IF EVERYONE now comfortably grasps "supply-side" economics and the logical beauty of the Laffer Curve, it will not confuse them further if I introduce them to the Maginot Curve. The Maginot Curve, which I have named in honor of those French generals who prepared so cleverly for World War II, applies the "supply-side" perspective to the "demand side" of President Reagan's new budget -- the trillion-dollar boom in defense spending.
The Laffer Curve, as everyone surely known by now, holds that as the government rasies its tax rates, it reaches a zero point where revenue actually begins to decline. The more you tax, the less you collect.
The Maginot Curve makes the same point about defense spending. The more you spend on rearming, the fewer weapons you get for your money. Those who are familiar with weapons procurement know that this is already happening. As the Reagan rearmament pours $1.5 trillion into the Pentagon over the next five years, the United States will approach the Maginot's theoretical zero point, never before reached by civilized nations. We will spend much, much more on weapons and we will get back nearly zero in national security.
This is only a theory, of course, I do not expect the Reagan team to take it seriously, because it offends all of their cherished notions about what government is for.
Government is for buying tanks, ships, airplanes and making America strong. Who would believe that dumping a trillion dollars on the defense industry might actually make us weaker? The French generals built a big wall across eastern France to keep the Germans out and called it the Maginot Line. Trouble was, Hitler went around it.
A few years hence, after we have experienced the "supply-side" calamities of the Reagan defense budget, I predict people will be ready to examine the Maginot Curve as a serious idea. Point zero in defense procurement is not as distant as you might think.
Last fall, for instance, when the Pentagon was already flush with the Carter administration's budget increases, the negative effects of the Maginot Curve were already visible. In the final three months of 1980, the total purchase cost of 47 major weapons systems escalated by $47.6 billion. tFrom September to December, due to engineering changes and foul-ups and inflation, the total price tag on these planes, tanks, ships, guns and fancy electronic gear rose from $262.6 billion to $310.2 billion, an inflation rate of nearly 20 percent.
That makes Medicaid sound like a real bargain. The $47.6 billion Pentagon overrun is, by the way, a wonderfully apt statistic for all those weep-easies around town who are moaning about the Reagan budget cuts for food stamps or Legal Services or other do-gooder programs. Think of it: The entire domestic budget cut which Ronald Reagan is proposing was swallowed up by one quarter's price escalation for Pentagon weapons. Does that register on anyone's yelp index?
But my fundamental point is this: Thanks to that price escalation, we must buy fewer weapons. The Air Force dropped seven F18 fighter jets from its 1981 buy. The Army reduced its order for XM1 tanks by 20 tanks and is negotiating to cut another 45. The Pentagon, like any average consumer, blames it on inflation and promises to be a more careful shopper in the future.
But the future will be worse for weapons inflation, not better, unless the Reagan managers have the political courage to confront the "supply side" flaws in the defense industry. Otherwise, the rush of new dollars into defense orders will simply aggravate all of the fundamental problems which are producing this extraordinary waste.
To reform the structural flaws in the defense industry, however, the "supply siders" would have to abandon one of their most cherished theological principles, the idea that there is a "free market" which functions efficiently on its own, if only government will get out of the way. Whatever one may say about the rest of the economy, the "free market" is an elaborate pretense in the defense sector. Defense production is perhaps the most highly regulated of all industries, operating partly in government-owned factories and with government guarantees of sales and profits. On many items of hardware, the Pentagon is the only buyer. And on most military parts and systems, the Pentagon buys from a company which is the only seller.
All of this is concealed by an earnest mythology of "free market" competitive bidding. The reality approaches monopoly. Only 8 percent of Defense's business is done by the formal system of advertised price competition. Most purchases are effectively "negotiated" between buyer (the government) and seller (defense contractor).
About 60 percent of Pentagon procurement is actually awarded on a noncompetitive, single-source basis in which the supplier names the price and delivery date. The larger the dollar value, the more likely it is that the contract will be noncompetitive.
These reality checkpoints are derived from the defense procurement studies done by a free-thinking economist named Jacques S. Gansler, who studied the structure of the defense industry as a deputy assistant secretary of defense in the Ford administration and who has spent the last five years trying to get generals, admirals and civilian managers to listen to what he found. Today, for those who seriously want to understand the matter, Gansler's analysis is summarized in one dense and troubling volume. "The Defense Industry" (MIT Press, Cambridge, Mass., $19.95).
Gansler, I should add quickly, is no weepy dove or out-of-fashion lib-lab economist. He believes, with the Pentagon brass, that America was "unilaterally disarming" itself in the post-Vietnam defense budgets while the Soviet Union was preparing for war and that the trend must be reversed. But he also believes that simply throwing money at Boeing and General Dynamics and McDonnell-Douglas and the hundreds of other defense contractors will produce disastrous results. Indeed, it was Gansler who explained for me the broad outlines of supply-and-demand inflation which I dubbed the Maginot Curve.
