Economic Shock

The attack could potentially impact our economy in several ways. First, the attack temporarily shut down the nation's civilian air system and financial markets. The nation's communication system has also been disrupted, as the World Trade Center was an important nexus in that system. The lost economic activity, which can never be made up, is quickly mounting. The air transportation industry creates some $500 million a day in value added, while the securities industry creates an additional close to $800 million in value added daily. Other industries, including the hotel and insurance industries, are also suffering mightily.

Second, the day’s horrific events could undermine already very fragile consumer and business confidence. Businesses and consumers were already reeling from plunging profitability and surging unemployment. A bunker mentality could quickly develop, inducing businesses to further postpone investment and scaring consumers away from shopping malls and into canceling vacations.

Third, global investors could turn more cautious in their purchases of U.S. stocks and bonds, especially as evidenced in the week following the reopening of Wall Street. The U.S. financial markets and economy have been the beneficiary of some $500 billion in annual foreign capital inflows. Global investors have been very willing to invest in the U.S., deeming it to be the global economy's AAA credit. If anything were going wrong anywhere in the global economy, then money would flow more freely here. If this view is tarnished by the attack, then the heretofore-strong U.S. dollar would be at risk, as would U.S. financial markets and economy.

Fourth, there is the staggering loss of lives and physical infrastructure in Lower Manhattan. There is arguably no more productive few square miles anywhere in the nation. The average person working on Manhattan creates annual economic output worth an estimated $150,000. This is more than twice the national average of $70,000.

Global investors' initial reaction has been to sell the U.S. dollar and buy gold and oil. This is not surprising, but could quickly become a significant global economic problem if it continues on and gathers momentum.

Under any scenario, the initial economic impact of all of this is decidedly negative. Third quarter real GDP growth, which was struggling to remain positive before yesterday's events, will almost assuredly turn negative. The lost economic output in the transportation, hotel, brokerage, insurance, communication and retail industries in the next few weeks will be in the billions and more likely in the tens of billions of dollars.

There are two potential historical precedents for gauging whether the economy will slide further later this year and early next. If consumers and businesses react to yesterday's events similarly to the way they reacted to the Persian Gulf War more than a decade ago, then the economy's difficulties will intensify in coming months. Everyone was literally and figuratively glued to their TVs during that conflict, causing spending and investing to stall. The Gulf War was thus the proximate cause for the 1990-1991 recession.

If the American public treats yesterday's events more as if it were a national natural disaster, however, then the economy may rebound quickly before year's end. When an earthquake, hurricane or flood hits, the impacted region is quickly showered with insurance payouts and government aid. Rebuilding begins quickly and economic activity is stimulated. Indeed, the rebuilding in the wake of the January 1994 Los Angeles earthquake, which caused an estimated $15 billion in damage and an additional $10 billion in lost output, jogged that economy out of its four-year long recession.

The response of U.S. policymakers will thus critically determine whether the economy slides into a prolonged recession or rebounds quickly. Fiscal policymakers have quickly agreed on massive amounts of aid for some of those impacted and are focusing on others. Therefore, the negative economic fallout will be painful, but should be short-lived. The Federal Reserve Board has also acted forcefully by lowering interest rates last Monday before trading resumed on Wall Street. If investors appear to be losing faith and financial markets are roiled, then the board must continue to look at lowering interest rates.

While it may appear that there is no way to avoid a full-blown global economic recession as a result of the Sept. 11 terrorist action, this is not necessarily so.

I believe that the sooner all of us return to doing what we do, the less likely the attacks will go down in history as the shock that induced the 2000-2001 recession. This would be at least a partial victory against the perpetrators of those dastardly events.