentially an unexplored sub-field of defense economics, ripe for foundational theoretical and empirical contributions. Fields other than economics have contributed much to our understanding of arms transfers. A myriad of useful case studies exist, offering important insights and data on the geopolitics of the arms trade. Empirical sub-literatures on foreign policy leverage and the relationship between arms trade and conflict are now in place beckoning researchers to further develop these sub-fields. The international systems model of Harkavy (1975), Laurance (1992) and others is a useful theoretical and applied approach for understanding the geopolitics of arms transfers. Catrina (1994) identifies many arms trade research directions, including some on the economics of arms trade. At this point, the central problem of the arms trade literature, for both economists and geopolitical scientists, is how to go beyond the proliferation of policy position articles and descriptive studies (which are useful and important in their own right), to
Ch. 18: Economics of Arms Trade
559
a more solid base of theoretical and empirical models. A new theoretical synthesis of economics and geopolitics would represent a major breakthrough. The development of the economics of arms trade must move beyond its incipient stages for this synthesis to occur, but it seems that Levine, Sen and Smith (1994) have already taken steps in
this direction. Ultimately, it would be desirable to see theoretical and empirical work on the arms trade narrow the range of outcomes which are regarded as plausible.
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Grobar, L.M., E.M. Stern and A.V. Deardorff, 1990, The economic effects of international trade in armaments in the major western industrialized and developing countries, Defence Economics 1, 97-120. Harkavy, R.E., 1975, The arms trade and international systems (Ballinger, Cambridge, MA). Harkavy, R.E., 1987, Arms resupply during conflict: A framework for analysis, in: C. Schmidt, ed., The economics of military expenditures (MacMillan, London) 141-175. Harkavy, R.E., 1994, The changing international system and the arms trade, The Annals of the American Academy of Political and Social Science 535, 11-28. Hartley, K., 1987, Efficiency, industry and alternative weapons procurement policies, in: C. Schmidt, ed., The economics of military expenditures (MacMillan, London) 283-300. Johnson, J., 1994, Financing the arms trade, The Annals of the American Academy of Political and Social Science 535, 110-121. Jones, P.R., 1988, Defense alliances and international trade, Journal of Conflict Resolution 32, 123-40. Kemp, G., 1970, Arms traffic and Third World conflicts, International Conciliation 577, 1-77. Kiefer, D., 1988, Interstate wars in the Third World: A Markov approach, Conflict Management and Peace Science 10, 21-36. Kinsella, D., 1994, The impact of superpower arms transfers on conflict in the Middle East, Defence and Peace Economics 5, 19-36. Kolodziej, E.A., 1987, Re-evaluating economic and technological variables to explain global arms production and sales, in: C. Schmidt, ed., The economics of military expenditures (MacMillan, London) 304-335. Krugman, P., 1989, Industrial organization and trade, in: R. Schmalensee and R. Willig, eds., Handbook of industrial organization, Vol. 2 (North-Holland, Amsterdam) 1179-1223. Krugman, P., and M. Obstfeld, 1994, International economics: Theory and policy, 3rd edition (HarperCollins, New York). Laurance, E.J., 1992, The international arms trade (Lexington Books, Lexington, MA). Leiss, A.C., 1970, Changing patterns of arms transfers: Implications for arms transfer policies (Center for International Studies, MIT, Cambridge, MA). Leiss, A.C., G. Kemp, J.H. Hoagland, J.S. Refson and H.E. Fischer, 1970, Arms transfers to less developed countries (Center for International Studies, MIT, Cambridge, MA). Levine, P., S. Sen and R. Smith, 1994, A model of the international arms market, Defence and Peace Economics 5, 1-18. Majeski, S., and D. Jones, 1981, Arms race modeling: Causality analysis and model specification, Journal of Conflict Resolution 25, 259-288. Maniruzzaman, T., 1992, Arms transfers, military coups, and military rule in developing states, Journal of Conflict Resolution 36, 733-755. McGuire, M.C., 1987, US foreign assistance, Israeli resource allocation and the arms race in the Middle East: An analysis of three interdependent resource allocation processes, in: C. Schmidt, ed., The economics of military expenditures (MacMillan, London) 197-238. Milstein, J.S., 1972, American and Soviet influence, balance of power, and Arab-Israeli violence, in: B.M. Russett, ed., Peace, war, and numbers (Sage, Beverly Hills, CA) 139-166. Moodie, M., 1994, Constraining conventional arms transfers, The Annals of the American Academy of Political and Social Science 535, 131-145. Muller, J., 1967, The foreign aid programs of the Soviet bloc and Communist China (Walker, New York). Nachmias, N., 1988, Transfer of arms, leverage, and peace in the Middle East (Greenwood Press, New York). Neuman, S.G., 1986, The arms trade in recent wars: The role of the superpowers, Journal of International Affairs 40, 77-100. Neuman, S.G., and R.E. Harkavy, 1979, Arms transfers in the modern world (Praeger, New York).
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ECONOMICS OF ARMS TRADE* CHARLES H. ANDERTON College of the Holy Cross
Contents Abstract Keywords 1. Introduction 2. The structure of the international arms market 2.1. Arms imports 2.2. Arms exports 2.3. Structural change: end of the Cold War
3. Causes of arms trade 3.1. Economic causes 3.1.1. Supply and demand model 3.1.2. Neoclassical trade model 3.1.3. Trade models with economies of scale and learning economies 3.1.4. Imperfect competition and trade 3.2. Domestic political economy 3.2.1. Defense industrial base 3.2.2. Employment 3.3. Economic and political synthesis
524 524 525 527 527
529 531
534 535 535 536 539 541 543 543 544 546
4.1. Theoretical models of arms trade and conflict
547 548
4.2. Empirical studies
550
4.3. Case studies
553
4. Arms trade and conflict
5. Arms trade and foreign policy influence
554
5.1. Sislin's theory of arms influence success 5.2. Determinants of arms influence success 5.3. Recipient influence
555
6. Concluding comments References
556 558
558 559
* I am grateful to Todd Sandler for comments and encouragement on earlier drafts of this chapter, Roxane Anderton and Joseph Smaldone for extensive bibliographic help, and Daniel Gallik for valuable assistance with the arms trade data. Handbook of Defense Economics, Volume 1, Edited by K. Hartley and T Sandler © 1995 Elsevier Science B. V All rights reserved
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Abstract The end of the Cold War has increased the relative importance of economic causes and consequences of arms transfers. Unfortunately, there is surprisingly little theoretical and empirical development of the economics of arms trade, making it a sub-field of defense economics ripe for foundational contributions. We offer some preliminary steps in this direction by applying simple international trade models to the arms trade. Fields other than economics have made major contributions to our understanding of arms transfers. We review the sub-literature on arms transfers and foreign policy leverage as well as the sub-literature on the relationship between arms trade and war. The central problem of the arms trade literature, for both economists and geopolitical scientists, is how to go beyond the proliferation of (albeit useful) policy position articles, to a more solid base of theoretical and empirical models. A new theoretical synthesis of economics and geopolitics would represent a major breakthrough, but the development of the economics of arms trade must move beyond its incipient stages for this synthesis to occur. Ultimately, it would be desirable to see theoretical and empirical work on the arms trade, narrow the range of outcomes which are regarded as plausible.
