The painful human costs of the 9/11 attacks are on our minds today as we mark the fifth anniversary of that terrible day. There were economic costs as well. What would the world economy look like if Sept. 11 never happened?

Resident Scholar Kevin A. Hassett

First, there was significant and immediate damage back in 2001. The closing of America's borders, the halt of international travel, and the CNN-effect on consumer spending sent growth into a nosedive that September. That gloomy month contributed to one of the worst third quarters in years, with U.S. gross domestic product declining 1.4 percent.

In retrospect, it seems clear that the U.S. wouldn't have had an official recession that year since there might have only been one quarter of negative GDP growth in 2001, the first.

Following the chain of events forward, the Federal Reserve aggressively reduced interest rates to levels not seen since the 1950s and held them low for some time. As spending by businesses plummeted, housing demand was stimulated by the low interest rates, keeping the economy afloat.

Looking back, it seems likely that we might be talking less of a collapsing housing bubble today if 9/11 had never happened.

Just as significant has been the intangible damage to the economy. The attacks taught the world that the risk to all of us is much higher than we believed. That realization has made market participants a great deal more risk averse.

That increased risk aversion has driven up the prices of assets that are perceived to be safe and depressed those of assets that may be more exposed to a sharp decline if another terrorist attack occurs. In this way, the intangible damage leads to visible symptoms.

Asset Prices

This has helped boost the price of gold and other commodities, as well as of government bonds. The yield on the 10- year U.S. Treasury, which closed at 4.77 percent on Sept. 8, is about three-quarters of a percentage point lower than in June 2001.

Given that the economic-growth and inflation rates are both higher than they were back then, we might well expect interest rates today to be as much as a percentage point higher than they now are. Flight to safety because of fears of terrorism probably explains much of the difference.

The avoidance of volatility is also seen in stock valuations. The price-to-earnings ratio of the Standard & Poor's 500 Index spent the first two years of this millennium ranging from 23 to 40. Last week, that ratio was about 17.

Again, it is likely that a good bit of that change is attributable to risk aversion that was heightened by 9/11. The index would have to rise 37 percent to reach the lowest P/E level in the two years before the terrorist attacks.

Middle East

Equally significant may be the impact of the attacks on the economies of the Middle East.

Many Middle East nations share a common trait in their relative political oppression. Indeed, they rank among the least politically free countries in the world, according to the annual World Freedom survey conducted by Freedom House, a nonprofit organization that tracks the spread of freedom throughout the world. The survey ranks countries by political and civil freedom on a scale of one to seven, with one being the most free and seven the least. For context, the average world rating for both measures of freedom is about three, or closer to free than not.

Saudi Arabia, home to most of the Sept. 11 hijackers, and Syria, a state sponsor of terrorism, received a rating of seven for both political and civil freedoms, a distinction they share with only six other countries, including North Korea and Sudan.

Freedom Rankings

According to the Index of Economic Freedom, published by the Heritage Foundation, these nations differ in economic freedom as well. Ranked on a scale from one to five, with a lower score representing greater freedom, half of the nations examined were freer than the world average, while half were less free. Iran, for example, received a score of 4.5, the second worst in the index, while Jordan received 2.8, a score reflecting a freer economy than the world average of 2.98.

By comparison, Hong Kong was ranked as the freest economy in the world with a score of 1.28, while the U.S. was tied for eighth at 1.84.

There is ample evidence that the lack of freedom undermines economic growth, and the miserable standard of living in most Muslim-dominated Middle Eastern countries can be attributed to their position in these rankings. Indeed, the International Monetary Fund recently released a careful analysis of the Arab growth deficit. Except for oil, things look very bad indeed.

Immune to Freedom

Compare that with the rest of the world. The past few decades have seen an enormous spread of freedom across the globe, from Asia to the former Soviet Union, and with that freedom has come striking improvement in economic wellbeing. The Middle East continues to be more or less immune to these forces.

The decline of totalitarian regimes elsewhere in the world suggests that their existence is perilous at best. The world's citizens prefer freedom. Osama bin Laden has doubtlessly had a negative effect on the spread of economic freedom. His radical agenda gave repressive regimes in the Middle East an excuse to tighten their grips on power, thwarting the spread of liberty that has brought prosperity to so many other regions of the world.

That leads to the final point. Regardless of the damage Bin Laden inflicted on western economies with his heinous attacks, the harm he has done to the standard of living of the Muslims throughout the Middle East is far worse.

If 9/11 had never occurred, we would all be better off, but the biggest economic winners might have been the world's Muslims.

Kevin A. Hassett is a resident scholar and director of economic policy studies at AEI.