Fool's Advice

Those who argued for increasing government spending as a way out of the recession continue to claim that we must step up state expenditures without restraint.It's as if nothing has been learned.

It's as if nothing has changed. It's as if nothing has been learned. The debate that erupted in 2003 is returning in a big way. Those who argued for increasing government spending as a way out of the recession continue to claim that we must step up state expenditures without restraint. Those who opposed lowering taxes are again opposing tax cuts. And those who fought reforms continue to oppose them today. The facts and lessons we learned make no impression.

In 2003, government spending was cut, the deficit was lowered, taxes were reduced, and far-reaching reforms were enacted. All fuel economic growth. As a result, public confidence recovered, investors returned, and the economy entered a fast track to growth that continued for five years.

But the critics refuse to acknowledge reality. They only know one thing: Increase spending and base your arguments on the "Keynesian model."

This antiquated model was formulated in the 1930s. It befitted a world that no longer exists; one, for example, with low international trade and minimum capital movement.

It is incompatible with our globalized world with massive international trade and large capital flows. It's a world where the size of the public debt plays a crucial role in determining interest rates and, by extension, the rate of economic growth. All this does not appear in the naive Keynesian model.

In today's economic world, if the government increases spending without taking into account the size of its deficit, not only does it fail to boost economic activity (a fact proved by Harvard professor Robert Barro), it does the opposite: It worsens the recession and its side effects.

If a government increases spending and the deficit (even during a recession), it creates even more uncertainty and decreases confidence in the political leadership. The people understand the government cannot carry a large deficit indefinitely, because one day the people will stop lending it money. As a result, sooner or later it will have to implement "an emergency economic plan," with widespread cuts and higher taxes.

The people gird themselves in the wait for these decrees. They shop less, they don't buy new cars, and they save as much as possible. Investors are also panic-stricken. They see how public debt is burgeoning, the credit rating falling, and interest rates rising. They also are afraid of higher taxes, so they invest less. The final outcome is that demand falls while the economy descends into a deeper pit and worsening recession.

Thus proposals to increase government spending should not be adopted. The opposite policy is the correct one: cutting spending and trimming the deficit. Israel cannot sustain a budget with a 6-percent deficit, certainly not 8 percent. It's too dangerous. It will lead to disaster.The new finance minister will have to cut government spending, change budget priorities and lower the deficit to a more tolerable level of 3 to 4 percent.

In doing so, public-sector wages must be cut. It is inconceivable that the private sector, which generates growth, be set back by salary cuts and even layoffs while the public sector continues to carouse. It's not fair, and an economic mistake. Without a wage cut, it will be impossible to pare the deficit.

This is also an opportunity to slaughter some sacred cows, namely canceling the Brodet Committee's recommendations in order to make deep cuts in the defense budget and streamline the Education Ministry. There must be no surrender to Shas and no increasing of child stipends. The government should also make do with 18 ministers. This is what is done in times of emergency.

If this plan is implemented and the cut becomes a reality, public faith in the government will be restored, the economy will look more secure, people will return to the stores, banks will make loans, entrepreneurs will invest, and the layoffs will stop. This is the strength of budgetary responsibility.

In contrast with deceptive proposals, cutting taxes is the correct move. Not in one fell swoop, but gradually. Reduce them slightly in 2009 and slash them more in the coming years so that within four years, corporate tax will stand at 18 percent and income tax will fall to 36 percent. This is because tax cuts are the best way to encourage economic activity and growth. This has been proved time and again in recent years.

And, of course, one must not forget the reforms. The government should shut down the Israel Lands Administration and sell land freely to the Israel's citizens. It should finally carry out the reforms in the ports, split up the Israel Electric Company, privatize the mail service, and turn the Communications Ministry into an independent entity.

The only problem is we need a courageous finance minister to pass such a plan, one not afraid to tell the truth and who does not yield to pressure. Such a minister will indeed suffer character assassination and mudslinging in his first year, but in the second year, when the economy leaps forward and the crisis gives way to rapid growth, perhaps the defamers will be forced to praise.

Perhaps they will understand that we learned all this in 2003.