Keywords alliances, arms export restraint, arms trade, arms transfers, COCOM, conflict, Cold War, co-production, defense industrial base, defense industry, economic causes, economies of scale, employment, foreign policy influence, geopolitics, imperfect competition, information systems, intra-industry trade, learning economies, preemption, trade theory
Ch. 18: Economics of Arms Trade
525
1. Introduction Weapons have been traded across national and territorial borders throughout human history. In the last one hundred years, the arms trade passed through six major phases, the historical attributes of which are summarized by Gerner (1983, p. 7) in Table 1 below. To the six phases identified by Gerner, we must now add a seventh: the postCold War arms trade. The end of the Cold War ushered in a dramatic structural change to the international arms market. For the first time in half a century, arms transfers are no longer viewed through the prism of superpower politics; economics now plays a central role in understanding the motivations and consequences of arms transfers. Of course, politics still matters in understanding the weapons trade; not only the politics of defense firms lobbying government officials to promote weapons exports (which can be viewed as "economic" under the rubric of public choice), but the geopolitics of transfers, i.e., nations using weapons sales as instruments of foreign policy in the international system. The usual starting point in the literature is that the arms trade is a geopolitical phenomenon, subject to domestic political variables, occurring interdependently with other segments of the international system [Pierre (1982), Catrina (1988), Harkavy (1975)]. One of the weaknesses of the geopolitical arms trade paradigm was that until the 1970s, it was essentially non-explanatory. The literature was dominated by three types of studies: descriptive compilations of data, case studies, and journalistic accounts, often condemnatory [Gerner (1983, p. 18)]. While many of the studies provided useful information about arms transfers in specific cases, in general, there was little systematic development of a theoretical structure and therefore little cumulative effort. There were some important exceptions to the atheoretical, non-cumulative approach. Some works in the 1970s were conducive to a cumulative effort: e.g., Leiss (1970), Leiss et al. (1970), SIPRI (1971), Stanley and Pearton (1972), and Harkavy (1975). Although Harkavy (1994, p. 12) sees his theoretical approach falling into disuse, his international systems approach is considered by some to be a methodological landmark in arms trade research [see, e.g., Laurance (1992, p. 12); Gerner (1983, pp. 19-20)]. According to Laurance (1992, p. 12), Harkavy linked the arms trade to the larger international system and focused on system change, thus providing a methodological approach that can be used to explain further shifts in the system. A few other theoretical and empirical works focused on specific issues like the relationship between arms transfers and war [e.g., Milstein (1972)] and were conducive to a cumulative effort. A second weakness of the geopolitical paradigm is its failure to promote a systematic empirical and theoretical treatment of the economics of arms trade. Economists have not adequately filled the gap. There are a few studies on the arms trade by economists, e.g., the economic impacts of arms trade [Grobar et al. (1990), Bajusz and Louscher (1988)], fungibility of military and civilian aid [Frey (1975), Ferejohn (1976), McGuire (1987)], motives for arms transfers [Smith et al. (1985), Levine et al. (1994)], and a review of the arms trade literature [Sandler and Hartley (1995, ch. 10)]. These works are exceptions to the general rule that economists have not seriously examined the arms
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Ch. 18: Economics of Arms Trade
527
trade. This is unfortunate because economists have much to offer in understanding the causes and consequences of arms transfers. A large body of international trade theory remains untapped. Even during the Cold War, non-economists cited the importance, albeit secondary, of economic motivations for arms transfers [e.g., Stanley and Pearton (1972, ch. 6); Pierre (1982, p. 24); Ferrari et al. (1987, pp. 63-66)]. With the end of the Cold War there has been an increase in the relative importance of economic causes and consequences of arms transfers. This chapter is about the economics of arms trade. Our aim is to review the half dozen or so major topics in arms trade research, but with a hefty bias toward economic aspects of the trade. Despite our emphasis on the economics of arms trade, our intention is not to discount geopolitics; it is crucial for understanding arms transfers. The relative research gaps in the arms trade literature, however, lie more in economics than geopolitics. In Section 2 we describe the major trends in the international arms market over the past twenty years. The primary economic impacts of the end of the Cold War on the arms market are woven throughout our data analysis in Section 2. In Section 3 we explore the causes of arms trade, primarily in the context of international trade theory. In Sections 4 and 5 we move to empirical and theoretical studies of selected geopolitical topics. The relationship between arms trade and conflict is explored in Section 4. In Section 5 we cover the relationship between arms trade and foreign policy leverage. Concluding comments are offered in Section 6.
2. The structure of the international arms market The decline of the Cold War led to a precipitous drop in the world arms trade. Figure 1 shows the trend in arms deliveries in constant 1993 dollars over the 1983-1993 period. The real volume of weapons trade reached a peak in 1984, fell for two years, rose in 1987, then declined by over two-thirds up to 1993. World arms sales agreements also declined substantially from a peak of $69.8 billion in 1985 to $38.0 billion in 1993 in nominal terms [US ACDA (1993/94)]. From 1992 to 1993, however, arms sales agreements rose in nominal terms from $28.7 billion to $38.0 billion [US ACDA (1993/94)]. Since arms sales agreements reflect probable future arms sales deliveries, the recent increases may signify that the volume of world arms trade has bottomed out and may start increasing. The major source of the increase in arms export agreements from 1992 to 1993 was the United States, whose nominal export agreements more than doubled from $13.5 billion in 1992 to $28.3 billion in 1993. 2.1. Arms imports The decline in the volume of world arms trade over the last ten years is reflected in regional breakdowns. Arms imports fell in both the developed and developing countries. Real developing country arms imports fell from a peak of $60.8 billion
528
C.H. Anderton
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Year Figure 2. Arms imports by selected region, 1983 1993 [US ACDA (1993/94)].
in 1984 to $17.2 billion in 1993 while real developed country imports fell from a peak of $16.4 billion in 1986 to $4.8 billion in 1993 [US ACDA (1993/94)]. Figure 2 shows real arms imports by selected region over the 1983-1993 period. From 1990 to 1993, dramatic reductions occurred in the weapons imports of all regions.
Ch. 18: Economics of Arms Trade
529
Table 2 Arms import share by selected regional, 1973, 1983, 1993 (in percent) Region
1973
1983
1993
Middle East Europe, All Western Europe Eastern Europe East Asia South Asia Africa North-America South-America Central America & Caribbean
28.4 26.0 31.1 3.4 3.6 -
40.4 20.0 9.7 10.2 9.6 4.7 14.2 3.0 3.7 3.4
42.6 20.8 15.9 4.9 12.4 2.1 1.3 7.4 1.0 0.7
a
-
Source: US ACDA (1984, 1993/94).
In addition to dramatic declines in the arms imports of regions, there have been significant changes in the distribution of arms imports. Table 2 shows regional arms import shares, comparing 1973, 1983, and 1993. The Middle East has dramatically increased its import share from 28.4% in 1973 to 42.6% in 1993. Europe is the second largest region in import share even though it has declined from 26.0% in 1973 to 20.8% in 1993. East Asia had a decline in import share from 31.1% in 1973 to 9.6% in 1983 (due, primarily, to the end of Vietnam hostilities). Since 1983, East Asia's import share has risen to 12.4%. Africa has significantly decreased its share of weapons imports since 1983, from 14.2% to 1.3% in 1993. In 1971, South Vietnam, West Germany, Egypt, Iran and North Vietnam had the highest arms import shares, primarily reflecting the geopolitical rivalry between the USA and USSR. By 1981, the top four importers were from the Middle East: Iraq, Libya, Saudi Arabia and Syria. By 1991, Saudi Arabia held the dominant share of the world's arms imports, followed by Afghanistan, the USA and Iran. It is likely that Iraq would have been the second largest arms importer in 1991, but for the Gulf War embargo. 2.2. Arms exports The dramatic reductions in arms imports, of course, are reflected in the arms export data. Real developed country arms exports fell from a peak of $66.7 billion in 1987 to $20.2 billion in 1993 while real developing country arms exports fell from a peak of $10.5 billion in 1984 to $1.8 billion in 1993 [US ACDA (1993/94)]. Developed countries continued to be the major exporters of weapons, providing more than 90% of world arms exports in 1983 and 1993.
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CH. Anderton
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Year Figure 3. Arms exports by selected region, 1983-1993 [US ACDA (1993/94)]. Table 3 Arms export share by selected regional, 1973, 1983, 1993 (in percent) Region
1973
1983
1993
Middle East Europe, All Western Europe Eastern Europe East Asia South Asia Africa North America South America
0.2 59.6
0.7 70.5 23.5 46.9 5.2 0.6 0.2 22.6 0.4
1.0 45.1 32.2 12.8 5.0 0.0 0.6 47.9 0.3
a
1.9 0.0 0.0
Source: US ACDA (1984, 1993/94).
Figure 3 shows real arms exports by selected region over the 1983-1993 period. Beginning in the late 1980s, significant reductions took place in the arms exports of all regions. Arms export market share by major region is shown in Table 3. Europe and North America dominated the arms export market in 1983 and 1993, accounting for greater than 90% of export market share. The market share of Eastern Europe declined dramatically between 1983 and 1993, due primarily to the breakup of the Soviet bloc. The market shares of the four major arms exporters from 1983-1993 are shown in Figure 4. The decline in market share in the USSR/CIS is dramatic. Many believe that the CIS's loss of market share is due to the relatively poor performance of Soviet weapons in the Gulf War and buyer perceptions that the CIS cannot provide adequate after-sales services for weapons given its recent political turmoil. In 1993, two developing countries were among the top ten weapons exporters: China and Israel [US ACDA (1993/94)]. With roughly $950 million in arms exports in 1993 (4.3% of market share), China has emerged as one of the top five or six weapons
531
Ch. 18: Economics of Arms Trade I30
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Year Figure 4. Arms export market share, 1983-1993 [US ACDA (1993/94)].
