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The Tel Aviv stock market dropped 2 percent yesterday following publication of the election results.

The market takes pride in its sophistication, and its ability to predict economic developments. This time, however, the market got it wrong. If the markets think the results of the 17th Knesset elections justify a drop of only 2 percent, they obviously haven't grasped the significance of what really happened.

Make no mistake: Financially, the election results are somewhere between bad and very bad. Politically, the results are relatively simple; there is a clear majority supporting continued disengagement from the territories, and this is economically significant too. However, economic policy does not begin and end with disengagement, and anyone searching for such a policy will be hard pressed to find it in the coming years.

1. A fragmented coalition: The combination of Kadima, the Labor Party and the Pensioners Party (Gil) gives the coalition 55 seats. Thus, a fourth coalition member will be necessary to give the coalition a majority. Meretz, with four seats, will not be enough. Therefore, we can assume there will be no choice other than to add one or more of the religious parties. A coalition of four parties or more is necessarily a weaker one, which will have difficulty pursuing a decisive policy on anything. Such a coalition will certainly have trouble pursuing a determined economic policy, when the economic viewpoints within it range from Kadima's right-wing capitalism to the clear-cut social bent of Shas, Labor and especially the Pensioners.

2. Shas: Shas' financial situation is so bad there is a chance it will sacrifice almost anything to get into the coalition, to reconnect itself to government funding. This makes things simpler because Shas could agree to support continued disengagement as a condition for joining the coalition. However, it would also mean Shas would demand a large financial incentive for joining. A likely result would be turning back the clock on welfare payments, meaning the return of child benefits.

Pensioners: The enigma known as the Pensioners Party will become clear in the coming weeks. Until now, the party has not bothered to define its goals, apart from a general concern for pensioners' rights. They will now have to elaborate.

It is laudable that such a serious subject as pensions has come into the limelight thanks to the Pensioners Party. However, the importance of the issue does not lessen the danger inherent in handling it wrongly.

The party is composed of experienced former union leaders, and large Histadrut unions to boot. As we know, the Histadrut labor federation is vehemently opposed to pension reforms carried out by the previous government. We can assume the subject of turning the clock back on these reforms will come up in coalition negotiations.

It is no longer possible to renationalize the pension funds, but what about the demand to renew the subsidization of pension fund returns (issuing designated bonds)? It sounds reasonable, it's a great way to encourage pension savings. It also sounds very popular, rescuing the pensioners from the claws of the capital markets. The fact that it destroys the markets, sets back the development of the economy, returns the banks to the level of centralization that is most convenient for them and prevents pension funds from producing surplus yields for their clients is understood by all market professionals; it apparently doesn't interest the pensioners though.

Aside from this, the demand to raise old-age benefits, and possibly the imposition of a compulsory pension scheme, is likely to come up too. The price of these demands, whether or not they are justified, will be huge.

3. Labor: The Labor Party, the second-largest in the coalition, is expected to demand a senior portfolio. Finance is the most natural choice, assuming that the Foreign Ministry does not interest Amir Peretz. Peretz as finance minister again means a retreat from pension reform, and also a possibility of backtracking on capital market reform - the Bachar reforms.

It will certainly mean a rise in the minimum wage. And don't forget the remaining privatizations: Mekorot, the Israel Electric Corporation, the Israel Military Industries and the Israel Aircraft Industries. These will all fall by the wayside, as will any prospect of government reform, both local and national, and probably education reform as well. All of these reforms demand a greater level of job market flexibility.

Structural paralysis, with everything it entails for the Israeli economy, which is in desperate need of continued reform, is the recipe Peretz is undoubtedly preparing for us. For the economy and the capital markets, this is very worrying news indeed.