DMS files, lot W–1425, “Europe—Defense”

No. 260
Memorandum by the Assistant Director for Europe of the Mutual Security Agency (Cleveland) to the Chairman of the Mutual Assistance Advisory Committee (Gordon)1

confidential

Subject:

  • Preliminary Estimates of the Impact of Potential Reductions in Defense Support for 1952/53 on European Defense Expenditures

Attached to this memorandum is a table2 showing our proposed redistribution of the illustrative defense support figures, by countries, for Title I, on the basis of possible reductions in defense support of 12.66 percent and 10 percent, respectively, from the total requested; and estimates of the impact of the reductions in defense support on the countries’ defense expenditures. Attached, also, are brief statements for each of the countries where a cut in defense support is indicated, describing the impact of an overall cut of 12.66 percent; the same line of reasoning can be used in adjusting to a 10 percent overall cut, for those countries that have different illustrative aid figures in the two models.

The Basis of the Distribution of the Cut in Defense Support:

The overall reduction of 12.66 percent, or $224.1 million, was distributed on the basis of the following considerations:

(a)
no cut for Yugoslavia because of the U.S. commitment involved in the tripartite agreement;3
(b)
no cut for Turkey because of the high value in terms of defense obtained for the small expenditures on each Turkish soldier;
(c)
no cut for Norway because the original amount requested is so small that it would be meaningless to reduce it and would have disproportionate political repercussions;
(d)
no cut for Iceland for the same reasons and because we are committed to finance the dollar costs of completing certain projects;
(e)
a smaller than proportionate cut for Austria, in view of its economic needs;
(f)
for Germany, a cut of 25 per cent, in large part because it appears unlikely that the Contractual Agreement4 and the EDC Treaty5 will be concluded in time for Germany to make the defense contribution to which the original illustrative figure for defense support was related;
(g)
a reduction of 25 percent for Denmark because there is a prospect that her requirements for dollar coal in FY 1953 will be lower than was earlier projected and because her level of defense expenditure is relatively low;
(h)
a cut of $28 million for Greece in view of the prospect of a lower dollar deficit than was earlier projected;
(i)
for Italy, a cut somewhat less than proportionate because of the special budgetary problems and political considerations involved in that country;
(j)
approximately proportionate cuts for France, the Netherlands and the United Kingdom.

In distributing the smaller cut of 10 percent in defense support, or $177 million, we propose restoring some of the above cuts to Denmark, France, the Netherlands and the United Kingdom.

Impact of the Reduction in Defense Support:

With a cut in defense support of $224.1 million (12.66 percent of the requested appropriation) defense expenditures in the NATO countries (excluding Greece and Turkey) plus Germany will decline an estimated $495 million. This estimate based on a country by country analysis indicates that defense expenditures in the aforementioned countries will decline about two and one half times the reduction in defense support. There is no special mathematical formula underlying the result. Rather, the multiplier effect reflects a number of special factors particularly in Belgium and Germany, and the particular distribution of the cut in defense support among the various countries.

We have assumed, in the case of Germany, only about one month’s slippage in the signing of the EDC Treaty and the Contractual Agreement. At the present moment it seems more likely that there will be a slippage of at least three months. Therefore, if it is politically feasible to go to the Appropriations Committee with a greatly reduced figure for defense support for Germany, on economic grounds it appears that defense support can be reduced below the level of $120 million, which is now provided for under the reduced aid assumptions. Each month of slippage in the signing of the Agreements involves a reduction of about $60 million in anticipated [Page 470] German defense expenditures. Therefore, if there is a three-month delay, defense expenditures will be about $180 million less than anticipated.

We will consider further the whole question of the distribution of the cut in defense support as we complete more detailed work on each of the countries. We would, therefore, appreciate your comments by Friday, May 16, 1952.

Harlan Cleveland

[Attachment 1]

Paper Prepared in the Mutual Security Agency

Belgium–Luxemburg

Impact of Reduced Aid to Europe on Estimated Belgium–Luxemburg Defense Expenditures

Although no aid is planned for Belgium in 1952/53, the proposed reduction of defense support to other countries would necessarily have an important impact on Belgium’s defense expenditure. This impact would arise from the effect of the reduction of aid on Belgium’s exports to the EPU area.

