Katrina's Economic Impact

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The human tragedy caused by a natural disaster is not often followed by a nationwide economic tragedy. Of course, it is an economic tragedy for the people directly involved, who have lost homes, businesses, and other possessions, but after a brief negative impact on production and employment in the region that is inundated, there is usually a burst of economic activity as the work of repairing infrastructure and homes and other buildings begins. After a time, the affected region ends up with better homes, highways, and other infrastructure than they had before the disaster.

There are features of the Katrina disaster that will make recovery slower and more difficult than in more typical natural calamities, but I shall elaborate on those later. First, it is important to reflect on how lucky we are to start with an extremely healthy national economy compared to the economies of many European countries and compared to our own economic history. At 4.9 percent, the unemployment rate is close to what economists think is full employment; inflation rates and interest rates are extremely low relative to historical averages; and productivity growth has been very high, despite a somewhat disappointing number in the last quarter.

Consequently, our overall economy is in a position that it can shrug off a temporary blow. Moreover, advances in information technology and deregulation have greatly increased the flexibility of the economy and the speed with which it can react to negative surprises. Just one anecdote-a recent Wall Street Journal article described the speed with which RR companies were able to reroute trains around damaged track. That would not have been possible without the assistance of computers and the elimination of the restrictive regulatory regime that existed in earlier decades.

My old employer, the Congressional Budget Office (CBO), did one of the first studies of the aggregate economic impact of Katrina. They point out that the whole state of Louisiana accounts for about 1.2 percent of total U.S. production and Mississippi 0.7 percent. If half of that production were lost for three months, it would lower the annualized total U.S. growth rate by 1.3 percent in the third quarter and by 2.7 percent in the fourth quarter.

But the CBO expects a much more rapid recovery than these numbers imply. Many people are already hard at work in the area, and construction will really pick up in the fourth quarter. The CBO expects that total production growth will be depressed less than 1 percent in the last half of the year and be higher than in pre-Katrina forecasts in the first half of next year. This pattern of a short-run loss followed by a pick-up will be reflected in employment statistics. Expect some very bad news for September with national employment falling between 150,000 and half a million but a pick-up soon after that. Many of the evacuees are finding jobs in other locations already. You might have seen the Washington Post story about the job fair held for them in this area. Many from New Orleans have been moved to areas where job markets are much tighter than at home and they will probably never return.

Note: This report is available in its entirety in the Portable Document Format (PDF).

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