Then, for more than a week, optimism faded -- until investors drove the Dow 225 points higher on Apr. 2, as it appeared U.S.-led forces were on the outskirts of Baghdad. The outcome of the war has never been in doubt. But what has unsettled investors at times since the conflict began is that its duration remains uncertain. The Iraqi resistance initially proved greater, and the march toward Baghdad harder, than the tireless promoters of regime change had suggested.
The stock market gyrates up and down on the latest news from the battlefield, and investors have shown that they're inclined to run for cover when it looks as though things aren't going as well as anticipated. Even after the fighting ends, the diplomatic fallout could continue, with the U.N. Security Council still riven by stark divisions and anger raging throughout the Arab world.
CASUALTY OF WAR? Let's face it, the fog of war makes for tough times analytically. All forecasts are deeply hedged, and with good reason. Many experts continue to argue that the economy could become a casualty of war. They say the odds are that the economy is on the brink of another recession, assuming it isn't already in negative territory.
Recent economic numbers are coming in at lower figures than the even the pessimistic consensus expected. Factories are running at recessionary levels, retail sales are flagging, the housing market is cooling off, and the airline industry is reeling. Business confidence is off 40% since February, according to the economic consulting firm Economy.com.
Still, if war were the only imponderable weighing on the economy, the right approach would be cautious optimism. When the fighting ends, business and consumer confidence should pick up. Oil prices have already come down from their prewar peaks, and capital spending likely would revive along with the stock market. Worker pay packages would benefit from hard-earned productivity improvements, and a double-dip recession, if it materialized, would be relatively brief.
OPENING SALVO. Problem is, it's possible that the economy won't regain its 1990s vigor during the next rebound. The reason is political: If the neocons have their way -- and they certainly wield more power now than they have in recent years -- Iraq is only the opening salvo in a much larger global military commitment by the U.S. Already, the neocons say, the U.S. is expanding its geomilitary commitments to Korea, Colombia, Iraq, Afghanistan, the Philippines, Djibouti, Qatar, Yemen, and Bosnia/Kosovo.
These policymakers are eager for regime change in North Korea and Iran, once Iraq is out of the way. And critics argue that the Administration's request of nearly $75 billion to pay for war in Iraq and homeland security is only a down payment. The price tag could soar if the U.S. embarks on a far more activist geopolitical strategy.
How much? International economists at UBS Warburg came up with a rough calculation in a recent report: "Our admittedly crude guess is that the broadly defined military budget [encompassing homeland security, foreign aid, and other 'nation-building' programs] could more than double from 3.5% of gross domestic product to as much as 8% to 9% over the coming years." At the higher end of their estimate, that translates into federal budget deficits of 8% to 9% of GDP, far higher than during the post-World War II highs of the Reagan years.
LOOKING ELSEWHERE. The cost of geopolitical uncertainty is weighing down the dollar. Yes, the greenback's recent decline partly reflects the conflict in Iraq. But the word among currency traders is that global investors are starting to see more attractive investment opportunities elsewhere in the world. It's one thing for foreigner investors to fund a private-sector innovation spree as they did in the 1990s. But the return prospects of paying for a ballooning federal budget deficit are far less attractive.
It's still too early to say what lessons the Administration will take away from this war. Will it continue a policy of regime change, à la the neocons? Or will it adopt a more traditional diplomatic approach, as advocated by the foreign-policy Establishment? The economy's long-term prospects may rest on the answer. Farrell is contributing economics editor for BusinessWeek. His Sound Money radio commentaries are broadcast over Minnesota Public Radio on Saturdays in nearly 200 markets nationwide. Follow his weekly Sound Money column, only on BusinessWeek Online