Arms Race, Military Expenditure and Economic Growth in India

242 Pages·2010·2.02 MB·English

Arms Race, Military Expenditure and Economic Growth
in India

By

Na Hou

A thesis submitted to
University of Birmingham
For the degree of
DOCTOR OF PHILOSOPHY

Department of Economics
Business School
The University of Birmingham
October 2009
University of Birmingham Research Archive

e-theses repository

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To my parents

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Abstract
This thesis aims to study the causes and effects of military expenditure on economic growth
in India. Three aspects of this subject are concentrated which link well with the core stylised
facts of the Indian defence effort and its developmental problems: the ‘security dilemma’ in
terms of its relationship with its neighbour, Pakistan; the core factors that motivate the
demand for defence; the economic impact of militarization and the effect of defence on
development.

First, the arms race between India and Pakistan is analyzed by using a Richardson action-
reaction model and cointegration techniques. The empirical results provide robust evidence to
support the existence of an enduring arms race between India and Pakistan, even after taking
into account a structural break. Second, the results indicate that India’s military expenditure is
mainly determined by income, political status, the perceived threat from Pakistan and the
external wars both in the long-run and in the short-run. Third, the relationship between
military expenditure and economic growth is studied in India and in a broader context, i.e. in a
cross-sectional and panel data study of 36 developing countries. The significant and negative
effect of defence on economic growth is confirmed in both cases.

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Table of Contents
CHAPTER 1 INTRODUCTION ................................................................................................ I
1.1 Introduction .................................................................................................................................. 1
1.2 Research Questions and Hypothesis ............................................................................................. 4
1.3 Structure of the Thesis .................................................................................................................. 6
CHAPTER 2 MILITARY EXPENDITURE AND ARMS RACE: THE CASE OF INDIA
AND PAKISTAN ........................................................................................................................... 9
2.1 Introduction ......................................................................................................................................... 9
2.2 Literature Review .............................................................................................................................. 11
2.2.1 Theoretical Models of the Arms Race ................................................................................................ 11
2.2.1.2 Intriligator and Brito Strategic Deterrence-Attack Model .......................................................... 20
2.2.1.3 Other Related Models ................................................................................................................. 29
2.2.2 Empirical Studies of Arms Race between India and Pakistan ............................................................ 30
2.3 Military Expenditure and Conflicts in India and Pakistan ............................................................... 40
2.3.1 India and Pakistan Conflict History ................................................................................................... 40
2.3.2 India and Pakistan’s Military Expenditure Dynamics ....................................................................... 44
2.4 Theoretical Model and Specification ................................................................................................. 47
2.5 Methodologies of Empirical Analysis ................................................................................................ 49
2.5.1 Unit Root Tests without Structural Breaks: The ADF Test and KPSS Test ........................................ 52
2.5.1.1 The ADF Test ............................................................................................................................. 52
2.5.1.2 The Kwiatkowski, Phillips, Schmidt, and Shin (KPSS) Test ...................................................... 53
2.5.2 Unit Root Tests with Structural Breaks .............................................................................................. 54
2.5.2.1 The Zivot-Andrews Unit Root Test with a Single Structural Break ........................................... 54
2.5.2.2 The Clemente, Montanes and Reyes (1998) Unit Root Test with Double Structural Breaks ..... 56
2.5.2.3 The Lee and Strazicich (2003, 2004) Minimum LM Unit Root Test .......................................... 57
2.5.3 Cointegration Tests ............................................................................................................................ 58
2.5.3.1 The Engle-Granger Cointegration Test ....................................................................................... 58
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2.5.3.2 The Johansen Cointegration Test ................................................................................................ 60
2.5.3.3 The Gregory and Hansen Cointegration Test.............................................................................. 62
2.5.3.4 The Stock-Watson Dynamic OLS .............................................................................................. 64
2.6. Data and Empirical Results .............................................................................................................. 65
2.6.1 Data.................................................................................................................................................... 65
2.6.2 Unit root Tests .................................................................................................................................... 66
2.6.3 Cointegration Test .............................................................................................................................. 71
2.6.3.1 The Engel-Granger Cointegration Test ....................................................................................... 71
2.6.3.2 The Johansen Cointegration Test ................................................................................................ 72
2.6.3.3 The Gregory and Hansen Test .................................................................................................... 73
2.6.3.4 The Stock-Watson DOLS Test ................................................................................................... 74
2.7 Conclusion.......................................................................................................................................... 76
CHAPTER 3 THE DEMAND FOR MILITARY EXPENDITURE IN INDIA ........... 80
3.1 Introduction ....................................................................................................................................... 80
3.2 The Theoretical Models of the Demand for Military Expenditure ................................................... 81
3.2.1 Organizational Politics Models ......................................................................................................... 81
3.2.2 Arms Race Models ............................................................................................................................. 84
3.2.3 The Neoclassical Models .................................................................................................................... 84
3.3 Review of Empirical Literature ......................................................................................................... 88
3.3.1 Military Activity (Security Considerations) ....................................................................................... 88
3.3.2 Internal and External Economic Factors ........................................................................................... 91
3.3.3 Political Factors ................................................................................................................................ 94
3.3.4 Other Considerations ......................................................................................................................... 96
3. 4 India’s Military Expenditure and Security Concerns .................................................................... 100
3.4.1 India’s Military Expenditure and Its Trend ..................................................................................... 101
3.4.2 India’s Security Concerns ................................................................................................................ 107
3.4.2.1 Internal Security Threats ........................................................................................................... 107
3.4.2.2 External Security Threats .......................................................................................................... 113
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3.5 Model Specification and Data .......................................................................................................... 117
3.5.1 Model Specification for the Determinants of India’s Military Expenditure ..................................... 117
3.5.2 Data Sources and Descriptions ........................................................................................................ 120
3.6. Estimation Methods ........................................................................................................................ 121
3.7 Empirical Analysis ........................................................................................................................... 122
3.7.1 The Estimation Equation .................................................................................................................. 122
3.7.2 Empirical Results ............................................................................................................................. 124
3.7.2.1 The Order of ARDL Model and the F-tests for Cointegration .................................................. 124
3.7.2.2 Long-Run Estimating Results ................................................................................................... 125
3.7.2.3 The Short-Run Error Correction Estimating Results ................................................................ 128
3.8 Conclusion........................................................................................................................................ 130
CHAPTER 4 MILITARY EXPENDITURE AND ECONOMIC GROWTH IN
DEVELOPING COUNTRIES............................................................................................... 133
4.1 Introduction ..................................................................................................................................... 133
4.2 Military Expenditure and Economic Growth: Literature Review on Theoretical Models and Empirical
Studies…………………………………………………………………………………………….………...136
4.3 A Single-Country Study: Military Expenditure and Economic Growth in India ........................... 137
4.3.1 Introduction ...................................................................................................................................... 137
4.3.2 Model Specifications and Data ........................................................................................................ 138
4.3.3 Empirical Results ............................................................................................................................. 141
4.3.4 Conclusion ....................................................................................................................................... 144
4.4 Cross-sectional and Panel Data Analysis of the Defence-Growth Nexus in Developing Countries, 1975-
2004 ……………………………………………………………………………………………………………………….……………………….145
4.4.1 Introduction ...................................................................................................................................... 145
4.4.2 Standard Cross-sectional Regressions ............................................................................................. 146
4.4.3 Panel Data Methodologies ............................................................................................................... 147
4.4.3.1 The Static Panel: the Fixed-Effect Model and FGLS Estimator ............................................... 148
4.4.3.2 Dynamic Panel Approaches: the First-Difference GMM and the System GMM ..................... 149
4.4.4 Descriptions of Data and Data Sources ........................................................................................... 152
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4.4.5 Cross-Section Analysis: The Long-Run Estimating Results ............................................................. 153
4.4.6 The Dynamic Panel Results ............................................................................................................. 154
4.4.7 Cross-sectional and panel analysis conclusion ................................................................................ 160
4.5 Conclusion........................................................................................................................................ 160
CHAPTER 5 CONCLUSIONS ............................................................................................. 162
5.1 Summary and Conclusions .............................................................................................................. 162
5.2 Further Research ............................................................................................................................. 168
REFERENCES ......................................................................................................................... 170

