Impact, Pattern, and Duration of New Orders for Defense Products

Abstract

This paper reports on a study of the timing of the economic impact of government defense procurement. By assuming that the letting of new orders signals the beginning and shipments signal the end of the impact of defense procurement, this research investigates the effects of changes in product mix and capacity utilization on the duration of such impacts. The effects of changes in product mix and capacity utilization on inventory accumulation are also investigated. RECENT DISCUSSIONS on econometric model building have pointed out that the development of a realistic model of the government sector is a prerequisite to the effective use of econometric models in evaluating the impact of government operations on the economy [7]. There are two aspects to this problem: (i) An econometric model should include appropriate instrumental variables-variables that can be controlled by policy makers [11], and (ii) the model should properly capture the impact of the government actions [2, 3,5,13]. This paper presents an explanatory study related to the second aspect of the above problem. Since defense procurement accounts for nearly ten per cent of GNP, a question which naturally arises is: Can defense procurement be manipulated by the government to help stabilize economic activity or to offset cyclical fluctuations? It is to be expected that the timing of defense procurement is determined primarily by noneconomic considerations. In peace time, however, a certain degree of flexibility is presumed to exist in the scheduling of defense procurement. For this reason, defense procurement is a useful instrumental variable for an econometric model of the government sector. In considering defense procurement as an instrumental variable, the following question is raised: What stage in the defense procurement process is most important from the viewpoint of measuring its impact on economic activity? In their studies of inventory investment, Lovell and Suits [10, 12] emphasized that the Department of Defense orders have an immediate impact upon inventories in advance of its expenditures. In a substantial number of other econometric models, however, the impact of defense procurement was measured at the expenditure stage [4,6,8,9].