Military Spending and the Growth-Maximizing Allocation of Public Capital: A Cross-Country Empirical Analysis

In this paper drawing from the theoretical framework developed by Shieh et al., (2002), we present an endogenous growth model to empirical analyze the growth maximizing allocation of public capital among military spending and investment in infrastructure. Using this general model of public capital formation, we derive the growth-maximizing values of the shares of public capital allocated to it’s two different types, as well as the growth-maximizing tax rate (amount of total public capital as a share of GDP). Then we proceed with an empirical investigation of the theoretical implication of the model that both the effects of the shares of public capital and the tax rate on the long-run growth rate are non-linear, following an inverse U-shaped pattern. Using data of public investment in infrastructure and military capital formation, we investigate the long run relationship between economic growth and the allocation of public capital using panel cointegration analysis in a sample of 55 developed and developing countries. Our empirical results confirm the theoretical implications of the model for the majority of the countries in the sample. This finding is more consistent for the OECD countries although the same result can be drawn for a large part of the developing countries.