'Move To The Moon'

British and American losses mount as street fighting rages in Baghdad. CNN and Al-Jazeera broadcast harrowing images of war casualties. Responding to unrest at home, Arab governments cut oil production and Western access to their military bases. An attack on Tel Aviv draws Israel into the war. Al Qaeda sets off bombs in London and Los Angeles. In a final Gotterdmmerung, Saddam destroys his country's oilfields and fires off the weapons of mass destruction he has, after all, developed.

While businesses are betting that Gulf War II will follow the pattern set by Gulf War I--short, followed by a quick drop in oil prices--everyone is pondering the alternative. The worst-case scenario above was drawn up at the Center for Strategic & International Studies in Washington by a panel including former U.S. State Department staff and economists from Goldman Sachs and Deutsche Bank, who gave it a 5 to 10 percent probability. The chance of a less significant escalation: 50 percent.

The problem with short-war scenarios is that much has changed since 1991. Iraq may defend itself more aggressively than it defended its hold on Kuwait. And the world economy is now in worse shape, less able to respond to shocks. (Interest rates are already too low to be cut much further in the United States and Japan.) A war that leads to terror attacks and severs oil supplies could send oil to $80 a barrel, says the Institute of Directors, a London association of corporate managers. In real terms that's as high as the oil spike of 1980, and could trigger the IoD's "move to the moon" scenario: a 30 percent drop in stocks, a collapse of housing prices, a 2 percent fall in U.S. GNP, global deflation. "I'm still optimistic," says IoD chief economist Graeme Leach, "but the risk of something very bad happening is greater than it's been any time since the 1930s." With optimists like that, who needs worst cases?