The tragedy of September 11 was a wake-up call to Americans complacent about the kind of terrorism experienced all too frequently overseas – from Belfast to Tel Aviv, from London to Moscow, from Tokyo to Paris.
Throughout history, attacks on the homeland have galvanized the citizenry, as witness the resolve of those living in London, Berlin and Tokyo during World War II, and more recently the patriotic response of New Yorkers and other Americans after September 11. But attacks, whether as part of declared warfare or hit-and-run terrorism, have an adverse effect on a nation’s economy.
Unfortunately, our national statistics are not sufficiently refined to enable us to take a direct reading of the economic effects of September 11.
Obviously, there was a loss of capital. The attack on the World Trade Towers destroyed two magnificent structures and several others surrounding “ground zero.” The Pentagon suffered substantial damage, and three expensive aircraft were lost. Even more significant was the loss of human capital. The Trade Towers housed a concentration of extraordinarily capable technicians and creative entrepreneurs. Likewise, the human losses in the Pentagon, while far fewer, were of specialized talent essential to our national defense. And let’s not forget those in the aircraft that crashed in New York, Virginia and Pennsylvania.
Gauging the effect of September 11 on economic output is particularly vexing, because the economy was already weak when the planes hit. According to the National Bureau of Economic Research (NBER), the economy probably began contracting in March, six months before the tragedy. A good estimate is that had September 11 not occurred, we would have experienced no growth in the second quarter of 2001 and a slight contraction during the third quarter, with recovery following. Under the NBER’s traditional definition of a recession – two sequential quarters of contraction – there would have been no recession. But because of September 11, the numbers will likely show that the U.S. economy contracted during the third and fourth quarters, and perhaps the first quarter of 2002. In other words, because of September 11 we did have a recession.
Peter Navarro and Aron Spencer, in the Milken Institute Review, evaluate the effects of September 11 and estimate the cost of property damage to range from $11 billion to $13 billion, the cost of coping with the increased threat (primarily because of airport delays) to be $41 billion per year, and the cost of human capital to be in the range of $40 billion. They also speculate that the cost of pain and suffering to be on the order of $100 billion.
Given that the U.S. economy suffered a substantial reduction of both wealth and output because of September 11, it is remarkable that the recovery appears to be going so well, so fast. The consensus among forecasters is that while the first quarter of 2002 will probably register another contraction, the economy should rebound during the second or third quarter, making this a very short recession by historical standards. Already, Fed Chairman Greenspan is beginning to sound optimistic. Instructively, the stock market (as measured by the Dow) fell by 14 percent following September 11, but by the end of the year had made up this deficit and more.
This pattern of recovery is all the more remarkable, since September 11 sharply reduced the government’s ability to deal with economic downturns.
The economic models relied on by policymakers went out of calibration. For example, September 11 caused people to be less inclined to consume, lowering the velocity of money. Growing anxiety about the future caused people to exhibit a higher marginal rate of time preference, making them less likely to consume durables, more likely to purchase and hoard consumables. These and other changes in consumer behavior make it more difficult for government officials to predict with much certainty the effects of policy changes – or even to have much effect, as witness the failure of substantial cuts in the federal funds rate to stimulate capital markets.
The economy’s ability to cope with, and overcome, adversity is a reflection of the relative freedom Americans have to redeploy capital and to adjust their lifestyles to changing threats and opportunities. One might well imagine that the effects of a September 11-type incident in many other developed, but less-free, nations would be more lasting. It is a tribute to the resilience of the American economy that what might well have been a truly severe blow is likely to turn out to have been a significant but reasonably short-lived phenomenon.
James C. Miller III is John M. Olin Distinguished Fellow at Citizens for a
Sound Economy Foundation.