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List of Tables
Table 2. 1 the Richardson Arms Race Model and its Variants ................................................ 20
Table 2.2 Empirical Estimates of Military Expenditures of India and Pakistan ...................... 32
Table 2.3 Review of Empirical Literature of India-Pakistan Arms Race ................................. 39
Table 2.5 Augmented Dickey-Fuller Unit Root Test ............................................................... 67
Table 2.6 KPSS Stationary Test ............................................................................................... 67
Table 2.7 Zivot-Andrews Unit Root Test with a single structural break ................................. 68
Table 2.8 The Clemente, Montanes and Reyes Unit Root Test ............................................... 68
Table 2.9 The LM Unit Root Test ............................................................................................ 69
Table 2.10 The Summary of Unit Root Tests ........................................................................... 70
Table 2. 11 The Engle-Granger Cointegration Test ................................................................. 71
Table 2.12 The Johansen Cointegration Test ........................................................................... 72
Table 2.13 The Gregory-Hansen Cointegration Test ............................................................... 73
Table 2.14 The Stock-Watson DOLS Test ............................................................................... 75
Table 2.15 The Long-Run Relationship between lnmei and lnmep ......................................... 76

Table 3.1 Determinants of Military Expenditure in Developing Countries ............................. 99
Table 3.2 India’s Central Government Expenditure Share by Function, 1970-2005 ............. 105
Table 3.3 Deaths related to Naxalite-Maoist Insurgency, 1997-2007 .................................... 111
Table 3.4 the F-test for Cointegration .................................................................................... 125
Table 3.5 the Long-Run Coefficients Estimating Results, Part 1 ........................................... 126
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Table 3.6 the Short-Run Error Correction Elasticity Estimating Results ............................... 129

Table 4. 7 the Summary of the Results of the Empirical Literature Review .......................... 137
Table 4. 8 Estimation Results for the Original SEM (1970-2003) ......................................... 143
Table 4. 9 Variable Descriptions ............................................................................................ 152
Table 4.10 The Standard Cross-Section Regression .............................................................. 154
Table 4.11 The Effect of Military Expenditure in the Augmented Solow Growth Model ..... 156
Table 4.12 The Cold War Periods vs. the Post Cold War Periods ......................................... 159

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