exporters in the world. Although Israel is in the top ten of weapons exporters, its market share was less than one percent. Another perspective on the arms trade is to consider the types of weapons transferred. Table 4 shows the supplies of major weapons to developing countries broken down by major weapons category and selected suppliers over the 1991-1993 period. The Soviet Union/Russia and the United States dominated the delivery of major weapons systems to developing countries over this period. France had a substantial presence in land armaments and missile exports to developing countries. China was a major deliverer of land armaments, especially artillery, and supersonic aircraft. 2.3. Structural change: end of the Cold War We can gain insight into the structural changes emerging in the international arms market by considering the four major arms trade submarkets identified by Catrina (1988, p. 42): industrial supplier and industrial recipient (submarket 1), industrial supplier and developing recipient (submarket 2), developing supplier and developing recipient (submarket 3) and developing supplier and industrial recipient (submarket 4). According to Catrina, the highest volume of arms trade occurs in submarket 2, followed by submarkets 1, 3 and 4. The highest level of arms trade sophistication (i.e., technology) occurs in submarket 1 followed by submarkets 2, 4 and 3. Catrina's volume of trade rankings are borne out by SIPRI data for the 19881992 period [see SIPRI Yearbook (1993, p. 444)]. His descriptive analysis of the levels of weapons technology occurring in the four submarkets is persuasive. Submarket I is dominated by highly sophisticated arms transfers among industrialized countries which are often allies. The second submarket generally varies widely in technological sophistication, but some highly sophisticated weapons pull up the average, e.g., F-14s, F-15s, F-16s, MIG-23s, MIG-25s, MIG-27s, MIG-29s, Mirage 2000s, Tornados and AWACs [Catrina (1988, p. 43)]. The fourth submarket (ranked third in sophistication) is a recent phenomenon in the arms market. Catrina (1988, p. 44) provides two examples of somewhat sophisticated weapons transfers from
CH. Anderton
532
Table 4 Number of arms delivered, cumulative 1991-1993, by selected supplier, all developing country recipients, and major weapon typea China
USSR/ Russia
USA
France
UK
920 610 1200
470 175 713
60 380 30
70 80
380 1300 20
Naval craft Major surface vessels Other surface vessels Submarines Missile attack boats
2 6 4 -
10 -
2 12 -
4 12 -
4 12
Aircraft Combat - supersonic
60
208
10
20
130
-
51
-
20
-
Helicopters Other aircraft
110 40
90 39
60
10 30
60
Missiles Surface-to-air
880
986
1310
330
100
Weapon type
Land armaments Tanks Artillery Armored personnel carriers and armored cars
Combat - subsonic
a
2
Source: US ACDA (1993/94).
developing to industrial countries: Brazil's T-27 trainer aircraft sale to the United Kingdom and Israel's lease of Kfir aircraft to the USA. The third submarket (ranked fourth in sophistication) has long been characterized by retransferred weapons of relatively low sophistication. More recently, indigenous production and export of fairly sophisticated arms from developing countries to other developing countries has emerged as an important, though hardly dominant feature of the overall arms market. For example, Brazil exported no weapons until 1975 [US ACDA (1971-1980, p. 83)]. Brazil has emerged as one of the top ten exporters of major conventional weapons to developing countries. Over the 1988-1992 period, Brazil was the ninth leading major conventional weapons exporter to the developing world [SIPRI Yearbook (1993, p. 444)]. Developing nations received 99% of Brazil's major conventional exports over that period. The end of the Cold War implies far more than a relative shift in the weights attached to economic and political motivations for arms transfers. The nature of the international arms market has fundamentally changed along a number of dimensions that will reshape the arms trade in the four submarkets. The dramatic reduction of superpower competition in various regions has led to the virtual elimination of arms aid by the
Ch. 18: Economics of Arms Trade
533
USA and Russia [Johnson (1994, p. 111)]. Recipients must now pay full price for their weapons systems and they have become choosier consumers. Developing countries cannot afford the most expensive weapons systems, but instead have increased their demand for upgrades. Industrial nations are demanding the best that money can buy -not only technologically sophisticated weaponry and upgrades but also guarantees of effective after-sales service, training, and access to reliable spare parts. It is likely that the average sophistication in each of the four arms trade submarkets will rise as arms producers and governments compete to bolster sales in a leaner world market. The reduction of superpower competition has also led to lower military budgets in many regions of the world. Cuts in military procurement tend to increase the unit costs of weapons production. Many nations look to weapons exports to increase production runs, lower unit costs and maintain defense industrial bases. But all nations cannot be successful in increasing weapons exports in a declining market. Competitive pressures will force some nations to cancel indigenous weapons programs and rely more on imports. Some nations will be forced to specialize in a narrower range of weapons exports (e.g., Israel in aircraft and missile defense, Germany and Sweden in naval systems). A few nations may establish niches in high technology systems for customers that most Western nations would not supply (e.g., Russia, China, North Korea to customers like Iran, Syria, Libya, Iraq). The competitive international arms market will hurt the ability of France, the United Kingdom and the United States to sell a broad range of weapons systems. It is likely that only the United States and possibly a revitalized Russia will be able to maintain a defense industrial base over the full range of advanced weapons systems. One response of defense firms facing more stringent competitive pressures is to merge or form alliances with other defense firms, domestic and foreign [see SIPRI Yearbook (1993, p. 434 and p. 441) for US arms industry mergers and joint ventures in 1992 and Sk6ns and Wulf (1994, p. 51) for international projects of the Russian military aerospace industry in 1992 and 1993]. Global partnerships among defense firms allows them to share the expense of research and development of new weapons systems. For sophisticated weapons, the research and development costs are often too much for one firm to bear alone. Mergers and alliances also enhance the ability of the defense firms to market weapons systems in their partners' countries. The post-Cold War international environment is also testing old alliance patterns between nations, leading to the emergence of new alliances, formal and informal. The changing world order is characterized by a greater presence of multilateral peacekeeping and humanitarian aid operations. The use of coalition forces in places like Iraq, Somalia and former Yugoslavia imply further development of inter-operable forces between nations. A partnership between defense firms in various countries can be better positioned to meet this new demand than a single defense firm. New security-sharing arrangements based on multilateral approaches, when combined with declining defense budgets and political pressure from defense workers and firms to maintain production, leads to further demands for co-developed and co-produced weapons systems and
534
C.H. Anderton
various payments restrictions (e.g., offsets, barter, debt reduction) rather than outright imports. The new arms trade environment emerging from the remnants of the Cold War also has important implications for arms trade restraint. During the Cold War, the Coordinating Committee for Multilateral Export Controls (COCOM) was formed by the United Sates and other Western nations to keep defense-related products and computer technology from the Eastern Bloc nations. Today, Western nations are encouraging economic development of their former adversaries and COCOM has been dissolved. This will lead to sophisticated technology transfers from West to East (and some from East to West) which could ultimately improve the defense industrial bases and sophistication of weapons exports from Eastern nations. Russia may be relatively uninterested in arms export restraint in light of its dwindling market share and its suffering defense industrial base. Although the end of the Cold War led to an initial optimism regarding arms export restraint, there are potent economic and political forces creating skepticism about future prospects for restraining the arms trade [Moodie (1994)]. While the new market will be characterized by a lower quantity of arms sales, the quality of the arms transfers will continue an upward trend which was empirically observed by Baugh and Squires (1983a). Carus (1994) considers the possibility that revolutionary changes in the technology of war may lead to a fundamental transformation of the international arms trade, perhaps as significant (or more so), than the structural shock associated with the end of the Cold War. The new technology of war could be more information-intensive than previously imagined, relying on advanced sensors, communications, data processing, long-range precision guided weapons and advanced simulation techniques. If this view is correct, dual-use equipment could become central to military capability. While specialized defense hardware would remain an important component of military capability, dual-use equipment could become a dominant feature of the arms trade. As a result, it would become more difficult to track and control the trade in militaryrelated equipment. Even the traditional arms trade data generated by US ACDA and SIPRI might have to be re-thought in order to more fully incorporate the transfer of information systems and technology [Carus (1994, p. 174)].
