In context to previous wars, results have had mixed economic consequences. The Korean War gave a forceful incentive to commodity prices and growth, followed by a short, mild recession and then strong recovery. The Vietnam War at its peak in the late 1960s contributed to strong economic growth, but also growing government borrowing and inflation, the effects of which were felt years later in the crises of the 1970s.
The economic impact of any war in the Gulf is difficult to separate from the effect of possible disruptions in oil supplies. The war currently has involved both military spending and an oil shock, which has raised prices currently to over $30. Oil shocks damage oil- importing countries because they simultaneously depress demand and raise prices. The shocks have caused, or been a catalyst for, a serious downturn in western economies, causing detrimental social effects also through less spending and in turn less employment possibly an effect we may see in the near future.
The perspective of western economies is more reassuring however in the long-term. After the preceding war, Iraq held the Kuwait oil fields - producing around two million barrels per day - more than doubling crude prices to $40 a barrel. Four months later, extra Saudi output and the release of International Energy Agency (IEA) reserves - 2.5 million barrels per day - forced prices back down to $16, where they stayed, roughly, for most of the rest of the decade, despite much of Iraq's production being rationed through sanctions.
With crude prices again exceeding $30, we are now arguably experiencing an oil shock already. Demand was depressed in the main consuming countries last year, so prices should be falling. Instead they rose over $10 in a year. Anticipation of war and doubt is an underlying factor, but not the only one; some argue the war premium is only two to three dollars.
OPEC has also been trying to assert discipline over production with last year's quota cuts. Serious disruption by strikes in Venezuela, which generates nearly three million barrels a day, has been a key short term factor, though OPEC has now agreed to fill in the supply.
US Government hopefuls argue that this is the ‘bottom of the barrel’. A quick, clean strike against Iraq has temporarily disabled part of its production - around 2.5 million barrels per day - but has caused little extra damage. Prices could have surged to $40 or more for a few days or weeks, but markets have quickly appreciated that there is potential over-supply rather than scarcity.
Reserves of four billion barrels can be released in an emergency. Most countries have enough stockpiled to last up to three months. These supplies can easily feed releases on the scale of the last Gulf war.
Although OPEC may be concerned politically over the American invasion, self-interest has meant they will be compliant. Saudi Arabia has a continuing interest in keeping overseas markets for its only export. This means upholding its status for consistency at acceptable prices.
Oil producing countries like Iran and Nigeria may now try and take advantage of the situation to earn additional revenue and market share in this post-war free for all. Both Saudi Arabia and non-OPEC Russia have announced that they will step up production to head off any price shock.
At this point, western optimists see interesting prospects as Iraq's installations are reported to be in poor shape but could be brought back into full production with heavy investment, no doubt from countries that have served the allied cause.
As a state separate from OPEC, Iraq could turn the taps to full flow allowing production to reach up to eight million barrels per day in five years, challenging Saudi Arabia as the foremost producer. This could lead to the possibility of a new oil economy with less reliance on Saudi Arabia and without the threat of political turmoils in the Middle East turning into a global economic crisis.
Unfortunately Iraq's share of global, proven oil reserves is only just over ten percent; Russia's is five percent. By contrast, the Saudis have almost twenty five percent and other Gulf States linked to Saudi a further twenty percent. In a competitive, free world of low cost oil, the Saudis and other Gulf states have an advantage. They alone can produce profitably at very low prices, though the revenue loss would be very painful. It is the high cost non-OPEC producers - new developments deep offshore or in remote locations like Central Asia - that would be unviable. And potential alternative supplies like the vast Venezuelan oil shales would have no chance.
Any strategy based on the hope of Iraq opening up an era of cheap and abundant long- term supplies of oil, is simply an illusion. The success of the war in the long term in making new supplies available and driving down the price make the oil- consuming world even more dependent on low cost Gulf supplies.
The most serious risk is if the shock of a new Gulf war were to hasten the collapse of the Saudi regime and the smaller Sheikhdoms around the peninsula. Two sets of stresses might bear on a regime already believed to face a great deal of internal dissent and challenges to its legitimacy from Islamic radicals and others.
Firstly, there have been recent intense anti-western feelings especially after the arms firing accident killing over 40 Iraqis. Personnel changes might bring forward people less inclined to be accommodating over oil production. Or regime change could bring to power people with little interest in worldly problems such as oil, much like the mullahs in Iran in 1979.
A second strain on the Saudi regime would arise from Iraqi oil production contributing to a period of very low oil prices - say $10 or below. The loss of revenue from low prices - or large enforced production cuts to sustain prices - would be disastrous for the Saudi economy and its rulers. The population has grown from nine million in 1960 to 21 million, with 32 million projected in 2015. Per capita incomes have fallen by sixty percent since the 1980 peak and could now be cut further. Beyond the ruling class, it is not a rich country: per capita annual incomes are around $7,000 and disparities in living standards are striking. The ability of the state to provide cheap public services is directly undermined by falling oil revenues.
The potential for revolution is all too plain, especially in the current unstable post Saddam situation we see now. It is quite conceivable that such an eventuality could well occur as a delayed reaction after a successful military operation and the lack of control and civil unrest we are watching.
The economic effects of these various scenarios are bound to be complex. If we isolate the effect of increased oil prices, the International Monetary Fund estimates that a $10 a barrel rise in the price of oil sustained over a year - roughly what happened last year - reduces global gross domestic product (GDP) by 0.6 percent. The impact varies from 0.8 percent of GDP in America, the euro area and developing Asia - more in major importers like Korea, India and Thailand. These are first round impacts and do not incorporate the effects of policy changes in oil importing countries, additional spending by OPEC nations, or the impact on confidence - currently brittle - amongst consumers and investors.
Then there are the costs of the war itself. Heavy spending has occurred anyway, such as pay for soldiers in a professional army. But hazard pay, medical support, spare parts, fuel, communications, the replacement of damaged equipment and additional items are expensive. The cost of keeping the US army fighting and now maintaining the country has cost billions. Now there is the potentially larger expenditure on reconstruction and nation building.
The total cost of the war so far is around $80 billion for the US and $4 billion for Britain. The Pentagon has estimated $50 billion - 0.55 percent of gross national product - for a war in Iraq, but this assumes a simple operation and seems to exclude reconstruction costs. The Congressional Budget Office similarly estimates $50-60 billion for a short war.
It is economically important how the war costs are to be paid. In a depressed economy with spare capacity, a burst of military hardware spending could stimulate demand and increase national output. But under current economic conditions, additional demand financed by government borrowing will spill over into inflation or imports, adding to the current account deficit, which is five percent of GDP for the US and two percent for Britain and their fiscal deficits - three percent and 1.5 percent of GDP.
Fiscal and current account deficits of the US in particular would require foreign investors to continue to buy large volumes of government debt. But there are already doubts about the sustainability of the dollar value. It is therefore quite plausible that worries about financing the twin deficit, swollen by war, could help precipitate a sharp fall in the dollar. This would raise the dollar cost of servicing debt in the US, forcing a fiscal adjustment that would further puncture consumer confidence. A dollar fall would also export recession to US trading partners.
Worries over the funding of the war and its current aftermath could very easily precipitate a collapse of external and internal confidence in the US economy. Imbalances on this side of the Atlantic are less extreme. Britain is not an oil importer like the US, but a general downturn in oil importing countries would be bound to affect it. The continued close alignment of the American and British economies through private capital flows ensures that any transatlantic economic infection would be catching.
