Development Essay, Research Paper
The Costs and Benefits of Funding Military Research and Development Policy
Public Sector Economics
November 22, 2000
Introduction
The central issues when evaluating the overall the United States research and development policy are the characteristics of a public good. A public good by definition is one that has a zero marginal cost of providing the good an additional person and from which individuals cannot be excluded. Research and development policy contributes to the level of knowledge and technology of the entire country. Knowledge, is in most cases, a public good under the aforementioned definition. Giving knowledge to an additional individual does not take away from the total amount of knowledge available, and exclusion from knowledge is often difficult to maintain.
A market failure is often associated with public goods, and knowledge is not an exception. Regarding knowledge, and specifically research and development, the market fails to provide this good at adequate levels. The government then steps in to attempt to correct this failure through its research and development funding policy. The following paper details the costs and benefits incurred through funding research and development specifically within the realm of national defense.
National defense is also a public good. The government provides national defense to correct the reality that if left uninfluenced, the market will not provide national defense at an adequate level. The U.S. government funds research and development in the area of defense at a much greater level than any other.
Background
Major policy initiatives were undertaken during the Reagan and Bush administrations in order to research and develop technologies that would aid in the Cold War. This was the era of Reagan’s arms stockpiling that pushed the defense budget to nearly three times the amount it is today, maxing out at just over $800 billion. (Stiglitz, 332) Policymakers were concerned with creating weapons and technology that were more sophisticated than those of the Soviet Union. Programs such as the semiconductor research consortium, SEMATECH, the Defense department’s Technology Reinvestment Program (TRP) and the Advanced Technology Program (ATP) grew out of these years all of which took advantage of defense funding to establish dual-use technologies, that is technologies with specific uses to both the civilian market and the military. In 1986, the Federal Technology Transfer Act was established to allow federal laboratories to conduct cooperative research and development agreements (CRADAs) with private firms. The Reagan and Bush era policies supported high technology research and development that related to both the civilian market and to the military.
President Clinton’s administration over the last five years has seen a steadily decreasing federal defense budget. With the Cold War over, and no single identified threat to national security, the focus of research and development policy has shifted. Under Clinton, the dual-use technology initiatives that began throughout the eighties were emphasized. The Clinton administration also sought to reform the procurement policies of the Department of Defense (DoD) to make them more appealing to private firms.
The organization of research and development policy is centered on the Defense Advanced Research Projects Agency (DARPA). This agency was established in February of 1958 as the Advanced Research Projects Agency (ARPA), the agency to handle research and development for the DoD. This is still the function of the agency some 42 years, and a few name flip-flops later. Its mission states that it exists to “develop imaginative, innovative and often high risk research ideas offering a significant technological impact.” (DoD, 2000) DARPA represents 25% of the budget for research and development within DoD. The rest of the funds are dispersed among its other agencies, such as the Ballistic Missile Defense Organization. Other research and development occurs outside of the DoD, such as the weapons labs that are under the Department of Energy (DoE). As legacies of the Cold War, they had produced most of the technology for Reagan’s weapons build up.
The government attempts to solve the market failure of underprovided research and development in several ways. One type is through a direct subsidy. With this type of invention, the government grants money to a private firm to work on a specific project. The next type of government solution is awarded through tax incentives. Firms awarded tax breaks for conducting research that they show to have value. The final way that the government intervenes is through contracts. This is the primary way that the DoD funds research and development.
Research and Development and Defense Contracting
Defense contracting is part of the greater acquisition cycle by which the DoD procures everything from t-shirts to jet fighter planes. The acquisition cycle is a four-part process. After the service acquires approval from the Office of the Secretary of Defense, it proceeds through the four steps of the acquisition cycle.
The first phase is concept formulation. This stage is where the military decides on the specifications of a weapon or piece of equipment. The service identifies the flaws in what it currently has, and then determines what the new good should do. These early decisions are critical, because they form the core around which the entire process is wrapped. (Mayer, 47) IN this phase, contracts for research and development are awarded to come up with specific designs.
During the second phase, the most promising design is chosen, and the contract is awarded to develop a preliminary design. During this stage evaluation of the concept occurs, and many designs are weeded out based on technical problems or extremely high costs.
