Terrorism presents a fundamental paradox - groups that use terrorism are vastly weaker in terms of their capacity to inflict harm than the government they oppose, yet they often receive a tremendous amount of attention from the state. However, despite the widespread assumption regarding terrorism's 'terrifying' effect, there has been little systematic testing of the factors that make terrorism so emotionally and politically powerful for civilian populations, and how this impacts both state responses to militant violence and militant groups' tactical choices. In my dissertation, Risk or Retribution: The Micro-foundations of State Responses to Terror, I interrogate the emotional mechanisms motivating the mass public's response to terrorism, demonstrating how public anger in the wake of terrorist violence shapes state policies and incentivizes militant tactics. To examine the dynamics of the strategic interplay between civilians, militants, and political leaders, I test this theory with a combination of experimental, qualitative, formal, and statistical methods. In a series of pre-registered experimental studies in the United States, I find that, in contrast to the predominant narrative of terrorism's power to terrify, the dominant public response to such attacks is moral outrage and a desire for vengeance. I then develop a formal model that illuminates the dilemma this type of angry electorate creates for elected politicians. Namely, when an outraged public demands punishment of militant actors, retaliation becomes a uniformly more attractive option for politicians, even against relatively weak militant groups and even if this retaliation is not the best way to minimize future terrorism. Indeed, the model identifies a potential risk from retaliation,whereby effective counterterrorism can actually cause more terrorism by increasing weakened militants' instrumental motives to attack 'easier,' civilian targets. Content analysis of internal al-Qaeda communications confirms the prevalence of this problematic substitution effect. Moreover, analysis of these documents reveals the centrality of anger and moral outrage as mechanisms shaping militant tactics as well. Namely, desire for revenge in the wake of US strikes increased the intrinsic value militants placed on targeting civilian populations in order to punish the United States in kind for the collateral damage and perceived human suffering their actions had caused the so-called 'Muslim nation.' By identifying these parallel retributive motives driving the preferences of both the victims and perpetrators of terrorism, this project contributes to a deeper understanding of the distinct micro-foundations driving cycles of terrorism and counter-terrorism violence. Specifically, this work reconciles three central puzzles: 1) why groups that use terrorism rarely achieve concessions, and why they nonetheless continue to use it; 2) why democratic governments appear to 'overreact' to terror threats from weak actors; and 3) why this retaliation is often unsuccessful in reducing terrorist violence. Specifically, this work shows how terrorism and counter-terrorism violence are driven, not necessarily by fear, but by anger. By constraining elected leaders' policy options and encouraging them to retaliate, public outrage in the wake of terrorist violence can indirectly fuel an increasing reliance by militant groups on terrorism, as state retaliation and counterterror efforts increase both the instrumental and intrinsic motives of militants to further increase their reliance on terrorist tactics.