This reduction of 12.66% in aid to other EPU countries would force those countries to reduce their EPU deficits by curtailing imports, including those from Belgium. This development would effect some reduction in economic activity in Belgium; principally, an increase in unemployment arising from the decline in the export trade accompanied by increased unemployment relief and losses in tax revenue. It is assumed that this deterioration in the government’s fiscal position, at a time when there was already a considerable budgetary strain would lead to a decrease in defense expenditure. Since the ability of Belgium–Luxemburg to finance the proposed defense expenditure stems from its export surplus, the curtailment in exports, is expected to result in a decrease in defense expenditure equal to $67 million, reducing the total from $713 to $650 million.

[Page 471]

[Attachment 2]

Paper Prepared in the Mutual Security Agency

Denmark

Impact of Reduced Aid on Estimated Defense Expenditures

The impact of a reduction of $5 million in defense support to Denmark can be illustrated as follows:

Reduction in illustrative aid amount 5
Offsets
Increased imports from non-dollar sources 0.5
Increased dollar exports 1
Total offsets 1.5
Net reduction in imports 3.5

Since lower total consumption in the entire European area may be assumed if there is reduced aid, Denmark could probably obtain from alternate markets as much as half a million dollars worth of goods that previously were projected from dollar sources.

The use of $11 million reserves shown in the 1952/53 projections based on $20 million aid is considered the maximum feasible, particularly in view of the estimated use of $8 million in 1951/52. Danish reserves at the end of 1952/53 will be at about the lowest point reached in the post-devaluation difficulties and well below the 1947/48 amount.

Danish dollar exports were projected at a maximum in the “$20 million-aid” assumption. However, certain food items such as canned meats, for which there is a dollar market, could be diverted from the Danish home market and exported since lower domestic consumption level will result from the lack of aid. This would make about $1 million available for increased self-financed imports.

Because of Soviet bloc demands for embargoed goods, the Danes have not been able to obtain satisfactory trade agreements with Eastern countries. Since there is little that the Danes can offer in which these countries are interested, it is not likely that the Danes would be able to offset reduced imports from the dollar area by increased imports from behind the Iron Curtain.

Consequently, if a $5 million reduction in the illustrative aid figure is effected, goods and services valued at an estimated $3.5 million could not be financed from Danish resources and would be completely lost to the Danish economy.

[Page 472]

The loss in GNP caused by loss of dollar imports will be substantial since dollar imports are key items in the Danish economy and many sectors are wholly dependent on them for marginal increases in their output. For example, marked reductions in both quantity and quality of output of livestock products and in size of the herds could be a direct result of reductions in the available supply of protein feedstuffs. The direct and indirect effects of the loss of $3.5 million of imports is estimated at $27 million. When the loss in net foreign balance is added, total availabilities are reduced by $36 million.

Civilian consumption, more than any other part of the economy, would bear the brunt of the loss in resources, and would absorb a reduction of about $16 million. Investments would be reduced by $6 million, although this reduction will have a depressing influence on the GNP in 1952/53 and subsequent years.

On the whole, non-military Government services cannot be greatly reduced. It is estimated, however, that a cut of $2 million below the previously estimated level for 1952/53 can be made reducing the budget to the 1951/52 level; civilian defense would probably bear most of this loss.

Finally, the remainder of the impact of reduced availabilities resulting from the cut in aid would be on the defense program which would be reduced by $12 million from $152 million to $140 million.

[Attachment 3]

Paper Prepared in the Mutual Security Agency

France

Impact of Reduced Defense Support on Estimated Defense Expenditures

The impact of the $50 million cut in defense support will fall entirely on imports. However, since of the $50 million reduction, $10 million would have remained in the pipeline as of June 30, 1953, imports in 1952/53 will be reduced by $40 million (cif basis).

No increase in exports, to offset the cut in defense support, can be expected since the structure of present French prices is such that the relatively limited foreign market for French exports is already strained by the present estimate of the volume of exports in 1952/53. An increase in exports could be anticipated only in the event of a very considerable strengthening of the present disinflationary efforts in France plus a devaluation of the franc. Neither of these developments can be counted upon within the near future.

