Rational-choice theory shows exactly why defense can't be privatized; in a market of many private companies, no particular company will gain more then it'd have to spend on a strategic nuclear deterrent, nor will any company be willing to spend the costs of organizing everybody else. Nuclear submarines are very expensive and not very profitable...
"Nuclear submarines are very expensive and not very profitable..."
No dual-use? See post #56 about using defense systems for other purposes.
In any case, severe problems arise long before you get to that stage. As soon as I find out that my neighbors have purchased invasion insurance or militia coverage or what-the-hell-have-you, the obvious rational choice for me is to stop paying for my own military defense. After all, the people protecting my neighborhood from attack can hardly leave my house selectively undefended, in which case, I get the best of both worlds - I get protection, but I don't have to pay for it. It's the classic free-rider problem, of course, and as soon as my neighbors figure out how my impeccable logic works, the whole thing falls apart tout suite.