3. Causes of arms trade Bajusz and Louscher (1988, pp. 13-15) identify the following causes of arms trade: maintenance of indigenous defense industries, economies of scale, R&D cost savings, defense industry employment, increased trade balance, access to hard currency, foreign policy influence over recipients, maintenance of local power balances, promotion of internal security of recipients, stronger allies, and inter-operability of weapons between allies. While it is fairly easy to list causes of the arms trade, it is much more difficult to develop theoretical and empirical frameworks which discern the relative importance of causal variables in an economic and political context. There has been relatively little
535
Ch. 18: Economics of Arms Trade
systematic cumulative theoretical and empirical work on the causes and consequences of arms trade. Indeed, some scholars believe that such work may not even be possible: "The subject [of arms transfers] is quite probably of a complexity well beyond the level where one might contemplate tight causal models, and explicitly set forth formal relationships between sets of dependent and independent variables." [Neuman and Harkavy (1979, p. 315)]. While the Neuman and Harkavy position might be true for some segments of the arms trade, it is unlikely to be true generally. Our failure to date to develop explicit sets of formal relationships between dependent and independent variables in the arms trade is due primarily to a lack of trying. For example, when considering the economic causes of the arms trade, a large body of international trade theory remains untapped. This is unfortunate given the variety of models applicable to the arms trade and the insights which can be gleaned from applications of international trade theory. 3.1. Economic causes Traditional international trade theory through the late 1970s was a "powerful monolithic structure in which all issues were analyzed using variants of a single model." [Krugman (1989, p. 1214)]. The new literature of the last fifteen years has broken the grip of a single international trade model by emphasizing economies of scale and imperfect competition. Increasingly, international trade is a field where many models are taught and research is an eclectic mix of theories. 3.1.1. Supply and demand model Assume that conditions are met for a perfectly competitive international arms market between two countries: Rongovia and Mendac [see Alexander et al. (1981, p. 23)]. The market in linear form is: Rongovia: Mendac:
Wr = ao - alPr, Wm = co - clP ,
Ws = bo + blPr, W m = do + dlP m ,
(1)
where Wr, W, WTm, W m are the domestic demand and supply of weapons with respective superscripts for Rongovia and Mendac, pr and pm are the domestic prices of weapons in Rongovia and Mendac, and the other terms are parameters where ao, co, bl,dl >0, al,cl > 0, and bo , do 0. Assume that Rongovia's autarky price is lower than Mendac's. The export supply and import demand schedules are respectively: ES = W - W = (bo - ao) + (b + al)P,
(2)
ID = W - W
(3)
= (co - do) - (ci + dl)P,
536
C.H. Anderton
where P is the world price of weapons. The equilibrium free trade world price, P*, and weapons trade volume, W*, are: (co - do - bo + ao) (ai +bl +cl +dl)'
(4)
W* = (bo - ao) +(bl +al)P*.
(5)
p*
The arms trade volume is determined by the variables which define the domestic demands and supplies of the two countries. Domestic demand for a country is defined by: (1) the strength and stability of its perceived external and internal threats; (2) plans for military action; (3) national income; (4) supply of foreign exchange (if importing); and (5) supply of substitutes for countering perceived threats or carrying out military action, e.g., the strength and reliability of allies [Alexander et al. (1981, pp. 7-8)]. Domestic supply for a country is defined by: (1) price of resources, (2) technology, and (3) price of alternative goods which could be produced. Even the simple supply and demand model challenges conventional wisdom in the arms trade literature. For example, some arms trade scholars take a condemnatory "merchants of death" view of the arms trade [e.g., Engelbrecht and Hanighen (1934)]. These scholars implicitly or explicitly assume a positive relationship between the volume of arms trade and the volume of arms in the international system. Since a nation's international arms transactions and indigenous arms production are jointly determined economic activities, a positive relationship between the volume of arms trade and volume of arms in the international system does not necessarily hold. For example, an increase in Rongovia's domestic demand reduces the volume of arms trade but increases indigenous weapons production in each country leading to more weapons in the system. Alexander et al. (1981, pp. 12-13) find empirical evidence of this for the United States during the primary Vietnam buildup years 1966-1968: as US domestic demand for weapons rose, US weapons production increased while its weapons exports decreased. Obversely, a fall in Rongovia's domestic demand increases the volume of arms trade but lowers indigenous weapons production in each country, leading to less weapons in the system. 3.1.2. Neoclassical trade model Figure 5 illustrates a free trade equilibrium between Rongovia and Mendac where (Pw/Pf), terms-of-trade price of weapons relative to food; (Pw/Pf)R, (Pw/Pf)M, autarky relative prices in Rongovia and Mendac; R*, M*, autarky points of Rongovia and Mendac; Rp, Mp, production points of Rongovia and Mendac with trade; Rc, Mc, consumption points of Rongovia and Mendac with trade. Rongovia has a comparative advantage in weapons and Mendac in food. Rongovia exports A-B weapons and imports C-B food; Mendac is the other side of the trade. The volume of weapons trade and the relative price of weapons are determined by the three key variables of the neoclassical model: tastes, production technology,
Ch. 18: Economics of Arms Trade
537 -
o...Ioft rlr I
t t
Food
Weapons Rongovia
Weapons Mendac
Figure 5. Neoclassical trade model.
and resource endowments. Tastes depend on perceived external and internal threats, reliability and strength of allies, and plans for military action. In the Heckscher-Ohlin model, production technology and tastes are assumed to be identical between nations. Differences in factor endowments between nations explains the volume and terms of trade. For example, if weapons production is capital-intensive and Rongovia is capital abundant, the Heckscher-Ohlin theorem predicts that Rongovia will export weapons. The Stolper-Samuelson theorem relates international trade and real factor rewards. According to the Stolper-Samuelson theorem, the factor used intensively in the rising price industry has an increase in real rewards. The opening of trade between Rongovia and Mendac causes the relative price of weapons to rise in Rongovia and fall in Mendac. Assuming that weapons are capital-intensive, real returns to capital owners rise in Rongovia and fall in Mendac. A short-run variation of the neoclassical model, the specific factors model, assumes that one or more factors are specific to an industry while one or more other factors are mobile between industries within each country. For example, Rongovia might have capital specific to weapons production, capital specific to food production, and labor which is mobile between food and weapons. Starting from a free trade equilibrium in Rongovia, a shift in tastes away from weapons would cause the real rewards of weapons capital to decline and the real rewards of food capital to increase. There is an ambiguous effect on the real returns to labor. Figure 5 holds constant the other countries that influence the tastes of Rongovia and Mendac (e.g., enemies and allies). These countries could be built into an extended general equilibrium framework where arms race and alliance impacts are endogenous. For example, Jones (1988) examines the impact of alliance formation on the arms trade. In Figure 6 assume that Rongovia and Mendac are identical in every respect, have homothetic preferences, and are "small", i.e., price takers on the world market. (Pw/Pf)0 is the world relative price of weapons and PPFR and PPFM are the production
538
CH.Anderton Food
weapons
Weapons Mendac
Rongovia
Figure 6. Trade creation impact of alliance formation.
possibility frontiers of Rongovia and Mendac, respectively. Prior to alliance formation the countries produce and consume at R*, M* under free trade. Since the world price is the same as the autarky prices of both countries in this particular example, there is no trade. This special case allows Jones to isolate the pure impacts of alliance formation on trade in the small country case. When Rongovia and Mendac form an alliance the spill-over effects shift the consumption possibilities for both countries out to CPFR and CPFM. Since world price is given, production remains at R* and M*, but excess supplies of defense goods emerge in each country. Rongovia exports R*A of defense goods and imports AB in food from the rest of the world (i.e., nonallies). A similar opportunity exists for Mendac (not shown). Rongovia's consumption at Rc is made up of OFR of food, FRB of domestically produced weapons which were not exported, and BRc of implicit provision of weapons spilling over from the alliance with Mendac. The alliance has created weapons exports as well as trade in food. If Rongovia and Mendac were "large", either individually or jointly, the new weapons exports resulting from their alliance would lower the relative world price of weapons. World production of weapons would fall with the lower price. Many other variations of the Jones model are possible [see Jones (1988, pp. 133-138)]. The neoclassical model highlights the general equilibrium nature of arms trade. The arms trade is co-determined with weapons and non-weapons production and trade and factor markets in both countries. The interdependence of these markets are significantly influenced by alliances and arms races. The neoclassical model predicts that a country will trade with other countries that are different from itself in factor endowments, production technology or tastes. For example, from 1981-1991 the United States exported $3.6 billion of arms to Latin America while Latin America exported essentially zero weapons to the United States [US ACDA (1991/92, p. 138)]. Focusing on purely economic motivations, the Heckscher-Ohlin theory offers a possible explanation of the "North-South" trade in weapons between the USA and Latin America: the capital abundant US exports
Ch. 18: Economics of Arms Trade
539
capital-intensive weapons to labor abundant Latin America in return for labor-intensive civilian goods. The Heckscher-Ohlin prediction of US-Latin weapons trade seems plausible, but even if it received empirical support it would not be general because much of the weapons trade occurs between countries which are similar in relative factor endowments, production technologies and tastes. For example, from 1987-1991 the United States exported $2.8 billion in weapons to West Germany and imported $1.1 billion in weapons from West Germany [US ACDA (1991/92, p. 132, 134)]. This is intra-industry trade, i.e., two-way trade of differentiated products within a broad product group. The Intra-Industry Trade Index (IIT) can be used to gauge country i's intra-industry trade in arms: aims- I
(6
IExportsans - Importsrs Exports/ + mportrm s
.
