Analysts see economic shocks from Iraq war

By CHRISTIAN BOURGE, UPI think tanks correspondent   |   Nov. 13, 2002 at 1:23 PM
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WASHINGTON, Nov. 13 (UPI) -- An American attack on Iraq could have a significant negative impact not only on the oil and financial markets, but on the entire global economy, analysts at a conference sponsored by the Center for Strategic and International Studies said Tuesday.

"The impact on oil and the economy is extremely important," said Adam Sieminski, director and global oil strategist for Deutsche Bank.

John Hamre, president and chief executive officer of CSIS, said such considerations have largely been ignored in the debate over whether to use military force to topple Iraqi President Saddam Hussein, while the focus has principally been on the merits, security dangers and geopolitical impacts of an attack.

"Far less attention is being paid to the range of potential economic consequences that would accompany the overthrow of Hussein and his regime," said Hamre.

At the conference, Bob Ebel, director of the energy program at CSIS, outlined three possible levels of economic impacts that could result from a U.S. attack on Iraq early next year. The three are a benign, intermediate and worst case scenario, each of which results in progressively greater economic and political difficulties.

The scenarios were developed by Ebel and Sieminski along with Herman Franssen, a CSIS senior fellow, and Larry Goldstein, president of the Petroleum Industry Research Foundation.

Ebel said any conflict in Iraq would result in limited access to the major oil reserves there, and possibly those in other areas of the Middle East. This would limit supply in a market that is already tight and has little room for the expansion of production.

"It should be kept in mind that any oil-related scenario can be expected to yield instability," said Ebel.

Under the benign scenario, U.S. military forces meet little resistance and the Iraqi forces collapse within weeks with no use of weapons of mass destruction: there is little damage to Iraqi oil fields and infrastructure, and no major acts of Iraqi sabotage that would affect oil producers in the region.

Ebel and his fellow authors predict that in such a case, oil prices would spike at around $40 a barrel in the first economic quarter following an attack, but return to lower levels over the course of the following year. Oil prices averaged $27 a barrel in the third quarter of this year.

Oil production in Iraq would also slow down for several months, but resume slowly in the quarter following an attack. The overall negative economic impacts would ultimately be relatively minor.

The worst-case scenario assumes stiff resistance from Iraqi troops and their use of weapons of mass destruction in a protracted battle. The economic impact of such a conflict would be major and would likely produce a worldwide recession, they predict.

In this scenario, oil prices are predicted to rise to $80 dollars a barrel due to the inability of world oil producers to meet demand, and economic uncertainty in face of a long battle. The model predicts a resulting sharp fall in equities exchanges and housing prices in the United States, along with a decline in overall economic activity. This would occur along with rising unemployment rates and a collapse in consumer confidence.

Reduced oil supplies would also result in gasoline rationing and decreased consumption.

Sieminski said high oil prices hold profound economic consequences because they are associated with slowed overall economic growth and a subsequent lowering of gross domestic product in countries around the world.

"All you need is $40 dollar (per barrel) oil to bring the economy to a complete standstill," he said. "With $80 oil we will be in the negative and that is not good."

Goldstein said an important component in the effect on oil markets would be the fact that commercial stocks of oil are tight going into the fourth quarter of 2002 and are expected to continue to be so through 2003.

He added that one way to curtail the impact to oil markets, and therefore minimize the impact upon the global economy, would be to use the U.S. petroleum stockpile immediately following an attack.

"The key ingredient we missed in 1990, and can't afford to miss today, is the use of the strategic petroleum reserve given the fragility of current economics and the possible economic impact of war," said Goldstein. "We must calm the markets."

He said just the announcement that sales from the stockpile may occur would temper effect on oil market volatility and the disruptions to the global economy that would follow a U.S. attack on Iraq.

"The simple announcement of our intent will go a long way to calm the markets," he said.

Bob DiClemente, managing director of Salomon Smith Barney, a New York investment firm, said though the impact of a war would be significant, his firm's economic analysis found that the United States and global economies would reverse those the negative impacts within a year.

"Even in the worst case the economy is reviving within a year and that is accompanied by risk-free interest rates and gradual improvement in (corporate) credit and quality in the stock markets," he said.

This general finding was echoed in the economic modeling done by other analysts at the conference.

William Dudley, the chief U.S. economist at Goldman Sachs & Co., a Wall Street investment firm, said though the scenarios demonstrate the economic pitfalls of attacking Iraq, the current state of the U.S. economy makes the situation not as bad as it could be.

He said though the world economy was in a slump, the major oil crisis in the latter part of the 20th Century came at more economically inopportune times for the United States.

He noted that for the 1972-75 oil crisis, the U.S. economy was overheating, and that in 1978-82, inflation moved up very sharply prior to the oil market shock.

DiClemente agreed with Dudley's analysis, noting that world securities markets have corrected from the exuberant highs of the late 1990s economic bubble. This makes them well valued relative to the overall economy, and able to weather market shocks.

In addition, he said the war on terrorism and recent geopolitical conflicts in the Middle East and elsewhere have had a further dampening effect on stock and bond markets.

"I would argue that we are in a much better position than we might have otherwise," he said. "The economy is in some sense less vulnerable to the types of shocks that we are proposing."

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