Applying the System Asset Pricing Model to International Arms Exports: Measuring the System Welfare Cost of Legitimate Arms Transfers

Arms exports destroy 2.54 in welfare per 1 of private gain

The global arms trade generates 293B in annual private payoff but imposes 570–920B in system welfare costs. The system welfare beta β_W = 2.54 means the system is a net welfare destroyer.

• β_W = 2.54 [90% CI: 1.9–3.5] from 100,000 Monte Carlo draws
• System-adjusted payoff Π^SA = -$45.4B (negative in 100% of draws)
• Break-even governance efficiency μ* = 0.66 — a 66% cost reduction needed for neutrality

CAPM logic applied to welfare destruction

The System Asset Pricing Model replaces 'market portfolio' with 'system welfare portfolio.' Private payoff Π is adjusted by β_W to get system-adjusted payoff Π^SA = Π(1 − β_W).

• CAPM: E(R_i) = R_f + β_i[E(R_m) − R_f]
• SAPM: Π^SA = Π − β_W·Π = Π(1 − β_W)
• For arms exports: Π = 293B, β_W = 2.54, Π^SA = -45.4B

Standard metrics miss $570–920B in annual welfare costs

Military spending hit $2.718T in 2024, but no budget line captures welfare costs on target populations. Small arms kill 500K–740K people annually, often years after export licenses expire.

• U.S. FMS authorized 117.9B in FY2024, up from 81B in FY2023
• Armed-violence mortality cost: $95–163B per year
• Conflict-driven GDP contraction: $120–250B per year
• Diversion and illicit proliferation: $85–180B per year

No supranational tax authority, no bargaining for dead civilians

Pigouvian taxation fails because no global body can tax arms exports, marginal costs are non-stationary, and beneficiaries control the taxing authority. Coase fails because transaction costs are infinite for affected populations and property rights are undefined.

• 63% of arms-industry lobbyists are former government officials — regulatory capture at industrial scale
• DSCA approves 97% of government-to-government arms sale requests
• Yemeni civilians cannot bargain with Lockheed Martin; Pakistani border communities cannot negotiate with the DoD

Welfare costs flow through six distinct channels

Each channel maps to an institutional failure mode. Combined, they produce the aggregate β_W = 2.54.

• C1: Armed-violence mortality & morbidity ($95–163B)
• C2: Conflict-driven macroeconomic contraction ($120–250B)
• C3: Diversion & illicit proliferation ($85–180B)
• C4: Procurement corruption & deadweight loss ($60–140B)
• C5: Arms-race & deterrence-failure externalities ($90–120B)
• C6: Institutional & regulatory decay ($20–67B)

100% of 100,000 draws show negative system-adjusted payoff

Under heterogeneous channel assumptions with Gaussian copula (ρ=0.3), Π^SA is negative in every draw. The result is robust to ±50% sensitivity on diversion, arms-race, and institutional-decay channels.

• Seed 42, 100,000 draws, 5 channels
• Baseline β_W = 2.54; low-cost tail β_W = 1.90; high-cost tail β_W = 3.50
• Even at high payoff denominator stress (β_W = 1.40), system remains welfare-negative

$7.12 billion abandoned in Afghanistan — the catastrophic endpoint

The single largest documented diversion event illustrates systemic end-use monitoring failure. U.S. weapons routinely outlast their intended recipients by decades.

• Iranian operatives reverse-engineer captured American MRAPs
• Libyan arsenal dispersed after 2011 fuels violence across 12 countries
• Export license expires in one year; weapon operates for thirty

Arms trade accounts for 40% of all international transaction corruption

An industry constituting ~2% of global trade generates 40% of its corruption — a twenty-fold concentration. The procurement corruption premium is 6% with zero quality gains.

• 62% of countries face high-to-critical defense-sector corruption risk (GDI)
• Baránek & Titl (2024): political favoritism raises prices 6%, no quality improvement
• Minimum $20B annual corruption cost

ATT reporting compliance falls to 38% — honored in the breach

The Arms Trade Treaty, signed by 115 countries, sees on-time reporting at 38–44%. The UN Register of Conventional Arms participation hits all-time lows.

• Leahy Laws condition U.S. assistance on human rights, but enforcement is weak
• Lithuania withdrew from the Convention on Cluster Munitions in 2024
• Dutch F-35 ruling shows domestic judicial enforcement can halt transfers

μ* = 0.66: a 66% welfare-cost reduction is achievable

The break-even governance efficiency threshold is ambitious but not utopian. The Ottawa Treaty achieved ~90% reduction for covered weapons; Norway's 1959 framework has near-zero welfare costs for six decades.

• Ottawa Treaty: ~90% β_W reduction for anti-personnel landmines
• Dutch F-35 ruling: effective cessation for covered components
• Categorical bans outperform subjective risk assessments (ATT <5% reduction)

Arms exports are a negative-sum system — reform is institutionally tractable

The system is not blocked by an impossibility theorem. Existing instruments (AECA, ATT, Leahy Laws, Wassenaar) provide sites for legislative, judicial, or treaty-based intervention already demonstrated at smaller scale.

• Require welfare-cost scoring for large licenses (regulator action)
• Build product-line welfare ledgers and diversion risk controls (contractor action)
• Add annual end-use compliance and diversion-rate disclosure (ATT Secretariat)

Every dollar of weapons revenue exports $2.54 in welfare costs

The arms export system destroys $451B more in welfare than it generates in private value. The correction is a matter of institutional design, not theoretical impossibility.

• β_W = 2.54 places arms exports in upper-middle tier of SAPM domains
• System-adjusted payoff Π^SA = -$45.4B (central estimate)
• Reform at channel level — not aggregate — is the path to neutrality