If IIT = 0, then intra-industry trade is not present. If IIT = 1, then a nation's exports and imports of weapons are equal implying the highest degree of intraindustry trade. Some intra-industry trade indexes for selected countries based on 19871991 US ACDA data are as follows: United States=0.30, United Kingdom=0.25, Brazil = 0.66, Columbia = 0, Greece = 0.05, Switzerland= 0.76. The indices imply that intra-industry weapons trade is prevalent in the world economy. 3.1.3. Trade models with economies of scale and learning economies Arms trade scholars believe that some weapons production processes are characterized by economies of scale. Given fixed input prices, economies of scale lead to lower unit costs when output levels are increased. This is shown by the average cost (AC) curve in Figure 7. Figure 7 shows why economies of scale can be such a powerful motivation for weapons exports. Let Dd represent a perfectly inelastic domestic demand curve for $ unit costs L
d
D
ac1= P1 pC
i
ac 2
_., -
-'
AC I-
f 1
f2
fighters
Figure 7. Economics of scale motivation for weapons exports.
540
C.H. Anderton
fighter aircraft. Pi is the "controlled price" set by the government buyer of fighters. The weapons producer is capturing revenues (PI f l) just equal to total costs (total costs include normal profits). If the weapons producer increases its production to f2 it will reap lower unit costs due to economies of scale (acl to ac 2 ). This will improve the cost competitiveness of the weapons producer, enhancing its ability to export weapons. In the figure, weapons exports equal f2 -fl. If PI is the price of fighters on the world market and the government lowers the price it pays for domestic needs to P, both the government and the weapons producer gain from weapons exports. The government's "defense burden" for fighters falls from P flI to PI fl. The weapons producer receives "above normal" profits equal to (PI f2) - (a' 'f2). Using a cross-sectional pooled times series analysis, Snider (1987) found that arms exports significantly lowered the defense burdens of Great Britain, France and West Germany. The average yearly procurement savings from arms exports for each country ranged from $844 million to about $1 billion. See also Kolodziej (1987) for a discussion of the perceived procurement benefits to industrialized and developing countries from arms exports. If economies of scale were fully exploited in the global economy, each country would specialize in producing a limited range of weapons systems. For example, Germany might specialize in naval systems and Israel in aircraft and missile defense. If each country produces only a subset of the weapons systems, then weapons are produced more efficiently than if each country tried to produce everything for itself. The result would be greater production of each weapon system in the world economy. The specialized economies would then trade with each other to consume the full range of weapons. Hartley (1987, pp. 297-298) estimated that NATO weapons standardization policies, which led to economies of scale and gains from trade, likely reduced unit costs by at least 20%. Further savings were available through the elimination of duplicate R&D and from economies in life-cycle costs [Hartley (1987, p. 298)]. Of course, weapons are not the same as civilian goods. For security or domestic political reasons, most nations restrict weapons exports or produce a wider subset of weapons than suggested by a free trade economies of scale model. For example, the USA accepted scale economy sacrifices to maintain production sources for its Sidewinder, Maverick, and Sparrow missiles and for Los Angeles and Trident submarines [Scherer and Ross (1990, p. 529)]. This allowed the USA to have a substantial and diverse industrial base in these weapons systems as well as a capacity to maintain competitive bidding over the weapons. Despite many examples of unspecialization in weapons production throughout the world, economies of scale provides a strong motivation for specialization and trade in weapons. Learning economies (also known as dynamic increasing returns or dynamic scale economies) are present when unit costs fall with cumulative production over time, rather than with the current rate of production [Krugman and Obstfeld (1994, p. 144)]. If a nation has extensive experience in an industry, it may have lower unit costs than an inexperienced nation even if the inexperienced country's learning curve is
Ch. 18:
Economics of Arms Trade
541
lower because of lower input prices. Dynamic scale economies can thus "lock in" an initial advantage or head start in an industry [Krugman and Obstfeld (1994, p. 144)]. Weapons exports can be an effective mechanism for a nation to accumulate experience in weapons production, garnering lower unit costs through learning effects. The lower unit costs, as with economies of scale, imply the two-fold benefit to the weapons exporter: (1) lower defense burden for the domestic country's weapons acquisition and (2) lower unit costs which further enhances weapons export competitiveness. 3.1.4. Imperfect competition and trade Economies of scale, learning economies and intra-industry trade of differentiated weapons generally imply imperfectly competitive market structures: monopolistic competition, oligopoly or monopoly. In imperfectly competitive markets for differentiated weapons systems, a nation that produces a wide variety of weapons will not reap the scale advantages that could be gained from larger production runs over a narrower range of weapons. On the other hand, a nation that pursues large production runs over a narrow range of weapons gains the scale advantages but has a limited variety of weapons. Weapons trading improves the scale/variety tradeoff for nations. Krugman and Obstfeld (1994) develop a monopolistic competition model of trade that is applicable to the international arms market. Assume that there are n symmetric weapons firms, i.e., the demand and cost functions are identical for all firms, even though they are producing and selling somewhat differentiated products. The average cost of each firm depends on the size of the market and the number of firms in the industry: AC= (n. F) +c,
(7)
where AC, average cost of weapons production; F, fixed cost; S, total weapons sales of the industry (in physical units); c, firm's marginal cost. Equation 7 implies that average costs are higher the more firms there are in the industry (since with more firms, each produces less). The upward-sloping relationship between n and the average cost is the CC schedule in Figure 8. Krugman and Obstfeld also derive a relationship between the number of firms in the industry and the price charged by each firm: P'c+
6nl
(8)
where P, price charged by each firm; b, parameter measuring the sensitivity of each firm's market share to the price it charges. Equation 8 implies that the more firms there are in the industry, the lower the price each firm will charge. The downward-sloping relationship between P and n in Figure 8 is the PP curve.
C.H. Anderton
542 Price, P
_,_.
-
firms, n Figure 8. Monopolistic competition model of weapons trade.
Figure 8 is a monopolistically competitive model of production, consumption and trade. The equilibrium number of firms is n* and the equilibrium price charged by each firm is P*. P*=AC* reflects the long-run zero-profit equilibrium. Trades in differentiated weapons (not shown) are the differences between each firm's total weapons sales and its weapons sales to its home country. The integrated market of Figure 8 supports more firms, each producing at a larger scale and selling at a lower price, than national markets alone [Krugman and Obstfeld (1994, p. 128)]. The end of the Cold War led to a decline in the quantity of weapons demanded in the world market. This led to decreases in total weapons sales S (see Figure 1) that shifts the CC curve to the left in Figure 8. The "shakeout" in the world defense industry causes n to fall from n*to n2 . The surviving firms each produce smaller weapons quantities at higher prices, even though overall demands for weapons have fallen. The new long-run equilibrium of P=AC occurs at higher price P2 because lower production runs raise average costs. In the high technology weapons markets (e.g., fighters, missiles, submarines), smallgroup oligopoly is more applicable than large-group monopolistic competition. With oligopoly comes the potential for collusion and strategic behavior. Firms can raise profits through explicit or tacit collusion. Co-production or co-development weapons agreements are often driven by political considerations, but they also may be motivated by gains from collusion. Strategic behavior, i.e., actions that affect the behavior of competitors in desirable ways, might lead firms to accept lower profits to deter entry of a rival or governments to subsidize its weapons manufacturers to shift profits and unit cost competitiveness from foreign to domestic firms. Figure 9 provides a typology of the arms trade in terms of weapons type, trade theory, submarkets, and number of suppliers.
Ch. 18: Economics of Arms Trade
543 A
Few Suppliers
I Submarkets 1 23
Oligopoly Trade Theories
I I
/ S
/
PGMs, aircraft carriers, sophisticated submarines, I --.Zenth
.\
helicopters
~~~~~~~~~~~~~~~~~~~~~I I
Monopolistic Competition Trade Theories
/ Slow fighter aircraft, transport aircraft, detection
technologies, military communications systems, large destoyers, submarines, frigates, transport helicopters, tanks, howitzers, night vision technology
All submarkets
I Many suppliers
/
Mortars, rifles, machine guns, grenades, jeeps, trucks,
F
Competitive Market Trade Theories . supply & demand neoclassical model
ammunition, minelayers and minesweepers, patrol boats, gun boats, light helicopters, simple communications and detection systems, simple aircraft
Figure 9. Typology of the weapons trade.
