Financial crisis hits New York, world

BY REBECCA LEMAITRE

The stock market reopened this past Monday to vast uncertainty. Market pundits had only the previous week's trading in Europe to use as a guide as they guessed how the American market and consumers would react.

TED DISKANT/YH On Monday, stock traders returning to Wall Street were greeted by policemen in gasmasks and tumbling markets.

The sectors hit hardest by the attacks are primarily airline companies, insurance and defense. Airline stocks dropped 40 to 50 percent on Monday alone, and U.S. Airway chairman Stephen Wolf said to the Washington Post, the "entire U.S. airway system is in jeopardy." According to Merrill Lynch Analyst Michael Linenberg, air travel could be down as much as 60 percent in the short term before leveling off at 25 to 30 percent below the normal traffic level. On top of the decrease in passenger travel, airline companies will also face higher costs, due to the need for increased security measures. These factors could combine nearly to double the estimated yearly loss for the industry.

Insurance companies could also face a negative impact. Larry Vanka, a vice president at MetLife, told the New York Times, "we are not waiting for people to come to us. We are looking to expedite the payment of claims," in hopes of easing the process. These claims will take a heavy toll, however. Jay Cohen, the property-casualty analyst at Merrill Lynch, estimates that the total insures losses could be $10 to 25 billion. Mr. Cohen also conceded, however, that in the past, "early estimates of large catastrophe losses have typically proven too low," leading analysts to the conclusion that nearly all insurers and reinsurers will report significant losses for their third-quarters. Adding to this already dismal outlook, insurance companies often keep large portions of assets that will be used to pay future claims in stocks. If insurance is forced to liquidate stock positions to pay claims, it could put more pressure on the already fragile market.

It is beyond question that money will have to be channeled towards defense in the months to come. However, economists stressed that these horrific events come after more than 10 years of unprecedented economic growth. Therefore, the nation has the resources to pay for military action without taking on levels of debt or causing further detriment to the economic situation.

Despite such adverse consequences, however, the economic situation is not nearly as catastrophic as some originally feared. The Federal Reserve is currently providing liquidity into the financial system, and will continue to do so as long and to the extent that it is needed. The Federal Open Market Committee reported, also to the Post, that it would "continue to supple unusually large volumes of liquidity to financial markets . . . until normal market functioning is restored." On Monday morning, prior to the market opening, the Fed cut the rate at which it lends money to banks by 50 basis points, lowering interest rates from 3.5 to 3.0%, in a signal that it will provide needed liquidity to the system and minimize the severity of a downturn. Indeed, reports from Wall Street indicate that since the Fed will probably ease more than it would have otherwise, fiscal policy will prove more simulative, with the result that the second half of next year may even be stronger than expected prior to the tragedy.

Indeed, the confidence the Fed hopes to instill by such a move could be a vital step in restoring the ever-crucial consumer confidence. As Yale President Levin noted, "the country was already in slower growth mode and I think it's quite hard to tell what the effects of this will be." President Bush, however, has said that he has "great faith" in the nation's economic resiliency. Vice President Cheney joined this claim and hoped that individuals would aid the economy by continuing to spend and invest as they normally would. The government further called upon the leaders of Wall Street to make it their patriotic duty to keep stocks from tumbling.

Main concerns now are centered on consumer confidence. Nearly two-thirds of our economy is driven by consumer spending, and when consumers panic, spending drops, naturally leading to recession. Such fears seem even worse when looking at comparable situations throughout history, most notably Pearl Harbor and the Cuban Missile Crisis. These events have shown that often "exogenous shocks" necessitate more government spending for defense, which could push interest rates higher, taking a toll on the market since higher interest rates are almost always bad for stocks.

The outlook is far from optimistic, however, as stocks continued to drop even after Monday. Christopher Wolfe, with private banking at J.P. Morgan, grimly noted that, "slowly but surely the economic reality will sink in." On the upside, with history as a guide, it also seems clear that while consumer spending may drop in the short term, it will bounce back after this initial set-back. As Bruce Steinberg, chief economist for Merrill Lynch notes, "the behavior of the consumer sector clearly is the key," and "lessons from the past lead us to think that consumer confidence will be restored."

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