Might war with Iraq spur economic growth? And what will it mean for small companies?
When Saddam Hussein dominates American newspapers, the economy tanks. That was true during the first Bush Administration, when the crisis over Iraq's invasion of Kuwait set off the Gulf War and started a U.S. recession. It's been true so far under the second Bush Administration, as talk of another war with Iraq drove oil prices above $32 a barrel by early 2003 and sent gold over $350 an ounce. Between the war on terror and the looming war with Iraq, the American economy reeled into recession in 2001 and limped through 2002 in a halfhearted recovery. As the North Koreans jumped into the act (and as the third member of Bush's "axis of evil," Iran, stepped up its nuclear purchases from Russia), the international situation is casting ever darker shadows over the U.S. economy.
Yet the most immediate major international conflict -- war with Iraq -- is likely to have the least harmful effect on the economy. To some degree, we have already suffered much of the damage -- high oil prices and skittish financial markets. While I would never support waging war to stimulate the economy, in my conversations and studies conducted as a senior fellow at the Council of Foreign Relations, I have come to the conclusion that a short war leading to Iraqi reconstruction and re-entry into world oil markets is more likely to signal the beginning of a new boom than another recession. Small and growing companies, with just a few exceptions discussed later, stand to benefit as quickly as the rest of the business world.
Since the oil shortages and price hikes of the 1970s, doom-laden oil scenarios have riveted the attention of American business. This isn't surprising; swings in notoriously volatile energy prices can quickly turn flourishing enterprises into debt-ridden disaster cases. Surging oil prices have often been blamed for triggering the recession after the first Gulf War; why shouldn't the same thing happen again?
Some say it will. William Nordhaus, professor of economics at Yale University and a member of the U.S. President's Council of Economic Advisers from 1977 to 1979, argues that the Bush Administration "marches ahead, heedless of the fiscal realities" and that there is a serious risk of economic disruption from upheavals in the oil markets. Bears like Nordhaus say that Gulf War II will lead to Recession II for two main reasons: the effect of war on oil prices and the costs of the war. With oil prices solidly over $30 a barrel in the fall and early winter, there are fears that war could cause shortages and supply disruptions that would push prices over $40 a barrel. Gas prices would surge past $2 a gallon, heating-oil prices would skyrocket, and both consumers and businesses would stagger under the blow. Energy-dependent businesses could face ruin; the overall economy might then tank.
That's what the bears think. Thankfully, they are wrong.
A recent study published by the Center for Strategic and International Studies (CSIS), a well-connected think tank based in Washington, D.C., looked at the economic impact of a new Gulf war, including on oil prices. In the best-case short-war scenario that most U.S. military experts predict, Iraqi oil production would stop for three months but hit 2 million barrels a day by the third quarter. Oil prices would spike to about $36 a barrel during the war before falling to $22 by year's end.
Stephen Levy, vice chairman of Titan Industrial, a $400 million international steel-trading firm, says heavy consumers of oil in the industrial and manufacturing sectors currently expect no major war-related supply disruptions. "I am confident that an overwhelming show of U.S. superiority in Iraq will help shorten the length of any spike in oil prices, and I am upbeat about the prospects of a robust economy by this coming summer," Levy says. In fact, he says, the biggest concern is not a war in Iraq but rather, a continued Venezuelan oil crisis. (Last year the United States imported roughly 1.4 million barrels a day from Venezuela compared with less than half a million barrels a day from Iraq.)
Bottom line: Barring unforeseen complications, countries like Saudi Arabia will keep their promises to pump excess oil to replace any Iraqi shortfall. "Saudi Arabia has been a reliable source of extra oil throughout the past few decades," says Rachel Bronson, Olin senior fellow and director of Middle East studies at the Council on Foreign Relations. "They sell themselves to consumers as being extremely dependable, and it is in their self-interest to fulfill this promise." U.S. businesses and consumers can expect that the current spike in oil prices will yield to a downward drift soon after the shooting stops.
Somewhere between 100,000 to 200,000 reservists from the National Guard may be used either to help the war effort in Iraq or to fill vacancies at home left by deployed active-duty officers.
A longer war would, of course, have more of an impact. If Iraqi resistance prevents renewed oil production, or if Saddam sabotages the oil fields, the CSIS projects that oil prices would reach $42 a barrel at the height of the war and would then slowly drop to $30 by the start of 2004.
Either way, the outlook is for improving oil prices as the year runs on. Optimists make a good case for expecting a short war, although pessimists worry that the combat phase could drag on for months, or even years, with Iraq becoming this generation's Vietnam. That would be bad news, but most military experts are quick to explain that while Saddam Hussein could be packing some alarming chemical and biological weapons, the United States is better prepared this time around than it was in the first Gulf War.
U.S. military and intelligence agencies have built up extensive knowledge about Iraqi tactics and military potential. The terrain of key objectives such as Baghdad, the oil fields, and Scud missile sites is well known. U.S. relations with internal opponents of Saddam's regime are also much tighter than they were during the first Gulf War.
Simply stated, oil prices will fall with a swift U.S. victory, although even a somewhat longer conflict is unlikely to inflict permanent economic damage through higher oil prices.
The deficits will get us if the oil doesn't, say the bears: War is expensive, and this one could be ruinous. The last Gulf War, bears note, came in over budget -- but at least we had allies to help pick up the tab. A new war will cost much more, and the allies aren't nearly as eager to help, some say. With the budget surplus already just a memory and mountainous deficits stretching as far as the eye can see, won't war spending trigger inflation or raise interest rates?
There have been many attempts at predicting the cost of the Iraqi war. The estimates produced by congressional budget analysts are the commonly cited ones. Taking it all together -- putting troops in, fighting, maintaining a presence postwar, reconstruction, bringing troops home -- the Congressional Budget Office (CBO) figures add up to $13 billion to deploy troops and $9 billion a month to carry out the war. Bringing home the armed forces could cost another $7 billion. The cost of an occupation of Iraq could run between $1 billion and $4 billion a month, CBO says.