The next stage is full-scale development, in which the product is finalized, and prepared for production. A contract is also awarded at this step, to a firm that will take the final concept and make it ready for production and deployment and able to perform the tasks designated in the first phase.
At this point the results of the full-scale development are approved by the Office of the Secretary of Defense, and the weapon or the piece of equipment is mass-produced and sent into the field for use. This, the final stage, is production and deployment. In most cases the contractor who was granted the full-scale development contract is given the production contract if the product ends up being made.
This is the process used to create weapons, planes, helicopters, missiles, and other large-scale pieces of equipment. Throughout each stage, costs increase, and the sunk costs of developing the item grow. During the initial stages of research and development, under the concept formulation phase, the government often pays fifty percent of the research and development costs. Another type of agreement that is often made is one where the government agrees to pay the costs of the process, plus some other fixed amount, that will be the producer’s profit. This is called a cost-plus contract.
Analysis of the Costs and Benefits of Funding Military Research and Development
To examine the costs and benefits incurred form funding military research and development costs, we must first survey the cost and benefits of the funding as a general concept and then finally review the methods which the government administers the funding. As previously detailed, the government intervenes in research and development funding, because of the market failure associated with knowledge. The market will under-produce research and development, just as it does with knowledge, so policies are implemented to influence this factor.
The most obvious cost of funding R&D in general, and especially for the military is the cost to tax payers. The facts are that people would rather pay lower taxes. Because of this, any government funding outlay is scrutinized by the public, as it questions its merits. This is especially true of the DoD Budget. The budget has decreased steadily over the last decade, which has been viewed as the acceptable direction in which it should move by many. Much of the disdain towards the multi-billion dollar DoD budget comes from negative press portrayals. Years ago it was the revelation of outrageous prices paid for minor items such as hammers. The current controversy stems from the problems DoD has had accounting for the funds it is allocated from Congress. When the DoD cannot explain what happened to the money it is given, it is understandable that people would question why they are given so much. As the budget decreases the slice of the pie available for R&D funding becomes smaller as well. While R&D funding has stayed somewhat stable, as more critics call for a smaller military, the funding is threatened.
Another cost that is cited is the notion that instead of supplementing private R&D outlays, the government is replacing it. This idea questions the way that the government, and DoD allocate R&D to private entities. David, Hall and Toole cite studies in their working paper “Is Public R&D a complement or substitute for private R&D?” in which the “benefits that private firms derived from the public expenditures are said to have been both predictable and large enough to have elicited financing from profit-seeking firms.” (5) This is a serious cost-issue, because it questions the fundamental purpose for government funding of R&D. This purpose is not to replace private funding, but to supplement it with research that otherwise would not have been conducted.
The final important cost that relates to the general concept of funding military R&D is whether the government and the DoD are funding the right types of projects.
The most important benefit that must be acknowledged is that government funding of research and development costs, both associated with the military and not, is that high-cost, high-risk, lower profit potential, or long-term types of projects can be undertaken. Each of these types of projects will not be undertaken by the private sector, without incentives. The government, when choosing projects to fund, looks for applications where there is a chance for great eventual social benefit, but where short-term, and even long-term profit possibilities are just not there. This way the government is targeting research in areas that would not be conducted without additional incentive. The government, then is enhancing the overall technology and knowledge level of the United States by funding projects that otherwise might not be attempted. The potential social gains of many of these projects is high, as are the risks and costs involved which is why the government support is a necessity.
Another benefit relates to the government promotion of dual-use technologies through R&D funding. By funding projects that focus on technologies that can be useful to the military and to the civilian economy, the DoD can enhance the availability and affordability of the technology it requires. This relationship benefits both parties, “the DoD would benefit by getting faster and cheaper access to commercial technology and commercial firms would benefit by the availability of additional federal R&D dollars.” (Bingaman, 83-4)
Spillover technology is another benefit that is often expounded. The DoD produced a booklet, Science and Technology Success Stories, to detail the many technologies that have spilled over from military science and technology research. The booklet gives examples of the Internet and the World Wide Web, which originated in packet switching research conducted under DARPA. It gives examples of aviation improvements in the F-16 that led to “improved maneuverability, reliability, and safety of modern aircraft.” (DoD, iii) The first computer and the computer networking are also attributed to research conducted under the guise of the military. These are but a few of the numerous different types of technology that has been transferred to the private sector from military research. Other examples exist of transfer from the private sector to the military, as well, through collaborative efforts.
