This article presents a model of arms expenditures and arms accumulation for the Soviet Union and United States from 1952 through 1978. It argues that contemporary superpowers do not react solely to the military budgets of one another in assessing the potential threat against which they must allocate military resources, i.e., in deciding upon the military budget. Rather, they respond primary to the relative balance of strategic and conventional military forces. A continuous time model of this process is developed and estimated. If one examines only the budgets of these two nations, it would appear that no race is occurring; rather, the Soviets are simply increasing their arms expenditures irrespective of what the United States does. However, when one examines the relative stocks of military capabilities, it appears that the USSR is racing to catch up to the United States. Finally, the dynamics governing arms competition between the United States and the USSR appear to be undergoing marked change.
Price Discovery in a Continuous-Time Setting