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9 A digression on the economic
costs of war
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Figure 1. Indonesia, GDP per capita (1983 Rupiah '000 - oil at shadow price)
1,000
900
800
700
600
500
400
300
200
100
Source: Howard Dick, ‘The Challenge of Sustainable
Development’, in Indonesia Today: Challenges of History, Lloyd and Smith, editors
2
20
00
19
95
19
90
19
85
19
80
19
75
19
70
19
65
19
60
19
55
19
50
19
45
19
40
19
35
19
30
19
25
19
20
19
15
19
10
19
05
19
00
0
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Wars and economic development
“Peace is prerequisite to successful
development. Most of the economically
successful countries have been able to enjoy
sociopolitical stability. By contrast, most of
the thirty-six countries that have lost ground
over the past twenty-five years were involved
in a substantial military conflict”
-- Summers and Thomas (1993)
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The costs of wars
• Direct costs:
• Destruction and damage to capital & labor assets
• Military expenditures
• Medical and refugee care
• Possible expansionary impact from employment of idle
resources
• Indirect costs:
• K flight, loss of export revenues, loss of FDI, emigration of
skilled labor
• Efficiency losses: resource misallocation, uncertainty,
diminished quality of policy-making and implementation,
corruption.
• Efficiency gains: acquisition of new (specialized) information
and skills; productivity spillovers to nonmilitary industries.
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Indirect costs
• Most direct (and short-run indirect) impacts affect the level of output
and income.
– Can therefore calculate present value of the costs of war through a
comparison of actual and counterfactual growth rates.
• Indirect growth effects are likely to be felt through resource allocation
decisions:
– Military exp. by government ‘crowds-out’ other forms of gov’t investment
and expenditures (Sri Lanka budget data)
– Milit. expenditures (and actual conflict) may reduce exp. return on private
investments, and may increase the volatility of those returns, and raise risk
premia and other transactions costs.
• Less tangible consequences:
– Constraints on government policy-making capacity
– Restrictions on information flows
– Smuggling, corruption and other rent-seeking opportunities.
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Indirect costs
• Sectoral effects of conflict and military expenditures. Distortions
(relative to peace time) in relative returns to factors and sectors:
– Moveable assets (war discourages fixed investments)
– Discount rates applied to natural resource depletion (plus, loss of rule of
law creates de facto open access, e.g. Angolan diamonds, Cambodian
timber and gems).
• Political polarization and degradation of institutions and processes of
governance
– E.g., conflicts over land ownership in Zimbabwean politics, 20 years after
the war.
– E.g., Political conflicts over exchange rate policies when military supplies
are mainly imported.
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Sri Lanka 1984-94
Direct costs
% 1996 GDP*
Direct gov’t military exp.
41.3
LTTE military expenditure
4.1
Gov’t exp. on relief services
3.0
Cost of lost infrastructure
13.5
Indirect costs
Lost income due to foregone public investment
8.6
Lost income from reduced tourist arrivals
17.0
Lost income from reduced foreign investment
71.2
Other sources of foregone income
10.3
Total
168.0
* Assumes 5% interest rate, excludes many intangible & efficiency costs
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The long-term costs of war
• Short-run damages, long-run fiscal costs, plus efficiency losses reduce
level and growth rate of income
• Post-war reconstruction (e.g. replacing damaged infrastructure) further
competes with ‘counterfactual’ investment and expenditures
• Industrial structure biased toward military supplies, industries with
mainly mobile assets
• Less tangibly, wars degrade institutional robustness and policy-making
capacity
• The poor and the young, with fewer and/or less mobile assets, lose
relatively more
• Diminished rule of law creates de facto open access to env. & natural
resource assets
• Wars create poverty & social tensions-- the precursors to future strife
• Domestic costs also spill over to neighbors and other countries
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What about a ‘peace ‘dividend’?
• Knight et al 1996:
– Military exp. and wars reduce growth
– Milit. exp. also reduces total investment
– Simulated cuts in milit. exp raise growth and
investment, by differing amounts in each region
depending on initial milit. expenditure shares:
– Conditional convergence model (steady state values)
– Table 7: effects of late 1980s reductions in milit. exp.
– Table 8: effects of “global peace” (all regions’ milit. exp.
reduced to that of lowest region)
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The peace dividend in some
developing regions
Investment/GDP change
(%)
Per capita GDP relative to
baseline *
Future exp
at 1986-90
Future exp
at lowest
Future exp
at 1986-90
Future exp
at lowest
Asia
(6.35)
0.66
1.63
13.6
32.7
Middle East
(10.34)
0.25
3.30
3.6
46.2
N. Africa
(8.13)
0.70
1.81
15.7
39.6
Region
(M/GDP)
* Steady state value relative to baseline (Source: Knight et al 1996)
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A few researchable topics
• General equilibrium output effects of war
and peace, taking account of intersectoral
resource allocation
• Static (“impacts”)
• Dynamic -- including investment changes
• Distributional effects & political economy
• Effects on ‘rents’ and efficiency
• Inter-country spillover effects
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References
• Arunatilake, N.; S. Jayasuriya, and S. Kelegama, 2001: The economic
cost of the war in Sri Lanka. World Development 29(9): 1483-1500.
• Knight, Malcolm; Loayza, Norman; Villanueva, Delano, 1996: The
peace dividend: Military spending cuts and economic growth.
International Monetary Fund. Staff Papers 43(1) March.
• Summers, Lawrence H; Thomas, Vinod, 1993: Recent Lessons of
Development. World Bank Research Observer, vol. 8, no. 2, July, pp.
241-54.
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