War May Worsen Ailing Economy - Experts don't see a World War II-style bounce in cards
www.newsday.com By James Toedtman CHIEF ECONOMIC CORRESPONDENT March 14, 2003
Washington - A war against Iraq threatens to undermine an already weakened U.S. economy, especially because of the potential for higher energy costs, what one energy expert calls "the gorilla in the bathtub."
While some past wars boosted business activity, U.S. military action against Iraq and its aftermath is likely to cause more problems for the economy, government officials, business leaders and economists say.
The consensus view is that even under the best-case military scenario - a quick victory - the economy will see rising unemployment, bankruptcies and government deficits.
And then there's the gorilla in the bathtub. That's the phrase used by Kevin Rooney, executive director of the Oil Heat Institute of Long Island, to describe the biggest potential economic danger that war poses: its impact on the cost of energy.
Oil prices already are at 12-year highs, gasoline prices are around $2 a gallon, home heating bills have people gasping in disbelief - and the whole situation could get worse if supplies from the oil-rich Middle East are disrupted. Higher energy costs also raise the specter of overall inflation rearing its ugly head.
That could be the blow that forces consumers to cut way back on their spending. Weary after two years of slack economic growth, depleted retirement accounts and growing job anxiety, consumers would especially feel the pinch of higher energy costs.
"People are already paying the price" of a war, said Larry Goldstein, president of Petroleum Industry Research Foundation.
Some past wars stimulated the economy because the government poured so much money into the effort. That was certainly the case in World War II, when the $2.9 trillion in spending more than doubled the size of the nation's economic output. But spending on the Persian Gulf War amounted to only 1 percent of the gross domestic product, and a war with Iraq could be similar in size.
"We are starting from a weak position," said Sung Won Sohn, chief economist for San Francisco-based Wells Fargo Bank.
The potential price tag may be measured on three levels: the direct war costs, the cost of reconstruction and the impact on the overall economy.
While the Bush administration has been reluctant to publicly discuss the actual cost of a military campaign, private and congressional estimates range between $50 billion and $100 billion, depending on the length and difficulty of the battle. That is comparable to the Gulf War in 1991, except that the costs that time were shared by more than a dozen nations. The United States has committed to assume virtually all costs for any new military action.
But the price tag could be a lot higher, according to Yale economist William Nordhaus, a White House economic adviser during the Carter administration. Estimates are always low, he said, putting the cost at as much as $140 billion.
The cost of stabilizing and rebuilding Iraq is even more uncertain, except that it will be high. "A short war with oil facilities intact would cost a modest amount. But a messy war with torched oil fields would raise the costs dramatically," Sohn said.
A Council on Foreign Relations task force led by former CIA director James Schlesinger and Undersecretary of State Thomas Pickering recommended a combined occupation and nation-building force that would cost up to $20 billion a year for several years. Nordhaus estimated the post-conflict costs at between $100 billion and $600 billion over the next decade. The administration is already mobilizing a UN-based reconstruction effort, which would help deliver the services and share the cost.
"Americans should know the costs are going to be considerable," Schlesinger said this week. His $20 billion-a-year price includes the cost of 75,000 troops and $3 billion in food and medical care.
The consequences of any conflict ricochet like a pinball - in unexpected directions and with uneven impact. The military costs, for example, will feed an already growing federal budget deficit, now pegged at $307 billion.
"That will make deficits larger, so we'll see higher interest rates," said Pearl Kamer, chief economist for the Long Island Association. That in turn could raise borrowing costs for car loans and home mortgages, and make it more expensive for businesses to finance new projects.
Consumer confidence would then suffer even more. "On Long Island, we saw it lag in the last three months of last year, but it's now actually fallen below last year," Kamer said, pointing to sales tax revenues in Nassau and Suffolk that were 2 percent lower this January than last.
Growing defense spending will provide some direct benefit for New York, but the cost-benefit ratio is asymmetrical. For example, the Navy announced a $300 million contract for developing a counterpart to the unmanned Global Hawk surveillance drone now deployed in the Persian Gulf. That has the potential of between 150 and 500 new jobs at Northrop Grumman's Bethpage facility.
But on the same day, the airline industry warned that an Iraq war could reduce passenger traffic by 8 percent, cost the airlines $10.3 billion, eliminate 70,000 jobs, including thousands in New York, and bring the entire industry to the brink of bankruptcy.
Before the start of any military conflict, the price of a barrel of crude oil has risen from $20 to $38 in the past 12 months. That translates to higher heating oil (prices in the metropolitan area have gone from $1.39 to $2.04 per gallon) and jet fuel (61 cents to $1.30).
That affects transportation. A 1-cent increase in the price of jet fuel costs the U.S. airlines $180 million a year, according to the Air Transport Association. Higher energy costs also affect the prices of plastic, fertilizer and food processing. Even construction costs rise, Sohn noted, in part because of the cost of making and then shipping drywall.
Part of the oil problem is based on a national strike in Venezuela that cut daily production there in half.
Further complicating the energy picture is the duration and severity of this winter's cold weather, and the tight supply of natural gas. Most businesses can switch between oil and natural gas, depending on market conditions. When oil prices rose last fall, many opted for natural gas. With depleted natural gas supplies and disrupted oil production, prices of both fuels have skyrocketed.
The global oil supply system is "running on empty," according to a report this week by the International Energy Agency.
That has prompted calls from industry and government leaders to bridge the shortfall by tapping petroleum reserves around the world. Sen. Charles Schumer (D-N.Y.) warned yesterday that the nation risked a recession unless the Bush administration taps the Strategic Petroleum Reserve.
"High prices for crude oil, gasoline, jet fuel and home heating oil are the four horsemen of what will soon be an economic apocalypse if nothing is done," Schumer said.
COST OF CONFLICT
A war against Iraq is expected to cost the federal government $50 billion to $100 billion, about 1 percent of the U.S. gross domestic product. How past wars compare:
NAME OF WAR
Name of War Cost In billions %GDP In 2002 dollars (at the time) Revolutionary War $2.2 63% War of 1812 1.1 13 U.S.-Mexican War 1.6 3 Civil War* 62.0 104 Spanish American War 9.6 3 World War I 190.6 24 World War II 2,896.3 130 Korean War 335.9 15 Vietnam War 494.3 12 Persian Gulf War 76.1 1
- Includes Union and Confederate sides
SOURCE: U.S. Commerce Department
Cost in %