Defense Expenditures and Economic Growth in Israel: The Indirect Link

Abstract

Evidence from Israel suggests that economic growth may benefit from increased investment rates and cuts in defense spending - in other words, an economic `peace dividend'. Recent scholarly work, however, focusing on short-term, direct impacts, has provided little evidence for the existence of such a peace dividend in other parts of the world or in Israel itself. In this article, we address these competing views by exploring some important indirect, longer-term effects of defense spending on the Israeli macroeconomy. Our results indicate that a short-term focus fails to reveal the process through which a small, positive economic peace dividend appears to be operating in Israel. Rather, the main features of this process are indirect, long-term, and nuanced, operating through investment, delayed several years, with non-military government spending acting as a crucial intervening variable in the process. Whether the decline of defense spending will continue to be associated with rapid economic growth in Israel is problematic. However, like the defense-economy linkage in Israel, so too may the peace dividend operate indirectly and only in the long term. Our analysis shows that these linkages are not static, but change in important and dramatic ways over time.