Article: U.S. Economy Will Rebound After Hit

Summary

The terrorist attack at the World Trade Center threatens to damage American confidence enough to trigger a full-blown recession. Although initial responses will likely exacerbate the situation, the United States has a diverse and decentralized economy that should rebound despite the damage.

Analysis

The Sept. 11 terrorist attack in New York that destroyed the World Trade Center, killing possibly thousands, disrupted the heart of the financial world. The calamity also threatens to inflict enough damage to American confidence to trigger a full-blown recession.

The suspension of air service, stock trading and the fraying of American confidence will probably be enough to suspend the tentative economic recovery of the United States. But quick action from governments in Europe, Japan and at home, combined with the America's underlying economic strength and flexibility, should lead to an eventual resurgence.

The U.S. recovery, originally expected in the latter half of 2001, will be delayed for at least six months. New York City, and specifically the World Trade Center complex, served as the center of the financial world. While preliminary reports from Morgan Stanley Dean Witter -- which occupied one-eighth of the building's office space -- indicate that most of their employeess escaped, the fact remains that the towers held some of the top players in the financial world.

A number of high-powered companies saw their offices crumble, along with 418 other firms, including Allstate, Bank of America, Bank of Taiwan, Credit Suisse, Delta Airlines, Deutsche Bank, Dun & Bradstreet, First Liberty, Fuji Bank, Hyundai, Oppenheimer Funds, Sinopec, Sun Microsystems, World Travel and Xerox. Where the world's most experienced traders once stood is a void that cannot easily be filled. The one bright spot is that Asian and European exchanges may have absorbed the brunt of the panic selling, preventing a total collapse of U.S. share prices once the American exchange network finally reopens.

The physical closure of New York complicates the uneasy financial picture. The New York exchanges handle $90 billion in trade daily, according to Bloomberg News. Following the Sept. 11 attack, the entire island of Manhattan was sealed off and largely remained so throughout the following day. Many financial institutions, banks, shopping malls and restaurants nationwide also closed.

The grounding of all air traffic in the United States for the first time in history is also a major blow, paralyzing high-end business transactions as well as the shipping industry. The grounding also hamstrings the postal system, particularly the delivery of checks, whether for payments or entitlement programs. For an economy that just barely eked out 0.2 percent growth last quarter, such a broad-based business closure alone could sabotage third-quarter growth.

Beyond New York, likely American retaliatory attacks will make matters worse for the economy in the short term. U.S. President George W. Bush made it eminently clear the United States not only held the terrorists responsible for the attacks, but any state that assisted or sheltered them as well. If Washington targets a state that is an oil producer or located along oil shipment routes, the resulting crude price spike will weigh heavily upon all aspects of the global economy.

Most important, the attacks cannot help but damage consumer confidence, which is key to America's economic power. After a decade of government fiscal discipline, consumer spending now constitutes 70 percent of all economic activity. The remaining 30 percent is primarily business investment, which nearly always takes its cue from the consumer. It is strong consumer spending that has prevented America's recent slowdown from degenerating into a recession.

If U.S. confidence does tumble, the entire world will suffer as well. America is the single largest destination for African, Asian, European and Latin American exports and constitutes nearly one-third of global output. With Japan mired in debt and Europe preoccupied with integration, the entire world counts upon strong U.S. demand to kick-start the staggering global economy.

An extended U.S. downturn, probably including at least one quarter of recession, is almost certain. The rest of the world, however, will not sit idly by waiting for economic Armageddon. While both Europe and Japan face their own financial ills, their respective leaders certainly recognize the short- and long-term threat a weakened United States represents.

Both countries are acting with rare speed and determination. Within a day of the tragedies in New York and Washington, the Japanese and European central banks together released $80 billion in additional funds to ensure sufficient cheap credit in the their economies to finance new operations. The quick action was probably a leading factor in stemming today the sharp losses suffered by European exchanges yesterday, and it also nudged the dollar higher Sept. 12 after yesterday's plunge. The European Central Bank will also probably cut interest rates soon.

While the short-term environment is fraught with uncertainty and risk, the U.S. economy still remains fundamentally stable, and most importantly, decentralized. New York City may be a global center, but it is not America's only economic hub. Baltimore, Boston, Chicago, Dallas, Houston, Los Angeles, Miami, Philadelphia, San Francisco and St. Louis are all world-class cities with their own independent infrastructures and economic bases. This economic diversity prevents the injuries to New York and Washington from inflicting permanent damage on the economy as a whole.

The decentralization continues even in the financial sector. After the 1993 World Trade Center bombing, companies inhabiting the center were sure to have a contingency plan to ensure operations could continue following any future attack. More important, no irreplaceable systems or exchanges were located in the center.

Any trading that normally would have occurred there can easily be transferred to other exchanges, such as the ones in London and Chicago. In effect the financial system is similar to the Internet. Even if one server goes down, the rest of the system will go on.

The Federal Reserve seems to be continuing with the same steady, decisive action that has earned its Chairman Alan Greenspan international respect and acclaim. Earlier today the Fed injected $38.25 billion -- 10 times the daily average -- into the banking system, mirroring European and Japanese actions. Greenspan, initially trapped in Europe by the transatlantic flight ban, returned to the United States this afternoon. His mere presence should remove some of the hysteria buffeting the business community, especially if he comes bearing news of another interest rate cut.

It is a cut he can easily make. American inflation remains low, freeing the Fed to cut rates for an eighth time this year. Greenspan's quick moves after the 1987 "Black Monday" market crash, consisting of a similar mix of capital injections and rate cuts, is credited for America's nimble escape from that financial near-disaster. As in 1987 the need to reassure the markets, and consumers, outweighs any concerns about a weak dollar and rising oil prices.

The future, however, will not be uniformly bright for all industries. Insurance firms face covering the largest single U.S. disaster ever, with Bloomberg reporting estimates anywhere from $5 billion to $30 billion. The airline industry will suffer for years from the fact that the planes of America's two largest carriers were used as terrorist weapons. The heightened security that regulators and the public will demand will add additional costs to an industry already plagued by razor-thin margins. Such costs will extend the damage to tourism and shipping.

Finally, although the United States will undoubtedly bounce back, the fundamental character of doing business in America will change. Now that it is clear terrorism poses a threat to domestic American business interests, the cost of insuring against such attacks will mushroom, and will probably need to be covered by separate sabotage and terrorism policies. Such additional indemnities will raise the cost of doing business, eroding some of America's economic edge - particularly for the airline industry.

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