US government subsidies to private military R&D investment: The defense department's independent R&D policy

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Abstract
A relatively obscure US defense procurement policy establishes a large subsidy to private research and development. On the surface, it appears that the marginal subsidy to such investment is zero, but this is true only in the short run. Due to DOD's policy of allowable‐cost determination, the (long‐run) steady‐state subsidy is substantial. It is much larger, in fact, than the subsidy provided by the R&D Tax Credit enacted in 1981. I calculate the subsidy by estimating an econometric model using contractor‐level data from the Defense Contract Audit Agency. This subsidy may have an important influence on the amount and character of privately financed innovation in the US.

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