What would happen, for instance, if there were a sharp increase in defense expenditures for aircraft, as Reagan now proposes? Gansler anticipated the question in his book:
"Although there were many badly underutilized plants and redundant employes, it was highly likely that greatly increased defense funds, spent on the present products with the present contractors, would not yield significantly more military equipment but would only raise the prices.
"The existing bottlenecks of labor, parts and production machinery would not be removed, and the few firms doing business on the increased demand would simply pay more for the scarce parts and labor and charge the government more for the equipment produced.The impact would be inflationary, with little benefit in terms of either employment or national security."
This is easier to understand with a humble example. According to studies by the House Armed Services Committee, there is now a wait of 120 weeks for delivery of aircraft landing gear, twice the delay which existed only a few years ago. In some cases, according to Gansler, forgings and other parts for landing gear can only be obtained from one contractor. When the Pentagon makes new orders, those must wait in line behind the old orders. The effect is upward pressure on price and longer delays.
If the supplier decides to expand production, build a new plant and hire more workers, it runs into the industry-wide inflation. There is already a shortage of machinists in America and no surplus of engineers. Firms are already bidding up salaries in furious competition for personnel.
In addition, shortages of key parts hold up production on major weapons systems because the network of small suppliers has atrophied in the last decade. While the Pentagon and Congress concentrated on keeping the prime contractors afloat with bailouts and life-saving orders for the big-ticket items, scores of smaller firms simply dropped out of the defense business. They couldn't stand the boom-or-bust uncertainties; they left behind a greater concentration of producers, which means, of course, even less competition on price.
So far, we have not even mentioned the reliability of these weapons. Americans have gotten so accustomed to reading that their billion-dollar weapons don't work right or their huge airplanes have serious flaws that they are no longer shocked. Gansler believes that the scandals of unreliable defense products also flow from the structure of industry, the absence of genuine competition.
An aircraft manufacturer is encouraged by the present system to "buy in" during the research and development phase of a weapons program -- that's a business term for pricing the product too low at the start in order to win the sale. Then the contractor "gets well" later by gouging the customer when the aircraft is in full production and the buyer can't easily turn elsewhere.
In this case, of course, the customer is us. If the aircraft or its engine doesn't work right, so much the better. That means more engineering changes, an increased price tag and, under present procurement rules, greater profit.
The fundamental answer, of course, is more competition. Every true-blue conservative is for that. But the argument begins with this question: How do you create more competition in a highly regulated industrial sector where the government is the only customer and the marketplace is dominated by product monopolists? As I understand the "supply-side" approach they might say something like this: Deregulate the businesses, get the government off their backs and then simply throw a lot of the money on the table and let the fittest get the mostest.
Gansler, alas, thinks the government cannot withdraw from managing the defense industry, even if it wants to. The only issue is whether the Pentagon will reform its procurement strategies to produce more competition and, thus, lower prices and more reliability. Or whether it will allow the present structure to continue to swallow up these new billions and frustrate further the anxieties over our national arsenal versus the Reds.
Among other things, Gansler would apply "indicative planning" to the defense sector. "Indicative planning" is a dirty socialist term borrowed from the mixed economies of Western Europe, so Gansler prefers an Americanized euphemism: "coordinated government policy." What it means, crudely stated, is that the Pentagon would force-feed competitive arrangements on the defense industry. The peculiar nature of this sector is that, unlike the "free market" theory, ineffective firms don't get eliminated from the marketplace and efficient new competitors find it most difficult to gain entry.
For instance, in some cases, the Pentagon should set aside the meaningless facade of competitive bidding and use guarantees and subsidies to draw new firms into the field to compete on price and quality with the old monopolists. It should separate the R&D phase of weapons development from the production phase so that companies would have no incentive to "buy in" with dishonest estimates of costs. (Gansler notes, without irony, that this is what the Soviets do in their military-industrial complex, not to mention our European allies.) Military planners, if they really want to catch up with the Russians, should reverse the system's really want to catch up with the Russians, should reverse the system's really want to catch up with the Russians, should reverse the system's present incentives for raising costs and make the price tag a basic criterion in the design of new weapons.
And Gansler recommends this: Instead of perennially propping up losers, the government should allow some weak companies, including some of the major aircraft makers, to go under. Their plants are inefficient and represent a costly overcapacity which keeps valuable people and machines from converting to more useful enterprises.
As these remedies suggest, competition hurts. Will Defense Secretary Caspar Weinberger have the courage to confront the Pentagon pork barrel and apply his famous knife to its bloated contracts? Weinberger's initial moves to reform contracting have been encouraging, but he has not gotten to the hard parts.
Reagan's staunch supporters in the defense industry will yelp like wounded liberals if the SecDef tries to force a little honest competition upon them. If he doesn't try, we will watch the defense budget climb the Maginot Curve faster than you can cut the free lunch for poor people.