This paper provides new evidence on the question of the effects of defense spending on aggregate output in the United States. Earlier studies of this basic issue relied on traditional econometric techniques and the neoclassical production function theory. In this paper, recently developed cointegration methodology and modeling that is inspired by new macroeconomic theory is employed. The results from earlier studies concerning the effects of defense spending are mixed. The findings presented in this paper reveal that there is a quantitatively important and positive relation between defense spending and aggregate output in the United States.Defense Spending, Aggregate Output, Cointegration Analysis,

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A two sector neo-classical growth model of the economy composed of a civilian and a defense sector with technological change in both sectors and with defense acting as an externality in the civilian sector is presented. The inclusion of technological change separates the effect of defense spending into two components, the change in the rate of defense spending and the relative size of the defense sector. Estimation shows that a change in defense spending has a positive and significant effect on the growth rate of the economy and that both defense effects are individually significant.

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