[Page 473]

The reduction of $40 million in FY 1953 imports in calculated to reduce overall French availabilities by $216 million (1951/52 prices), including a fall in gross national product of $178 million, and in the net foreign balance of $38 million.

It is calculated that the reduced availabilities would be distributed in the following manner:

(a)
Given the institutionalized welfare pattern of the French economy, it can be expected that personal consumption would fall by a relatively small amount, or $63 million. This loss would be concentrated to a substantial extent among persons closely associated with industries primarily affected by the loss of imports and reduced military outlay.
(b)
The reduction in investment is estimated at $35 million.
(c)
Civilian government consumption is expected to remain constant since a large percentage of the civilian budget in France is composed of transfer payments of various sorts and of welfare expenditures, neither of which could be expected to decline under the circumstances assumed.
(d)
The remainder of the reduced availabilities, therefore, or $118 million will come out of the defense program. Reduced gross national product will also result in a reduction in tax revenues and customs duties in addition to the loss to the French Treasury of the counterpart of $50 million of aid. The loss of revenue will intensify the need for reduced military expenditures.

The reduction in military expenditures will fall entirely on the NATO portion of the military budget, since it is assumed that the Indo-Chinese hostilities will continue and their cost cannot be reduced at this time. Other things being equal, it can be anticipated that the reduction in military outlay in Europe will fall mainly on production and construction, with the full impact being felt in an earlier and more considerable flattening out of production in the spring of 1953 than had been anticipated in the original calculation. Inasmuch as the French are financing less than $700 million in military production in FY 1952, and a considerable share of that total is going to Indo-China, a reduction of $118 million in this item would have a very considerable impact on the French contribution to Western European buildup plans.

[Page 474]

[Attachment 4]

Paper Prepared in the Mutual Security Agency

Germany

Impact of Reduced Defense Support on Estimated Defense Expenditures

A reduction by $40 million in FY 1953 defense support to Germany, lowering the illustrative support level to $120 million will adversely affect and reduce dollar imports and GNP, and the consequent repercussions on Gross National Product and on the budget will cause an estimated $88 million decrease in defense expenditures.

The immediate effect of this reduction will be cut in dollar imports of $21 million; part of the cut in defense support is offset by the amount which would have remained in pipeline at the end of fiscal 1953 ($18 million) and part by an improvement in the services account ($1 million).

No change in reserves is projected because the German reserve position is at a very low level. The reduction in imports cannot be made good from non-dollar sources since Germany has already made strenuous efforts to shift to non-dollar area procurement. Although German exports to the dollar area were under the full illustrative aid assumption projected at a substantially higher level than in 1951/52 (German dollar exports will cover a larger proportion of dollar imports than in most European countries) it is anticipated that with the reduction in aid, Germany will attempt to further increase exports to the dollar area. However, the fact that defense support levels of other EPU countries are to be reduced will probably result in a reduction in German earnings from EPU about counterbalancing the increase in exports to the dollar area.

The decline in GNP brought about by a loss of imports will be reinforced by the effect of a loss of counterpart funds, which in Germany are used primarily for the elimination of industrial bottlenecks via investment in the basic industries, particularly coal, steel and power.

The total GNP reduction resulting from reduced imports and a lower rate of investment in basic industries is estimated at $150 million. The resultant decline of available resources will be divided more or less equally between consumption, investment and government services.

A reduction of government revenues is unavoidable if the GNP declines. At the same time, a lower rate of economic development means that a smaller proportion of the increasing labor force can [Page 475] be absorbed, resulting in some increase in social welfare expenditures.

While not large in absolute magnitudes, the combination of increased welfare expenditures and decreased revenues will sharpen the well-developed German fear of inflation and cause a reduction of military expenditures to avoid futher imbalance in the budget. The minimum reduction which would result is the $88 million referred to above.