3.2. Domestic political economy
3.2.1. Defense industrial base Many governments view the maintenance of a defense industrial base (DIB) as essential to national security. In the event of war or in negotiations where war is a possible outcome, a nation with a strong DIB can deter a rival or improve a negotiated settlement. The DIB argument can enhance or contract the arms trade depending on its impact on trade policy and the nation's position in the arms market. For example, Rongovia might subsidize its machine gun production and move from an importer to an exporter of machine guns. Alternatively, Rongovia might subsidize its machine gun production, import less, but remain a machine gun importer. If economies of scale are widespread throughout weapons industries of the world, then government efforts to maintain defense industrial bases over many weapons systems might actually shrink the weapons trade and reduce the number of weapons in the international system. Indigenous procurement and subsidization of production lines for many weapons systems may not reap the gains from economies of scale that subsidization or even laissez faire of a few lines would. The result is production of many weapons systems in many countries, missing out on large production gains from specialization and economies of scale. This is shown in Figure 10. Assume average costs are the same in Germany and Israel for each weapons system. Assume Germany specializes in ships, spends P .S 1 on ships, and then exports half of its ships for half of Israel's missiles. Israel produces Ml missiles, exporting half
C.H. Anderton
544 ships
missiles
price
price
p
P. S2
.5S1
S1 quantity
M2
.5M1
M 1
quantity
Figure 10. Costs of maintaining defense industrial base.
to Germany. Now, suppose Germany subsidizes its missile production and Israel its ship production to have a defense industrial base in each system. Assume that trade ceases and each country produces S 2, M 2 for its own needs. Germany and Israel spend (P2.S 2 ) + (P2.M 2 ) for weapons which is higher than what they used to spend, (P .SI1) and (Pn.*MI), respectively (we assume that PS 2 = =Ps S 1 and Pm M 2 =P .M 1). The difference between the old and the new weapons expenditure levels represents the subsidy to maintain defense industrial capacity in both goods. In spite of greater spending for weapons by both countries, the arms trade has ceased and the volume of weapons in the system has declined (2S 2
Ch. 18:
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545
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sectors of the economy can expand with a decline in weapons production and exports. Grobar et al. found that a unilateral US embargo on exports and imports of military goods led to significant net employment declines in the US transport equipment and electrical machinery sectors. Roughly two dozen other sectors of the US economy, however, experienced net employment increases from the unilateral US embargo. Broadly similar results were obtained for the USA under a multilateral arms export restraint system. 3.3. Economic and political synthesis Levine, Sen and Smith (1994) have developed a model of the international arms market that synthesizes two major motivations of arms transfers: (1) economic benefits and (2) security repercussions of recipient behavior. The model describes an arms market consisting of a set of similar competing suppliers, who have both economic and security objectives, selling to a single generic recipient. The total amount of weapons supplied to the recipient, Qt, and the end-of-period aggregate stock of weapons held by the recipient, St+l, are defined by: Qt = Qit +qit,
St+l = (1 - d)St + Qt,
(9,10)
where: Qit, amount of weapons supplied by all countries other than i; qit, amount of weapons supplied by country i; d, depreciation rate. The recipient's demand schedule for weapons is: Pt(Qt) = a - bQt = a - b(Qit + qit),
(11)
where P is the price of weapons. Supplier i's single-period objective function, Uit, is made up of profits from the arms sales, rit, and security repercussions, V(St), which is a function of the stock of arms held by the recipient: Uit = Tit + V(St),
(12)
where sit = P(Qt)qit - cqit, V(St) = gSt + eSt2, (13,14) with c being the supplier's average and marginal cost and Equation 14 being a quadratic security function. The parameters g and e in Equation 14 represent various security aspects of arms transfers. Two are the straightforward cases of sales to allies (g >0, e > 0) and adversaries (g < 0, e < 0). Sales to allies increase a supplier's security while sales to adversaries reduce security. In two other cases, the short-run and long-run effects of arms transfers differ. In the "legitimate security limits" case (g > 0, e < 0), arms transfers increase security up to a point, but beyond that point reduce security. In the "potentially cooptive" case (g < 0, e > 0), transfers reduce security in the short run, but in the longer run the supplier can coopt the recipient thus increasing security. In a dynamic version of the model, the authors derive the following propositions (among others):
Ch. 18: Economics of Arms Trade
547
(1) If the recipient is an ally or is sufficiently capable of being coopted, the total volume of arms sales exceeds the pure profit maximizing level. (2) If the recipient is an adversary or represents a "legitimate security limit", the total volume of arms sales is below the pure profit maximizing level. (3) Greater competition in the arms market (i.e., greater number of suppliers) increases the total volume of arms sales. (4) If the recipient is an ally or is sufficiently capable of being coopted and the suppliers can credibly pre-commit to future deliveries of weapons and spare parts, then the effect of forward-looking behavior by the recipient is to import a greater volume of weapons. If the suppliers lack a reputation for pre-commitment, then the effect of forward-looking behavior by the recipient is to import less weapons. The Levine, Sen and Smith model not only treats the commercial and security motives for arms exports, it also highlights the likely lobbying strategies of arms manufacturers. Weapons manufacturers have a profit incentive to counteract arms export restraints. If the recipient is questionable from a security point of view (as in the "legitimate security limit" case), arms manufacturers would tend to discount security considerations and highlight the economic benefits of arms exports. On the other hand, when security is promoted by weapons sales (as in the allies case), arms manufacturers would highlight the importance of security considerations in arms sales. An extension of the Levine et al. model could be the development of an analytical framework for how the supplier's objective function is a product of the domestic political process.
4. Arms trade and conflict SIPRI (1971, p. 73) states that "perhaps the most important question about arms supplies [is] ... what effect they have on the development of wars - on the likelihood of wars breaking out, on the course of wars and on their general severity". The "destabilizing school" generally believes that arms transfers promote conflict by exacerbating regional or international tensions, strengthening the clout of the military, and providing the tools to carry out a greater level of conflict. The "stabilizing school" generally believes that arms transfers can restrain conflict by restoring a balance of power in unstable regions. Connections between arms trade and conflict, however, are not easy to make. Arms transfers can increase or decrease the likelihood of inter-state war or internal conflict depending upon a variety of intervening variables: conflict setting (i.e., intensity of rivalry, issues at stake, history, geography), types and quantities of weapons transfers, existing weapons stocks, goals and perceptions of political leaders, commitments of allies, and prospects of foreign intervention. In many cases there will be too many intervening variables to establish causality between arms trade and conflict. But, if the word "causal" is used in the weaker sense of Dessler (1991, p. 347) to mean "an insufficient but necessary part of an unnecessary but sufficient condition", then what we would really mean when we use the word causal is whether arms transfers promote or restrain conflict [Kinsella (1994, p. 20)].
548
C.H. Anderton
The relationship between arms transfers and the outbreak and longevity of wars is similar to the question of the relationship between arms rivalry and war. Since arms transfers are part of the material of arms racing (along with the rivals' indigenous weapons production), understanding the impact of arms rivalry on the probability and severity of war would help us understand connections between arms transfers and war. The literature, however, is ambiguous on the relationship between arms races and war (see chapter 6 of the Handbook). The necessary research directions on the relationship between arms trade and conflict are theoretical and empirical. Can arms trade scholars sort out the set of variables and conditions under which arms transfers promote and restrain conflict? Relatively little systematic theoretical and empirical work has been directed to this question, although useful case study research and anecdotal evidence abounds. 4.1. Theoretical models of arms trade and conflict Figure 11 shows attack and defend regions in a rivalry between J and L. The weapons stocks of the two nations, Wj and WL, are measured on the axes. If the weapons vector is in region 1, mutual security exists, i.e., neither party can successfully initiate attack against the other. If the weapons vector is in region 2J or 2L, then respectively, J and L could attack the other and win the war. The slopes and positions of the attack/defend lines can be derived from the Lanchester war model [Anderton (1990)]. A variety of variables affecting the course of war - quality of weapons, terrain, defense production capacity, perceptions of decision makers, resource constraints - can be embodied in the attack/defend lines depending on the variant of the Lanchester model chosen [Anderton (1992, 1993)]. Even the simple model of Figure 11 illustrates the ambiguity in the relationship between arms trade and conflict. Suppose the weapons vector is at point A. Based on the technical specifications of the Lanchester model, L could attack and defeat J. Some policy makers might conclude that the regional imbalance in weapons between J and L might lead to aggression by L. A third nation, say K, could move the weapons vector from A to B by exporting weapons to J under the pretext that a regional weapons balance would reduce the possibility of war. This stabilizing view of weapons exports underlies the arguments of some US officials for allowing US weapons exports to Bosnia in its conflict with the Serbs. It could be argued, however, that the weapons export illustrated in Figure 11 increases the likelihood or intensity of war. Party L might perceive the arms exports to J as eliminating L's advantage or eventually moving to a point where J could attack L. L might initiate war (i.e., preempt) or prosecute an existing war more fervently before it loses its dominance or becomes vulnerable. In this case, the weapons exports to J serve as a catalyst for war. The preemption motive for war based on arms transfers is cited as a possibility in Pakistan's 1965 attack on India [Gerner (1983, pp. 20-21)] and Israel's 1956 attack on Egypt [Becker (1977, p. 4)]. Critics of US arms export restraints on Bosnia claim that months of speculation about whether the restraints
Ch. 18: Economics of Arms Trade
549
can attack
W Figure 11. War creation and war diminishing aspects of arms trade.
