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April 21, 2003
Military victory in Iraq has still not had a visible effect on the financial markets.
Low-fee mortgage rates are unchanged in the high fives, and 10-year T-notes still trade close to 4.00%. Last Wednesday, just after the terrorism alert level was lowered from orange to yellow, and Mr. Bush delivered a speech on economic recovery measures, the Dow dumped 100 points.
The economic data last week were poor, but reasonably on trend, not showing a new downturn. We already knew March was bad: industrial production fell .5% (versus a .2% forecast decline), and industrial capacity utilization fell to 74.8% (any reading below 80% is slow; below 75%, very much so). In Victory Week, another 442,000 people filed new claims for unemployment insurance, 30,000 more than the week before, and the ninth straight week above 400,000.
The "core" rate of inflation, stripped of the volatile energy and food components, rose only 1.7% in the last year, the smallest increase since 1966. A general price level impervious to a doubling of energy prices is perfect evidence of deflationary forces in play, and corporate inability to grow profits by raising prices. Although earnings are better than last year's, the S&P 500 is trading at 18 times 2003 forecast "operating" earnings, which optimists think is a reasonable multiple, and others of us don't. The stock market will continue to be a huge determinant of mortgage rates.
For months, even the Fed has pointed to "geo-political risks" as a condition limiting the pace of economic growth. Although it is too soon for a relaxation in those risks to have an impact on the economy, the markets are in the business of estimating the future. The absence of victory rally, somewhere, anywhere, questions either the authenticity of geo-political risk as an economic damper, or the degree to which the fall of Baghdad marks a sharp increase in American security, or both.
I have to believe that geo-political risk is hurting the economy (and helping rates) in some way, but the extent is hard to measure. Relief would be nice; but, if the fall of Baghdad doesn't do it, what will?
If we had Saddam, or his head, or a smear of his DNA; or the same for bin Laden, we would feel better, but not the well-being of 2000. Discover a pile of WMD in Iraq? An added sense of completion and legitimacy, but half the world would assume we planted the stuff, and most of the rest think inspectors and containment would have been enough.
The military operation was the brilliant equivalent of a Mob ice-pick hit, and the light-force plan seems to be working as the occupation begins. Yes, there is looting and chaos, which might have been prevented by a lot more boots in the street. However, one officer after another, asked if the coalition force will fix this or that disorder, says in rehearsed unison, "That's for Iraqis to do for themselves."
So it's going to go. This administration is putting on a remarkable show in the highest-risk foreign adventure in American history. Never mind the awful diplomatic preliminaries. If we have to take crucial action alone, in spite of allied opposition, we will. In other necessary actions, we will insist that others shoulder responsibility: from Iraqis working for independent governance, to North Korea's neighbors engaging a fundamentally local problem.
In the near term, our imperial behavior has gotten results, and some grudging or fearful respect, but not nearly as many new friends as new opponents. We won't know for years if the risks taken and those to come were worth the trouble.
This particular campaign for civilization has a ways to run, and the markets know it. If April 9 in Baghdad was not enough to lighten the economic geopolitical load, then the Fed, Congress, the administration, and the rest of us need to work on new economic approaches and expectations.
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