Limitations on the Foregoing Analysis

A German defense contribution at an annual rate of DM 11.25 billion ($2.6 billion) will not commence until the coming into force of the contractual agreement and the Treaty establishing the European Defense Community. Hence, if the complex negotiations establishing such agreements extend beyond July 1, 1952, there would be a reduction in the German contribution apart from the effect of reduced defense support. The net loss to Western defense would be the difference between the higher rate of expenditures proposed and the present level of occupation costs, since the latter will continue until the conclusions of the above agreements.

[Attachment 5]

Paper Prepared in the Mutual Security Agency

Greece

Impact of Reduced Defense Support on Estimated Defense Expenditures

It is estimated that a reduction in FY 1953 defense support for Greece by $28.1 million, from $145.2 million to $117.1 million, will result in a reduction of about $15 million in Greek military expenditures during FY 1953.

The maintenance of the present very large Greek defense effort constitutes an extraordinarily heavy burden upon the Greek economy, because of Greece’s poverty of economic resources and very low civilian consumption level. However, since it is in Greece’s own interest to maintain, insofar as possible, its effective military strength regardless of the magnitude of U.S. assistance, it is anticipated that, rather than endanger Greece’s security by reducing the country’s military strength, the Greek Government will first endeavor to divert additional resources to the military establishment. The Greek Government has already initiated a program of severe fiscal and financial measures designed to insure the maximum possible defense effort despite recent large reduction in the levels of [Page 476] U.S. assistance. Although U.S. assistance has declined to the proposed level of $145.2 million in FY 1953 from a level of about $300 million in FY 1951 and a level of about $180 million in FY 1952, Greece’s military expenditures have remained near the high point attained during the period of guerrilla warfare. It is anticipated that the Government’s present program, which includes measures for the reduction of non-military budget expenditures for welfare and investment purposes and increased taxes designed to curtail civilian consumption, can be intensified sufficiently to bring about a further diversion of about $13 million in available resources from the civilian economy to the military establishment during FY 1953. However, in view of Greece’s poverty, reductions in civilian consumption much beyond this level would probably result in marked social instability, thus weakening the base of the military effort.

It is further anticipated that the estimated reduction of $15 million in Greek FY 1953 military expenditures resulting from the proposed reduction in defense support would not decrease the size of the Greek armed forces. Instead, it is assumed that the Government would maintain the armed forces at their present strength and reduce expenditures upon roads, airfields, fortifications, and other military installations which are either under way at present or planned for construction during FY 1953. The prompt completion of these military installations, however, is considered essential to Greece’s security and to its maximum contribution to a united defense effort.

[Attachment 6]

Paper Prepared in the Mutual Security Agency

Italy

Impact of Reduced Defense Support on Estimated Defense Expenditures

If Italy obtains $100 million instead of $110 million of defense support in 1952/53, it is estimated the level of defense expenditure will fall $20 million below that previously projected. This would occur mainly because of the effect of the cut in defense support on the budgetary position of the Italian Government.

It is assumed that not only would Italy fail to receive aid but also that dollar receipts from EPU would fall $5 million below the level projected. This drop reflects the impact on EPU positions of the reduction of defense support to other EPU members.

The effect on the balance of payments are calculated as follows: [Page 477]

Cut in aid 10
Reduction in dollar earnings from EPU 5
Total reduction in dollar availabilities 15

Offsets
Amount of cut in defense support which would have remained in pipeline 3
Increased dollar exports 3
Improvement in dollar service account 1
Total offsets 7
Decrease in dollar imports 8
Reduction in non-dollar imports 3
Total reduction in imports 11

It is assumed that a lower level of EPU trade and the cutback in dollar imports would cause a reduction in EPU imports of $4 million, partly offset by a shift of $1 million from dollar to ONPC imports.

The curtailment of dollar imports will affect key items in production. It is expected however that the impact of the cutbacks would be somewhat cushioned by drawing down of stockpiles and inventories in Italy. Hence, it is estimated that the reduction of $11 million in imports will result in a reduction of GNP of only $24 million.

The reduction in tax receipts consequent to the lower GNP combined with the reduced availability of counterpart would decrease the financial resources of the Italian Government by $20 million. In view of the political and social situation in Italy and the nature of civilian expenditures a cut in non-military government expenditures cannot be anticipated. Therefore in the framework of the conservative budgetary policy followed by that Government, it is reasonable to assume a corresponding reduction in defense expenditure.