would be lifted gives the Serbs an incentive to be extra aggressive to gain territory before their weapons advantages are diminished. The Wittman (1979) model can be used to evaluate theoretically the promotion or restraining influence of arms transfers on war initiation and termination. The variables in a model of possible war between J and L are (for i =J,L): Pi, country i's subjective probability of winning the war; U, country i's utility function; s, settlement outcome (e.g., amount of territory gained or lost); i, unconditional surrender by i; U(w), i's expected utility of initiating or continuing a war; U'(s), i's expected utility of settlement or not initiating a war. Figure 12 shows two cases: (1) the feasibility of peace between J and L and (2) necessary conditions for war initiation or continuation. If J receives expected utility U,(w) =A ° from initiating or continuing a war, J will only accept a settlement that gives it at least as much utility as A°. Settlements to the left of A' give J more utility than U}(w). L will only agree to a settlement if it is to the right of B,. The area of overlap between points to he left of At and points to the right of B' indicate the feasibility of a negotiated settlement. On the other hand, if U5(w)=AJ is J's expected utility from initiating or continuing a war, the gap between At" and Bt implies that a peaceful settlement is not feasible. In this case, necessary conditions are met for war initiation or war continuation. In Figure 12, suppose U(w)=A° and peaceful settlement holds. If L receives new weapons imports and J does not, it could create the necessary conditions for war initiation. Since L has additional weapons and J does not, L's expected utility from war would rise while J's would fall. If L's expected utility rises sufficiently more than J's expected utility falls, the settlement region could vanish, possibly giving way to war initiation. Alternatively, the settlement region might not vanish but it would move in L's favor as L's new source of weapons gives it greater relative negotiating power. In Figure 12, suppose UJ(w) =Al and J and L are at war. Suppose L receives new weapons imports. If L's expected utility rises by a sufficiently smaller amount than J's expected utility falls, a settlement region could emerge. US exports of Stinger missiles
550
C.H. Anderton
settlement region
settlement region
settlements favorable to L settlements favorable to J
Figure 12. Peace and war in the Wittman model.
in the 1980s to the Mujahadeen may have dramatically reduced the Soviet Union's expected utility from continuing the war, thus contributing to their withdrawal. The Wittman model seems inherently ambiguous on the relationship between arms trade and conflict initiation or termination. Only if the weapons trade has a sufficiently asymmetric impact on expected utilities of war for the two parties will a peaceful settlement shift to war or a war settlement shift to peace. Where the Wittman model is unambiguous is on the effects of weapons trades on the relative negotiating powers of the conflicting parties. 4.2. Empiricalstudies Table 6 summarizes selected empirical studies of the relationships between arms trade and conflict. Relative to the arms race modeling literature where over one hundred empirical studies can be found, the arms trade/conflict empirical literature is quite sparse. The majority of the studies cited in Table 6 indicate that arms trading promotes conflict, but there are enough exceptions to suggest that the relationships between arms trade and conflict are not amenable to general statements. The results vary quite widely depending on the nations, data sets, empirical models, and time frames of the studies. Some of the ambiguity of the arms trade/conflict relationship, which is borne out in the theoretical models, is prevalent in the empirical literature as well. The necessary empirical research directions on the arms trade/conflict relationship are two-fold. First, some of the new empirical work should draw upon existing studies and data sets in order to develop a cumulative effort. Second and perhaps more importantly, empirical research should, if possible, identify the conditions under which arms transfers seem to promote conflict in some situations but not in others.
Ch. 18: Economics of Arms Trade
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Ch. 18: Economics of Arms Trade
553
4.3. Case studies The arms trade literature is replete with useful qualitative studies on the relationship between arms trade and conflict. An early example is Kemp's (1970) study of the correlations between arms trade and Third World conflict between 1945 and 1970, with an emphasis on the 1960s. During this period, many Third World conflicts took place and "nearly all the weapons used in these conflicts ... originated from the factories of the industrial powers." [Kemp (1970, p. 5)]. Nevertheless, Kemp maintains that "it cannot be argued from this evidence alone that arms cause or contribute to conflict." [Kemp (1970, p. 9)]. The relationships between arms supplies, conflict and Third World stability are exceedingly complex. Kemp's paper is designed to cull out general principles about arms transfers, military requirements, and conflict in the Third World and then apply these principles on a regional case-by-case basis. A summary of Kemp's principles is that in evaluating the impacts of arms transfers on Third World conflict, it is important to estimate the effectiveness of the weapons transferred. Effectiveness is a multi-dimensional variable depending on military environments, technical specifications of weapons and political factors. "Only if it is possible to apply qualitative criteria based on some measure of a weapon's "effectiveness" can one argue that the transfer of some types of weapons would introduce more destabilizing factors in the Third World security environments than the transfer of others." [Kemp (1970, p. 22)]. Kemp recognizes that it is difficult if not impossible to label weapons as "offensive" or "defensive" based on technical specifications alone, but this does not mean that no judgment can be made. "When making a qualitative distinction between various classes of weapons, it is essential to be more precise about the various types of military, geographical, and technical environments that exist, or are believed to exist, in various areas of the Third World." [Kemp (1970, p. 26)]. Kemp undertakes a region-by-region analysis of the impacts of arms trade and arms trade control on Third World environments in terms of peace and security in those areas. Kemp (1970, p. 70) reaches the following conclusions: ". .. it has been suggested that the arms trade to the Third World is neither "good" nor "bad", that certain types of arms transfers can both serve and harm the interests of suppliers and recipients and, more particularly, that there is no a prioritruth that predetermines that arms transfers inevitably contribute to the outbreak of conflict." Figure 11 above illustrates how the arms trade might restrain or promote conflict. The direction of causality is from arms trade to conflict. Neuman (1986) considers how conflict, by fueling the demand for weapons, can cause more arms trade. She investigates the impacts of war on arms transfers for eight less developed country wars - five conventional inter-state wars and three insurgencies. Neuman finds that for most warring states, the dollar value of arms imports escalated during conflict, but the contributions of the USSR and, particularly, the USA declined, with other suppliers moving in to meet the demand. Neuman (1986, p. 92) concludes that both superpowers showed concern about escalating Third World conflicts with arms exports,
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C.H. Anderton
and exercised restraint, particularly during the early stages of war or until a political or strategic advantage emerged. Harkavy (1987) also considers the interrelationships between arms trade and ongoing conflict. He lays out the myriad dimensions of the subject and creates a preliminary classification of cases of arms resupply during conflict. Harkavy believes that there has been so little systematic treatment of the subject that it is premature to venture generalizations or describe causal interrelationships. Pearson et al. (1992) analyzed the effects of arms transfers on ten inter-state wars, reaching the following general conclusions: (1) Arms transfers are a factor in decisions to go to war because of considerations of military superiority, perceptions of changes in the balance of power, and interest in establishing links with supporting states. (2) Supplying states have little leverage in conditioning or even determining the outcome of hostilities. (3) Arms transfers generally prolonged and escalated wars, resulting in more suffering and destruction. (4) Arms embargoes, whether partial or total, in and of themselves had little chance of compelling warring parties to stop wars or come to the negotiating table. They did serve to contain the actual fighting. (5) The two superpowers were more prone to use arms transfers as a means to influence warring parties than were other suppliers. During wars the superpowers' share in deliveries generally declined. Consistent with the theme of ambiguity in some of the theoretical and empirical literature described above, Pearson et al. (1992, p. 399) conclude: Arms transfers have both precipitant and deterrent effects on armed conflicts; they are also a factor in the conduct and the cessation of wars. Often heard categorical statements either that arms transfers are inherently conflict enhancing or that, properly managed, they are a trustworthy instrument for stability - ignore the complex record. Despite the obvious relevance of these factors, the literature contains little systematic evidence of the actual effects of arms transfers on conflicts.
