The limits of terror

The FTSE100 index reacted to the London bombs by dropping more than 200 points before closing down just 71.3 points on Thursday, 7 July. The following day it wiped out that loss entirely with a rise of 72.1 points. But what, if any, are the longer-term implications for the financial markets of what happened?

Only a tiny minority of Muslims are terrorists. Most active terrorists around the world are Muslim. Both these statements are correct. However, it is beyond the scope of this article to discuss the political background and potential solutions to the events which took place on 7 July 2005 in London. They are being described as the worst terrorist attack Britain has ever suffered. Up to a point; on British soil they are but more Britons actually died in the 9/11 attacks on the World Trade Center in New York on 11 September 2001.

In the wake of 9/11, the Dow Jones index dropped from more than 10,000 to 8,235 in 10 days. At the same time the FTSE100 dropped from 5033 to 4433. Yet within six weeks both markets had recovered those losses, partly because of aggressive interest rate cuts by the central banks of both countries.

Should we expect such a speedy policy response from the Bank of England now? Certainly there was no indication that we would from the Monetary Policy Committee's meeting which concluded at noon on 7 July. Base rate was held unchanged for the eleventh month in row.

Interest rate cuts to come

It appears highly unlikely that the MPC will be bounced into any kind of crisis meeting but the expectation of a cut in the base rate next month has hardened into what one commentator described over the weekend as "a racing certainty". In fact, you would be hard-pressed to find an economist in the City who would disagree with the prospect. What they're squabbling over now is how much further the Bank of England will go and how quickly any further rate cuts may come (none of which, of course, does make a cut a racing certainty but it appears to be the smart way to bet).

The human tragedy of the bombs in London dwarfs any consideration of their economic or financial impact. Yet we must make some kind of sense of what both events, the coming Olympiad and the terrorist outrage, mean for our futures.

According to Capital Economics, a review of previous terrorist attacks and major non-economic events suggests that any impact on the economy tends to be small and short-lived. Certainly there may be adverse effects on the transport, tourism and leisure sectors but the prospects of longer-term economic harm are less clear. The attacks come at a bad time for the UK economy but in the final analysis, they simply reinforce expectations that cuts in interest rates are on their way.

Insurers WILL pay out...

It may only be small comfort but there was some good news for insurance policyholders in the wake of the London bombs as many insurers said they would pay out where possible, despite many of their policies carrying terrorism exclusions.

Three of the four biggest health and critical illness insurance providers - Axa, Standard Life and Norwich Union - said on Friday they would pay out under their critical illness, income protection or ASU (accident, sickness and unemployment) policies. Axa said it would cover any follow-up care needed by any of its policyholders injured in the blasts, subject to the normal pre-approval process.

A handful of personal travel insurance policies have explicit terrorism cover such as Norwich Union, Axa, Marks & Spencer and the Post Office. Other companies such as Churchill, Endsleigh and Direct Line, that don't offer terrorism cover are likely to be sympathetic to individuals who have been injured or whose holidays have been disrupted.

11 July 2005 © Moneyextra.com

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