Incentives, the budgetary process, and inefficiently low production rates in defence procurement

This paper proposes an explanation for the stylized fact that production of weapons systematically occurs in plants which are of too large a scale relative to the rates of output actually produced. An important feature of the decision‐making process leading up to the production of a new weapon is that Congress delegates technical design decisions over production facilities to the military because of its greater expertise. This feature is captured by formally modeling the decision‐making process as a sequential game where the military first chooses scale and Congress then chooses how much to buy. The key idea is that by increasing scale, the military lowers marginal cost and thus increases the amount that Congress will buy. In the resulting equilibrium scale choice is too large relative to the output actually produced.