Neighbours

Natural Disasters do not Destroy Economies

Robin Chan

As Japan grapples with its triple disasters of quake, tsunami and nuclear fallout, one thing is clear: The cost of reconstruction will be daunting.

Beyond that, however, the impact on Japan and the regional economy is uncertain. Finance minister Tharman Shanmugaratnam warned last Monday that the Japan disaster could weaken the global economy in the months and quarters to come, hurting confidence and dampening consumption and tourism.

Japan is the world's third-biggest economy and the centre of many electronic and automotive production chains. A slowdown there will have an impact regionally. A few economists warn that the disasters in Japan will have more impact than most natural disasters tend to have on the global economy. After all, East Asia - albeit more China than Japan - is increasingly viewed as a demand locomotive pulling global growth. Japan's crisis also comes at a time when the Middle East is in turmoil, affecting oil supplies and prices, while the Western industrialised world is seeing insipid growth.

There is one big caveat: The forecasts do not take into account a nuclear disaster. And if nuclear radioactivity were to spread further across Japan, an Allianz report predicted there would be major economic difficulties and a drop in overall production levels in Japan, damaging not only the Japanese economy but also spilling over to the rest of the world.

Nuclear risks aside, however, many studies in the past have shown that natural disasters have little impact on a country's economic growth in the long term.

For Japan, the consensus point of view is that growth will slow in the short term due to shortages in production capacity, from damaged factories and equipment to logistical and power disruptions. But these losses will be made up for by reconstruction demand when new buildings, roads and railways are built and repaired, creating new jobs and spending.

This is consistent with previous natural disasters around the world. Hurricane Katrina was estimated to have cost some US$81.2 billion in damage in 2005. But while it hurt the economies of southern Louisiana and Mississippi, its effect on the national economy was muted. The United States economy grew 4 per cent in 2005, and 3.2 percent in 2006.

Some studies even suggest natural disasters boost economic growth in the long run. An oft-cited 2002 study is by Michigan State University economics professor Mark Skidmore and Nagoya City University's Hideki Toya, who wrote that disasters create an impetus for the economy to adopt new technology and make new capital investments.

A Chinese government think-tank estimated that China's investments in Sichuan province following the 2008 earthquake raised national economic growth by 0.3 percent overall. Similarly, Japan's Kobe earthquake in 1995 saw its economy grow faster than expected, at 1.9 percent in 1995 and 2.6 percent the following year, driven by a rise in public spending and investment.

A recent study led by economist Eduardo Cavallo of the Inter-American Development Bank last year went further in downplaying the economic impact of a natural disaster. He declared that a natural disaster has an impact on economic growth only if it triggers a radical political revolution.

But Japan, home to Sony, Toshiba and Toyota, is still at the head of many massive global production chains. One outcome, Citigroup economists have argued, is that Japan's affected production capacity could actually benefit regional economies in the supply chain through Japanese firms relocating their manufacturing elsewhere. Not only would China benefit, but also Singapore, Malaysia and Viet Nam, they say.

The outlook thus appears mixed. For Japan, if nuclear disaster is averted, prospects for a recovery are good. In the region, despite the dark clouds looming for the world economy, there might be a silver lining if regional production gets a boost from Japanese firms seeking alternative production bases.

Natural disasters grab headlines and cause massive destruction of human lives, the environment and a nation's infrastructure. But in fact they have smaller economic impacts in the mid to long term than might be feared.

This article was first published in The Straits Times, Singapore. Reprinted with permission.