Much of the media have concluded that the stock market must fear war with Iraq more than it welcomes the prospect of a decisive denouement for the regime of Saddam Hussein. That makes for an intuitively appealing — if simplistic — story line. After all, if war is “bad,” then anything that would impede war must be “good.”
But a closer look at the situation suggests that what the market wants most is resolution of the Iraqi crisis.
For example, the equity market had one of its best days of the year last Tuesday, following a three-day weekend bracketed by Hans Blix’s presentation to the U.N. Security Council and anti-war protests on the streets of global capitals. The media echo chamber that followed was nearly deafening. It touted the market gains as a positive response to events that suggested war with Iraq could be delayed or perhaps even averted. But even as that story was being retailed far and wide, crude oil — the commodity more sensitive than any to the risk of war with Iraq — was rising to new 29-month highs. At the same time, President Bush made it abundantly clear that neither United Nations wrangling nor a weekend of demonstrations had weakened his resolve. In mid-afternoon comments that Tuesday, Bush told a group at the White House that while war remains a last resort, “the risk of doing nothing is even a worse option as far as I’m concerned.”
As markets slumped Monday this week, the media trotted out the most readily available rationale — that the U.S. and Britain were preparing a new Security Council resolution that could, as Reuters put it, “push the chances of war closer to reality.” What went entirely overlooked, though, was the additional complexity that has been added to the strategic/diplomatic puzzle: The U.N. issued an order to Iraq to begin destroying its Al Samoud 2 missiles by this weekend. If Saddam defies the order outright, it could give the U.S. further ammunition to win Security Council backing for a resolution authorizing war. But if, as seems more likely, Saddam makes a superficial gesture toward compliance with the directive, if would assuredly provide anti-war council members such as France with additional justification for arguing against immediate action.
And that would, it seems safe to say, at least temporarily keep the U.S. from initiating a military strike.
More than anything, the prospect of further delay appears to be the market’s worst enemy at this point. If the war-risk premium discounted by the markets is — at root — attributable to uncertainty about a range of potential outcomes, delaying action in an attempt to secure broader U.N agreement heightens uncertainty rather than relieves it. If the market was placing some probability — say 65% — on war being initiated in the first two weeks of March, would postponing military action until some unknown future date mitigate the uncertainty? Not likely.
And while a non-military solution would no doubt be the optimal conclusion to this episode, the political capital invested by leaders like Bush and the UK’s Tony Blair essentially dictates that no such conclusion is possible — unless Iraq agrees to total, verifiable compliance with its disarmament obligations (which is not very likely).
The stock market wants the uncertainty to be resolved in favor of prompt military action. It accepts that the White House — recognizing Blair’s political vulnerability at home — must seek another Security Council resolution declaring Saddam has missed his last chance to disarm peacefully. But it believes that the intransigence of a few nations — France, in particular — cannot be allowed to indefinitely block a “coalition of the willing” from taking on Baghdad. The Dow will plummet every time the prospect of war is delayed; U.N. orders that Saddam destroy certain missile classes set up another opportunity for delay in the market’s eyes, especially since it came as the French bloc was offering a competing resolution to authorize prolonged inspections.
The news is not all bad, though. Equities have shown the ability to rally on hopes of a rapid conclusion to the crisis. This implies that brighter prospects will be visible “across the valley” once war uncertainty is taken out of the picture.
— David Gitlitz is chief economist of Trend Macrolytics LLC , an independent economics and investment-research firm. Mr. Gitlitz welcomes your comments at [email protected].