Would a War with Iraq Doom Us to a Double-Dip Recession?

Since the end of 2001, President George W. Bush has been rattling his saber in the direction of Saddam Hussein, threatening war with Iraq. During this period, oil prices have surged by 46 percent, and the U.S. economy, which had been showing signs of recovery near the end of 2001, has become limp. The connection is significant. In the current economic environment, talk about war is not cheap.

Alan Greenspan, chairman of the Federal Reserve Board, has observed an interesting “coincidence” related to the recent history of oil. All recessions since the 1970s came on the heels of higher energy costs. The first price boost occurred after 1973, when OPEC established an embargo on petroleum. A second surge appeared in 1979 in response to the Iranian revolution and additional production cutbacks by OPEC. A third recession occurred when prices rose after Iraq’s invasion of Kuwait in 1990.

The fourth recession began in 1999-2000 when OPEC again cut production, and its impact is now intensifying because of the growing talk about war against Iraq. Once again, oil prices may be serving as an important catalyst for recession. The threat of military conflict in the Middle East has agitated the petroleum markets for months. Experts speculate that war fears are playing an important role in boosting prices. Over the course of 2002 prices per barrel have climbed from about $20 to nearly $30. The president of the New York-based Petroleum Research Industry Foundation estimates that about $5 per barrel can be attributed to the expectation of war. Another analyst associated with Fimat USA suggests the war premium amounts to about $10 a barrel.

Fast-rising energy costs are dampening hopes for economic recovery at home and abroad. In the United States the surging prices act like a gigantic tax increase, more than negating the effect of Congress’s recent decision to cut income taxes. Economists worry that consumers will hold back on purchases as they confront higher gasoline and heating bills Airlines, already badly hurt by the slowdown in passenger traffic after 9-11, are feeling the pinch, too. Spiraling fuel costs have brought especially bad news for major carriers that are facing severe financial difficulties, such as United Airlines and U.S. Air. As troublesome as the new energy crisis is for people and corporations in the United States, the impact could prove substantially greater abroad. Europeans and the Japanese are much more dependent on oil imports than the Americans. Their economies are sputtering.

Will action instead of talk help to relieve the economic pain? Can war lead to a reduction in energy costs?

Relief could be on the way. Iraq is one of the world’s major producers of petroleum, yet it currently pumps much less than its capacity. Restrictions imposed after the Persian Gulf War keep more than a million barrels of Iraqi oil out of the world market each day. If a new war succeeds in removing Saddam Hussein quickly and returning Iraq’s fields to full production, OPEC could be forced to cut petroleum prices.

On the other hand, war against Iraq may prove harmful to the U.S. and world economies. Much productive capacity could be destroyed. In the Persian Gulf conflict Saddam Hussein wrecked Kuwaiti oil wells and destroyed some of his own. In a new war Iraq’s dictator might launch attacks on the huge oil facilities in neighboring Saudi Arabia and Kuwait or commit economic suicide against his own production centers. This destructiveness could spike oil prices dramatically. Furthermore, American military actions in a new war might prove costly. A senior economic analyst in the Bush administration recently estimated the cost of a war with Iraq at $100-200 billion. Unlike the Persian Gulf War, in which allied nations paid 80% of the cost, American plans for a new conflict with Iraq are being drawn up hastily and without substantial monetary commitments from friendly countries. A lone-wolf approach to warfare could leave the expensive job of rebuilding a defeated Iraq almost solely on the shoulders of Americans.

Questions about the economic impact of talk and action have received surprisingly little attention in the mass media. Commentators usually focus on the diplomatic and military implications of engagement and say almost nothing about the costs.

President Lyndon B. Johnson practiced a similar approach when he promoted American military action in Vietnam during the 1960s. Johnson avoided discussion of the Vietnam War’s likely impact on the economy. He did not acknowledge that a large-scale commitment in Southeast Asia would require great personal sacrifice from Americans. The president spoke optimistically in 1965 as he sent U.S. troops into battle. He suggested that the nation could have both guns and butter.

Two years later, Johnson saw that the runaway cost of action in Vietnam could harm the economy and force severe reductions in his Great Society programs. The president said that managing fiscal policy in wartime was like trying to drive a car with the gas pedal tied down. To deal with the budget crisis, Johnson asked for a surcharge on personal and corporate taxes. Americans in 1967 were no more enthusiastic about tax increases than they are today. They rejected Johnson’s delayed effort to bill them for the war. Johnson’s evasiveness on the price of engagement in Vietnam contributed to growing public bitterness. When voters realized that they were paying for large-scale commitments in Vietnam through inflation, they became frustrated and angry.

The example of Lyndon B. Johnson’s mistake in the 1960s suggests a lesson for today. Americans need to confront the current economic questions associated with war in Iraq directly and frankly. After reviewing those costs, they may conclude, nevertheless, that war is necessary and justified. Evading such a frank discussion now, however, could lead to painful adjustments in the months and years to come.