In looking more specifically at the costs and benefits of the methods by which the military funds R&D, more costs and benefits become apparent. One of the biggest costs of the contracts and grants is that they “have proved too restrictive to attract industrial firms that are recognized technological leaders.” (Wong, xiii) The DoD has specific accounting-related and other regulations that deter companies from desiring to bid on contracts. DoD has tried to remedy this situation by reforming its regulations to some extent as well as implementing a website that handles contract-related issues, cutting back on paperwork and increasing communication.
The acquisition cycle by which the DoD procures many of its goods has several costs and benefits associated with it. One such cost deals with the process in general. The further a concept gets in the cycle, the larger the sunk cost become. Due to this nature, the likelihood of a concept being scrapped or reworked at the more advanced stages is less. So a technically-flawed, or a piece of equipment that does not meet important parts of the original performance specifications may not be abandoned because of the enormous costs it has already accrued. This can lead to more money being poured into the item for renovation and retooling later, as well.
At each step of the process there are costs that are inherent. At the concept formulation stage, the original requirements outlined may be unrealistic or unnecessary, causing vast costs further in the process. In all three remaining stages, there is “every incentive to low-ball initial estimates and revise them with figures that… go up” (Mayer, 52) Contractors know that in order to win contracts they must promise big rewards at low prices, and that once the contract has been made more funding can be acquired at later stages.
Many contracts awarded under this process are awarded on what is called a cost-plus basis. This notion is that the government and the contractor agree at the outset that the government will pay the costs incurred by the company related to the R&D, as well as a negotiated, fixed amount. In this way, before the project is even completed, the firm knows what its profit will be, which creates a disincentive to work to ensure a better product. This situation also creates inefficiency within the contracted firm, since they know that their costs will be paid there is little incentive for them to act efficiently.
While the military does not use tax incentives or subsidies as often as contracts, it is important to note the costs and benefits surrounding them. Tax incentives are probably the most vague of the three types of government solutions to supplementing R&D. With tax incentives, the government gives tax credits for firms that participate in R&D and can show that their research will have some greater social benefit. There is an important cost associated with types of research that eventually receive tax credits, in that some of the social benefits that the companies claim to effecting are of marginal importance or value. It would cost a great deal to more carefully survey each company to make sure that its research is completely valid. Also, when firms choose the projects, they will most likely stay clear of projects involving long-term exploratory work that may yield high social benefits, opting instead to operate under the profit-motive and shorter-term projects. Tax credits are, however, a beneficial tool to stimulate R&D in the private sector in general, serving as incentives to some companies who no doubt do conduct socially valuable research. With subsidies, the government has more ability to direct the goals of the research it funds, by requiring that the money is provides be used only for research in the area it defines. The costs it assumes here are similar to costs of other policy tools, the initial outlay of money and the possibility of failure to achieve anything beneficial. Yet, subsidies have the important benefit of allowing the government to steer research into areas where there is less of a profit motive.
Cooperative Research and Development Agreements as tools for implementing R&D have some identifiable costs and benefits associated with them as well. CRADAs are not procurement tools, but rather business ventures, where the government and the industry are able to share intellectual property arrived at through the research in some agreed upon format. Under a CRADA the government can contribute “personnel, services, property, facilities, and equipment” (Wong, 4) but not funding. One benefit of CRADAs is that they are a good tool for creating spin-off technology, or technology transferred from the government to the private sector. However, they are not very effective in transferring technology from the private sector to the government.
The DoD also may use Cooperative Agreements (CAs) as a tool for R&D spending. These agreements have several variations and have proven to be more conducive to collaborative research and development projects. Besides their ease, CAs also allow for joint ventures in which the government assumes some part of the cost of the R&D being performed. They also allow for recovery of funds, should technology be yielded that proves profitable to the collaborating company.
Other Transactions (OTs) are another authorized instrument for DoD R&D funding. These, the most flexible of the tools allowed for the DoD, allows for return of investments for the government, placing it in somewhat of a venture capitalist role. These agreements have few restrictions on them, which make them a beneficial tool for the government to use when attempting to attract public-private partnerships.