Viewpoint / Intel in the shtetl

The Knesset Finance Committee made a huge mistake by approving Intel's request for a $525 million grant.

Intel received the NIS 2.42 billion grant to upgrade its existing plant in Kiryat Gat, and to establish another one in the unemployment-stricken town.

Each resident of Israel is giving a gift of NIS 385 to one of the world's largest corporations, whose current market value is over $160 billion. It is also one of the most profitable multinationals, with annual profits of more than $7.5 billion.

This is not the first time Israel has given a massive grant to Intel. The government first approved an unprecedented $600 million grant to construct a production plant for Pentium 4 chips in Kiryat Gat, which opened in 1999.

Intel threatened to consider alternative locations, most notably Ireland, if it didn't get the grant.

Critics of the policy predicted that betting so much on one company could lead to a form of corporate blackmail. Sure enough, at the end of 2003, Intel requested a subsidy of $132 million for an upgrade essential to the continued operation of the factory.

The recently approved grant connects this upgrade to the construction of the new plant, tying the destinies of Intel and the Israeli government even closer together.

Predicting the future

The Trade and Industry Ministry justifies the grant on the basis of a feasibility study that estimates a direct financial gain to the state of $370 million. This figure is based on calculations of $3 billion in annual sales for the new factory.

But how can the government predict the future of Intel's sales? Who knows how Intel will stand up to its increasingly competitive marketplace? Even though it sounds far-fetched, today's Intel could become tomorrow's Enron. The government should not be in the business of basing major policy decisions on highly uncertain estimates of one company's future sales.

In today's globalized world, all nations seek foreign direct investment (FDI) and are willing to make concessions to get it. In a 1991 book titled "Rival States, Rival Firms," leading political economists Susan Strange and John Stopford analyzed the bargaining process between states and transnational corporations over FDI, which often results in costly bidding wars. Even the most advanced industrial nations are forced to make some concessions to attract FDI. Weak states must offer even more.

The question is what type of concessions to put on the table. Host countries frequently offer financial incentives (lower tax rates, tax waivers and low-interest loans) which tend to benefit mainly the transnational corporation. Host governments prefer to invest in upgrading their infrastructure and education systems. This kind of investment provides lasting benefits for the country's citizens and creates a more attractive environment for future FDI. Cash grants are not even mentioned in the literature, since they make little sense from the government's point of view.

Bid to make Mercedes

To give one example, Mercedes Benz (now DaimlerChrysler) initiated a bidding war among three states in the U.S. over the location of its SUV factory. Alabama won with a package of $253 million that included investments in infrastructure and education as well as preferential tax treatment. Within the U.S., Alabama has a reputation as one of the most backward states with few attractions for FDI.

Israel is in a far stronger position, so should be able to offer less rather than more.

Prof. Michael Veseth of the U.S. notes the tide is turning against transnational corporations in these bidding wars. Some recent studies show that market factors (e.g., skill level of workers, infrastructure, and geographic location) are ultimately more important than government concessions in determining the location of FDI in most cases. In the end, argues Veseth, transnational corporations like Intel make their own calculations of their best interests, making most of the costly concessions offered by governments unnecessary.

The ministry wants to have it both ways. While claiming that FDI cannot be attracted without huge grants, it released a commissioned survey that called Israel the leading technological and science superpower in the world.

In comparison with other developed countries, Israel ranks first with the highest number of engineers (135) and scientists and technicians (140) per 10,000 workers. The survey also cites Israel's leading position with regard to communications infrastructure, investment in R&D, and a supportive business environment.

When you add the advantage of concentration of all of these resources in a small geographic area, the policy of huge cash payoffs to attract FDI looks ludicrous.

The Intel grant represents the lingering shtetl mentality in Israel. The state first passed the Law for the Encouragement of Capital Investments in 1959 to attract investment, particularly to development areas. But the Israel of today is a different country. Politicians have been justifying the grant as essential to proving to the world that Israel is strong and stable enough to attract FDI. But the country's reputation already speaks for itself.

Environmental cost

Last but not least, Israelis should consider the environmental impact of the Intel factory.

According to Environmental Literacy Council (U.S.), the production of each minute memory chip requires about 70.5 pounds of water. The production process heavily pollutes this water with chemicals (0.16 pounds per chip). Without costly purification, this contaminated waste water will endanger Israel's already fragile water supply. The chip production process is also highly energy intensive and requires the equivalent of 3.5 pounds of fossil fuels per chip. The government did not address this hidden cost of its FDI decision.

Israel is in a strong position to attract FDI without huge cash grants, a risky incentive that is rarely offered in international bidding wars. There are far better uses for the money. Given Israel's competitive advantages, the country should invest in education and infrastructure in order to consolidate its position as a leading international R&D center.

The writer is a senior lecturer in government at the Interdisciplinary Center Herzliya. She specializes in business-government relations.