The committee examining concentration in the economy received unexpected backing Monday from the OECD, which released its first detailed report on Israel.
The report surveys broad aspects of the Israeli economy. It states unequivocally that Israel faces serious problems of economic concentration: big companies have outsized power and influence.
Executive salaries at publicly-held companies are likely to arouse "social unrest" because many think these pay levels are unjustified, they write. All remedies should focus on income tax, capital gains tax or inheritance tax, they state.
The report also states that financial companies need to be entirely separated from non-financial companies, as the concentration committee recommended.
The OECD also says that if the concentration committee's recommendations are implemented, they should considerably reduce abuse of minority shareholders. It calls for setting up a permanent regulatory body to oversee big concerns to ensure that they're not cramping competition.
The OECD report was written by the organization's Economic and Development Review Committee. It publishes reports about member nations every two years. This was the first such report on Israel, which has been a member of the organization for the past year and a half.
The report on Israel details macroeconomic issues, education, social issues and the business environment. In their section on the country's finance sector, authors Peter Jarrett and Philip Hemmings delve into the problem of economic concentration, a problem whose existence many corporations and individuals are still fighting to deny.
The authors repeat their recommendation that a permanent regulatory body be charged with ensuring that the committee's recommendations are implemented. Jarrett and Hemmings recommend that the regulator be an independent entity, under one of the country's existing regulators. The new regulator would also track corporate groups and their financial stability.
The OECD report calls the concentration committee's decision not to directly call for breaking up large business groups "logical." The committee's recommendations regarding corporate governance should "significantly" reduce the exploitation of minority shareholders, according to the report, although the heads of pyramid companies are still likely to be able to advance decisions that serve them, and not necessarily the minority shareholders. Therefore, more regulation may be needed in the future in order to define the parent company's "loyalty" to its subsidiaries.
The OECD cites Konstantin Kosenko's report for the Bank of Israel, which found that 20 families control 30% of the Tel Aviv Stock Exchange in terms of market cap. A comparison with 22 other countries, including 17 OECD members, shows that these figures are "unreasonable."
Finance companies and non-financial companies need to be separated, the OECD report states. When large corporations control financial companies, this has two implications, the writers explain: First, it can distort how loans are allocated in favor of the corporation, and second, it can harm the stability of the financial company, which would be dependent on the rest of the group.
Since these are financial institutions that are "too large to fail," it's in the public's interest to prevent these institutions from giving their fellow group members privileged treatment. In addition, improper corporate management - management that serves the interest of the controlling shareholder and not the financial institution - may affect the institution's results and management.
The authors state that most groups that control banks or insurance companies also have interests in a wide range of non-financial companies. "The presence of financial institutions in company groups typically amplifies their advantages and disadvantages. In-group financial institutions facilitate efficient financial intermediation but can also provide more opportunities for appropriation and self-dealing by controlling shareholders," they write.
They cite Iceland's bankruptcy as an example of the risk inherent in cross-holdings of financial and non-financial companies.
While separating these companies should prevent distorted allocations of credit, it's not a "cure-all," Jarret and Hemmings say. Faced with restrictions on owing financial companies, corporate groups may find other ways to fund themselves internally that may be even less desirable.
Bringing foreign owners into local financial companies will create a healthy variety in ownership and control, they write. In their meetings with the banks supervisor in order to prepare the report, Jarrett and Hemmings were positively impressed by the Israeli authorities' attempts to draw foreign investors into the local banking sector.
The Bachar committee, whose recommendations forced the banks to cease running the public's savings and investments funds, did not significantly change the players in Israel's financial sector, according to the OECD report. That reform concentrated the public's savings among a limited number of institutional investors; The insurance companies, which had been offering savings plans before the reform went into effect, received an even larger portion of the public's savings in its wake, they noted.
Much must be done in order to increase competition when it comes to providing goods and services to the public, according to the report, which takes note of this summer's cost-of-living protests and the subsequently formed Trajtenberg committee. Like the Trajtenberg report, the OECD calls for increasing foreign competition within Israel's economy. The more competition, the less necessary it will be to control prices, it says.
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