5. Arms trade and foreign policy influence Arms suppliers often use their weapons exports to create foreign policy influence over arms recipients. For example, Snider (1978) found empirical evidence that, under certain conditions, some weapons exporters gained influence over several Middle Eastern countries through arms transfers. Roeder (1985) found that Soviet economic and military aid to Third World countries from 1960-1980 increased the recipient's trade dependence on the Soviet Union, which in turn induced political compliance. Case studies of the US-Israeli relationship, e.g., Nachmias (1988), Pollock (1982), and Wheelock (1978) found that the USA sometimes used its weapons exports
555
Ch. 18: Economics of Arms Trade Table 7 Frequency of US arms influence attempts by administration', 1950-1992 Administration Truman (1950-1952) Eisenhower (1953-1960) Kennedy (1961-1963) Johnson (1964-1968) Nixon (1969-1974) Ford (1975 1976) Carter (1977 1980) Reagan (1981-1988) Bush (1989 1992) Total (1950-1992) a
Average attempts per year 3.0 2.0 3.0 6.4 3.8 8.5 10.5 3.5 3.8 4.5
Source: Sislin (1993, p. 159).
to influence Israel. Table 7 shows the frequency of 191 arms influence attempts by US Presidential Administration. Although arms influence attempts are widespread, they are successful only part of the time. For example, Snider (1978, p. 262) says that his relationships do not always hold and Gelb (1976/77) shows examples of both US successes and failures in arms influence. Although these studies and others identify both successes and failures in arms influence attempts, they fail to solve the key puzzle: why are such practices successful only part of the time? Answering this question requires that the context of arms trade influence attempts be thoroughly examined. "The key question then becomes: What environmental, contextual, or intervening variables involved in the influence attempt are important in determining success?" [Sislin (1993, p. 4)]. 5.1. Sislin 's theory of arms influence success Sislin (1993) makes a major contribution toward identifying the determinants of arms influence successes by offering a theory of arms as influence. He considers two decision-makers: recipient and supplier that are assumed to behave as unitary actors [for caveats see Sislin (1993, pp. 47-48)]. Stage 1 has the recipient engaged in some behavior which the supplier does not approve of. In Stage 2, the supplier decides to manipulate arms exports to alter the behavior of the recipient. Finally, in Stage 3, the recipient decides how to respond to the supplier's influence attempt.
Although Sislin did not present his three-stage theory mathematically, it can be done as follows: Stage 1 Vs(c) > VS(nc), where VS(c) is the value to the supplier of compliance by the recipient; V(nc) is the value to the supplier of non-compliance by the recipient.
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C.H. Anderton
Condition 15 is necessary for an arms influence attempt, but it is not sufficient. "It is possible, and frequently the case, that the costs of the influence technique, ... , would be so high as to lower the benefit the supplier receives from compliance to the point where more value could be obtained by simply doing nothing." [Sislin (1993, p. 47)]. Stage 2 (Supplier Decision Calculus) E [VS] = Pc V(c) +(1 - Pc) V(nc) - Cs(i) > VS(nc) where E[Vs] is the expected value to the supplier of an arms influence attempt; P,, probability of recipient compliance as perceived by the supplier; Cs(i), cost of influence attempt as perceived by the supplier. Ignoring risk preference, condition 16 is sufficient for an arms influence attempt. A variety of arms influence techniques might satisfy condition 16 [see Sislin (1993, pp. 51-54)]. Assuming that only Pc and Cs are functions of the arms influence attempt, the supplier chooses an arms influence instrument to maximize E[VS]. Stage 3 (Recipient's Decision Calculus) Vr(c) > Vr(nc) - PiCr(i),
(17)
where Vr(c) is the value to the recipient of compliance; Vr(nc), value to the recipient of non-compliance; Cr(i), costs to the recipient of arms influence instrument; Pi, probability that costs of arms instrument will actually be incurred. Ignoring risk preference, condition (17) is sufficient for the recipient to comply with the arms influence attempt. 5.2. Determinants of arms influence success What are the key determinants under which Equations (16) and (17) would hold, giving rise to arms influence success? Sislin (1993) addresses this question for the United States based on his data set of 80 successful influences out of 191 attempts over the 1950-1992 period. Table 8 lists the variables that Sislin identifies as possible determinants of arms influence success. Using a winnowing procedure on multivariate logit analysis, Sislin identifies the core determinants of arms influence success. He finds six variables that seem to play a significant role in the probability of successful influence: sanction type, policy, regime, hegemony, supplier arms, and alternate supplier. Sislin's (1993, p. 187) general conclusion is: "Influence attempts are more likely to succeed when (1) sanctions are positive (reward or promise) rather than negative; (2) the focus of the attempt is to alter the recipient's foreign rather than domestic policy; (3) the recipient is a civilian regime, not a military one; (4) the United States was more powerful in the world system; (5) the recipient receives more of its arms from the United States; and (6) the recipient has less alternative suppliers available to it." Sislin's research implies that arms influence success is not determined by one or two key variables, but by a set of variables which defines the context for a high probability
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Economics of Arms Trade
557
Table 8 Possible determinants of arms influence successa I. Characteristics of influence attempt 1 Sanction type - supplier's sanction is positive or negative 2 Goal - supplier's goal is deterrence or compellence 3 Policy - supplier is attempting to alter recipient's foreign policy or domestic policy II. Characteristics of recipient A. Political 4 Regime - recipient state ruled by military elites or civilian elites 5 Recipient cohesion - recipient elites are cohesive or fragmented B. Military 6 Conflict - recipient engaged in international conflict or not 7 Security - recipient feels secure or insecure 8 Civil strife - recipient leaders face domestic conflict or domestic tranquility C. Economic 9 Resource - recipient's resource base 10 Indigenous arms - recipient's level of indigenous arms production III. Characteristics of interaction between recipient and supplier 11 Supplier arms - degree of dependence of recipient on supplier's arms 12 Trade - degree of economic interaction between supplier and recipient 13 Precedent - outcome of previous influence attempt (if any) IV. Characteristics of supplier 14 Supplier cohesion - supplier elites are cohesive or fragmented 15 Presidential style - active-positive US presidents versus other types V. System characteristics 16 Hegemony - trend of US hegemony 17 Cooperation - degree of friendliness or hostility between the US and USSR 18 Alternate supplier - number of alternative arms suppliers available to the recipient a
Source: Sislin (1993, pp. 108-109).
of arms influence success. Altering any one of the variables in the set has only a small impact on the probability of arms influence success. Sislin's results challenge some of the conventional wisdom in the arms influence literature. For example, the recipient's level of indigenous arms production is sometimes cited as a variable which diminishes a recipient's vulnerability to arms influence. Sislin finds that indigenous arms production is not a significant determinant of arms influence success or failure. Another example is the belief by some analysts that a nation involved in conflict is more likely to be influenced through weapons restraints. Sislin, however, finds that this variable is generally insignificant.
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C.H. Anderton
5.3. Recipient influence Sislin (1993, pp. 196-200) identifies directions for future research: (1) test other suppliers, (2) consider other forms of influence attempts, (3) test the robustness of his work, and (4) comparative analyses of arms influence with other forms of influence. One direction of research that Sislin did not mention is recipient influence. The literature on arms influence generally presumes that the supplier has the leverage to initiate an arms influence attempt. Although the presence of alternative suppliers might diminish the recipient's vulnerability to the arms influence attempt, the action is still from the supplier to the recipient. It is possible, however, that the consumer of weapons could exercise foreign policy influence over the supplier. The economic perspective reminds us that a market is made up of two sides. Under conditions of pure competition or bilateral monopoly (or bilateral oligopoly, etc.), each side of the market might lack a clear path for creating arms influence. Other market structures (e.g., monopsony, oligopsony) might allow the buyer to levy influence on the seller. The arms trade literature to date, theoretically and empirically, has not investigated arms trade influence from the buyer to the seller. This part of the spectrum could be relevant in the immediate post-Cold War era which is often characterized as a "buyer's market". Nykvist (1995) has undertaken theoretical and case study research on arms trade foreign policy leverage from the buyer's side.
6. Concluding comments The international arms market experienced a dramatic structural change with the end of the Cold War. Economics has risen in importance, relative to geopolitics, in understanding the motivations and consequences of the arms trade. Nevertheless, there is surprisingly little theoretical and empirical development of the economics of arms trade. Almost the whole body of international trade theory remains untapped. It seems reasonable to conclude that the economics of arms trade is essentially an unexplored sub-field of defense economics, ripe for foundational theoretical and empirical contributions. Fields other than economics have contributed much to our understanding of arms transfers. A myriad of useful case studies exist, offering important insights and data on the geopolitics of the arms trade. Empirical sub-literatures on foreign policy leverage and the relationship between arms trade and conflict are now in place beckoning researchers to further develop these sub-fields. The international systems model of Harkavy (1975), Laurance (1992) and others is a useful theoretical and applied approach for understanding the geopolitics of arms transfers. Catrina (1994) identifies many arms trade research directions, including some on the economics of arms trade. At this point, the central problem of the arms trade literature, for both economists and geopolitical scientists, is how to go beyond the proliferation of policy position articles and descriptive studies (which are useful and important in their own right), to
Ch. 18: Economics of Arms Trade
559
a more solid base of theoretical and empirical models. A new theoretical synthesis of economics and geopolitics would represent a major breakthrough. The development of the economics of arms trade must move beyond its incipient stages for this synthesis to occur, but it seems that Levine, Sen and Smith (1994) have already taken steps in
this direction. Ultimately, it would be desirable to see theoretical and empirical work on the arms trade narrow the range of outcomes which are regarded as plausible.
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