The institute's annual survey of arms spending and military capabilities points out that in Iraq and Yugoslavia, the West threatened force - but then failed to follow through or settled for diplomatic solutions.

It also says that the United States faced "overstretch" this year in deployments to the Gulf, the Balkans and other trouble spots.

The institute says there are serious questions over the US's capability to conduct operations in more than one region at a time.

It points out that, while defence budgets have continued to decline in Europe and North America, military spending is soaring in the Middle East.

"Once again, the thorny issues surrounding the use of force and diplomacy have challenged the major western powers," it says.

It adds that the West's problems are complicated by the refusal of its Middle East allies - Turkey, Saudi Arabia, Bahrain and the United Arab Emirates - to provide facilities for an attack on Iraq.

The opposition of key partner Russia to any use of force by Nato against Yugoslavia was also a contributory factor in not carrying through threats.

The report says an extended Nato-led peacekeeping mission in Bosnia, instability in Kosovo and tension in the Gulf arising from Iraq's obstruction of UN weapons inspections severely tested the US's ability to maintain forces at a high state of readiness for protracted periods.

Defence spending and political will

The report says the defence spending of most European Nato allies has continued to fall sharply.

Notable exceptions were Greece and Turkey where the institute said the potential for conflict over Cyprus had increased.

But from 1996 to 1997, there was an overall 9% drop in spending among allies.

"Sustaining defence budgets, even at these reduced levels, requires an act of political will for the majority of Nato's European governments, particularly those which are committed to European Monetary Union and under pressure to meet the criteria for fiscal deficits and government debt," the report says.

Spending 'soars' in Middle East

Saddam Hussein: Threatened after blocking UN inspections

It adds that arms spending has continued to soar in the Middle East amid growing concern about a regional ballistic missile arms race.

After years of decline since 1987, there was also a clear upward trend in the international arms trade.

IISS analysis shows that in 1996 the arms trade grew by 8% to nearly $40 bn.