[Attachment 7]

Paper Prepared in the Mutual Security Agency

The Netherlands

Impact of Reduced Defense Support on Estimated Defense Expenditures

The initial effect of a reduction of $10 million ($80 million to $70 million) in defense support would be a decrease in dollar imports of [Page 478] about $7 million and an increase of dollar exports of about $2 million reducing the gap to approximately $1 million, which can probably be covered by reduced payments for services.

Total availabilities will be reduced on two counts. First, the reduction of imports will have a negative multiplier effect of about 2.9 on the GNP, reducing it by about $19 million, and second, this decrease in imports coupled with the increase in exports will reduce net goods and services from abroad by about $7 million. Total availabilities will therefore fall by about $26 million.

A reshuffling of the economy will result; imports needed for the export industry will be increased at the expense of imports for consumption, long term investment, and defense. Imports suitable for both defense and exports will be shifted to the export industry to close the balance of payments gap.

A government program to reduce consumption by 10% and investment by 25% since 1950 has been carried out successfully, leaving little room for further reductions in these categories. Decreases of $5 million and $2 million in consumption and investment respectively is probably as much as could be expected. Defense will feel the greatest impact due to the nature of the imports required for it, and will decline by about $19 million.

[Attachment 8]

Paper Prepared in the Mutual Security Agency

United Kingdom

Impact of Reduced Defense Support on Estimated Defense Expenditures

The impact of a reduction of $75 million from the $590 million projected for defense support aid to the United Kingdom for fiscal year 1952/53 must be considered in relation to the background of balance of payments crisis and the severe loss of reserves which the UK suffered in 1951/52. Any reduction in defense support to the UK leaves the UK with no alternative but to seek adjustments adequate to avoid incurring the payments gap which the withdrawal of aid would otherwise leave. The projections based on the assumption of $590 million aid already take into account the severe measures of adjustment which the United Kingdom has introduced and imply the maximum feasible reliance on the consumption of stocks to support the level of activity.

Significant offsets to the loss of $75 million are unlikely in sufficient volume to be able to avoid import cuts even if it is assumed [Page 479] that some military equipment can be sold in the dollar area and that reduced imports result in lower dollar service costs. Dollar imports have already been reduced to essentials and the impact of further cuts cannot help but be severe. The relationship between imports and GNP is of primary importance in the UK which imports about half its food and most of its raw materials. The net cut in imports which would be necessary with reduced aid cannot help but result in a reduced level of gross national product as compared with the full aid projection. This loss of product has been estimated at $300 million.

The reduction in gross national product and the changes in net foreign balance will effect a reduction of almost 1 percent in the total resources available for domestic use from prospective resources available on the assumption of full defense supporting aid. A substantial reduction in the investment program and in per capita personal consumption below the 1950/51 level were already implied with the full aid assumption. Nevertheless, it has been assumed here that despite the domestic economic, social, and political problems of imposing additional cuts on the civil sectors of the economy, the government would seek to protect the defense effort as much as it could and would attempt to distribute the reduction in domestic availabilities enforced by this proposed reduction in aid throughout the economy. Only about half the cut could be imposed on the civil sectors, however, and an additional reduction inevitably would fall on defense, equivalent to a defense multiplier effect from the cut in aid of approximately 2.3. The defense effort projected at $4,750 million on the assumption of $590 million in aid would thus be reduced to $4,575 million, or a reduction of $175 million.

  1. Copies of this memorandum were sent to the Departments of Defense and Treasury, the Office of the Director for Mutual Security, and to Edwin M. Martin.
  2. Not printed.
  3. Reference is to the 1951 agreement between France, the United Kingdom, and the United States regarding the means by which the three countries would extend aid to Yugoslavia; see the editorial note, Foreign Relations, 1950, vol. iv, p. 1482.
  4. For documentation on the negotiations leading to the signing of the Convention on Relations between the Three Powers and the Federal Republic of Germany on May 26, 1952, see vol. vii, Part 1, pp. 1 ff.
  5. For documentation on the interest of the United States in the establishment by treaty of a European Defense Community, see vol. v, Part 1, pp. 571 ff.