Defense Expenditure and Economic Performance in SAARC Countries

Defense Expenditure and Economic Performance in SAARC Countries

Sudhansu Sekhar Mahapatra (Sikkim University, India), Madhabendra Sinha (National Institute of Technology Durgapur, India), Anjan Ray Chaudhury (Durgapur Government College, India), Abhijit Dutta (Sikkim University, India) and Partha Pratim Sengupta (National Institute of Technology Durgapur, India)
DOI: 10.4018/978-1-5225-4778-5.ch003


Governments in most of the nations aim to fulfil their requirements and protect themselves with the necessities of public life from the external threats, and also try to separate a significant portion for defense-related spending from the budget. But the impact of defense expenditures on economic growth is not apparent. It deserves an empirical investigation to explore the external effect of defense spending on the economic performance of the country. The authors choose six SAARC countries, namely Afghanistan, Bangladesh, India, Nepal, Pakistan, and Sri Lanka, where defense-related issues regarding internal security as well as external relationships with neighbor countries are the most significant to examine the relationship between defense expenditures and economic performance measured by GDP growth. The method of GMM estimation is applied in a dynamic panel structure of selected countries over the period 1970-2016. Empirical findings show that, besides some possible factors, defense spending has a positive and significant impact on economic growth in SAARC member nations.
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The importance of defence and defence expenditure is a debatable issue. Military expenditure can affect an economy either positively through an expansion of aggregate demand or through crowding of investment. Defence spending can stimulate an economy through the Keynesian mechanism especially in the period of high unemployment. According to Keynes, aggregate demand rises when there is more public funding. This will increase effective utilisation of capital stock which in turn lead to higher profit and may induce higher investment and ultimately higher growth rate. Both supply-side and demand-side theories collectively affirm the influence of public spending on economic growth in the modern study of economics. However, emerging debate is what kind of public spending and type of its impact that can be ascertained? In this perspective, military expenditure as one of the important components of public spending comes under the scrutiny.

According to Public economics, the defence is a public good. In economics context, markets either don’t produce public goods or produce inadequate quantities, and this is because of their non- excludability and non-rivalry status. Non-excludability means the consumption of the good by one individual doesn’t reduce the amount available for others while non-rival denotes difficulty of excluding someone from enjoying the benefits of public goods via the price system (Rosen, 1999). Intuitively, it becomes an automatic disincentive for private individuals to sufficiently provide public goods because suppliers find it tricky to reap the benefits of their investments. Economics theories, therefore, justify government intervention in the economy as a provider of defence, which is financed by non-voluntary taxes. However, just like private goods, the provision of defence is externality producing, the more armed the nation becomes, certainly the more negative externalities it poses to its adversaries and the more it sets up positive spillovers to its allies without market intermediation. In the home country, military experiments (like testing nuclear weapons) energize pollution to the magnitude of being a negative externality to other sectors of the economy (Sandler & Hartley, 1995).

Nonetheless, given the fact that a number of conflicts global-wise have ended by military victory, high military spending improves security which unleashes favourable climate for investment, trade and growth. Moreover, the worldwide experience of market failure credit military spending at high level as a therapy of countercyclical by enhancing aggregate demand (Military Keynesianism); and more controversy on policy fronts is likely to surface provided that the growing external threats dictate high military expenditure while the current inflationary pressure requires a decline in aggregate demand (Frank & Bernanke, 2001).

Still, disagreements on causality take roots as the rise in military outlays in fast growing or resource rich countries like China, India, Saudi Arabia and Algeria get connected to Wagner’s theory. In view of this, defence spending steps up because at higher output growth these nations have more resources to spend and more resources to be protected, which means higher economic growth ignites higher military expenditure (Albatel, 2002). Theoretical discussion of military expenditure just like any other fiscal component plus its security implication articulates a possible link between military outlays and economic growth. The empirical findings of the past have shown both positive and negative relationships, or in some cases, there is no relation between military expenditure and economic growth.

Key Terms in this Chapter

SAARC Countries: South Asian Association for Regional Cooperation (SAARC) is the regional intergovernmental organization and geopolitical union of nations in South Asia. Its member states include Afghanistan, Bangladesh, Bhutan, India, Nepal, Maldives, Pakistan and Sri Lanka. SAARC comprises 3% of the world's area, 21% of the world's population and 3.8% (US$ 2.9 trillion) of the global economy, as of 2015. SAARC was founded in Dhaka on 8th December 1985. Its secretariat is based in Kathmandu, Nepal. The organization promotes development of economic and regional integration. It launched the South Asian Free Trade Area in 2006. SAARC maintains permanent diplomatic relations at the United Nations as an observer and has developed links with multilateral entities, including the European Union.

GMM Estimation: In econometrics the generalized method of moments (GMM) is a generic method for estimating parameters in statistical models. The method requires that a certain number of moment conditions were specified for the model. The generalized method of moments (GMM) is a statistical method that combines observed economic data with the information in population moment conditions to produce estimates of the unknown parameters of this economic model.

Economic Growth: Economic growth means an escalation in the amount of goods and services produced per head of the population or per capita GDP over a period of time. It refers to the rise in the value of everything produced in the economy. It implies the yearly increase in the country’s GDP or GNP, in percentage terms. It indicates to considerable rise in per-capita national product, over a period, i.e. the growth rate of increase in total output, must be greater than the population growth rate.

Defense Expenditure: Expenditure on military activities known as a defense budget of a nation is the amount of financial resources devoted to upkeep of an armed force or different techniques of defense purposes. It frequently reflects how strongly an entity recognizes the likelihood of threats against it, or the amount of aggression it wishes to employ. It also gives an idea of how much financing should be provided for the upcoming year. The size of a budget also replicates the entity's ability to fund military activities. The Factors include the size of that entity's economy, other financial demands on that entity, and the willingness of that entity's government or people to fund such military activity.

Dynamic Panel Model: The model with dynamic panel data uses the lags of the dependent variable as explanatory variables. That means dynamic panel data models are useful when the dependent variable depends on its own past realizations: Although the coefficients on lagged dependent variables might be far from our interest, the introduction of these lags becomes crucial to control for the dynamics of the process.

Panel Data Econometrics: In statistics and econometrics, panel data or longitudinal data are multi-dimensional data involving measurements over time. Panel data contain observations of multiple phenomena obtained over multiple time periods for the same firms or individuals. Time series and cross-sectional data can be thought of as special cases of panel data that are in one dimension only (one panel member or individual for the former, one-time point for the latter). A study that uses panel data is called a longitudinal study or panel study.

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