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Israel's Strong Economy Has Let the PM Play Games in the Midst of a Crisis

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Prime Minister Benjamin Netanyahu at a press conference in the Prime Minister's Office in Jerusalem, March 19, 2020.
Prime Minister Benjamin Netanyahu at a press conference in the Prime Minister's Office in Jerusalem, March 19, 2020.Credit: Yoav Dodkevich

Good things usually come after bad things, but the bad things need to be very bad for that to happen. That seems to be the lesson to be learned from the three greatest economic crises in Israel’s history.

Thus, the 1985 economic stabilization program came after several years of reckless economic behavior that led to triple-digit inflation, the collapse of the banking sector and huge budget deficits. The stabilization plan marked the transition to the modern Israeli economy and many years of thoughtful economic policy-making.

In 2003-2005, then finance minister Benjamin Netanyahu rescued the economy again after the worst recession Israel has ever experienced in the wake of the second intifada. The Netanyahu policies were bitter medicine but led to years of economic growth thanks to tax reforms, reduced government allowances that encouraged people to join the workforce and an overhaul of the union-controlled pension system.

However, no one should be tempted to look back on those precedents in the hope that history will repeat itself in the current crisis. The coronavirus is a very real crisis as the numbers on unemployment, failed businesses and growing government debt make clear. But it’s a young crisis, an infant compared with those crises of years past. The duration of a crisis is an important factor in how it is treated.

At the start of the pandemic, the message broadcast by Netanyahu and the Bank of Israel was, “Yes, we face a major crisis, but we’re doing so from a strong starting point.”

They were right. In the last several years, the economy has posted strong rates of growth, even while the government’s fiscal deficit often exceeded its target and critical reforms were repeatedly delayed. Unemployment was very low, the banking system was strong and stable, foreign reserves were growing and public debt as a percentage of the economy was declining. Even the Gini index of income inequality showed a small improvement.

It’s no small blessing to enter a crisis in such a good position, but in the Israeli political dynamic, it has been a curse. It has given the country’s leaders room to engage in irresponsible behavior by introducing populist, ineffectual policies, executing the better ones poorly, making promises that aren’t been kept and, most of all, presiding over a dysfunctional government.

Netanyahu, for personal and legal reasons, is ready to drag Israel into another election. He has no interest in keeping the agreement to rotate the premiership with Benny Gantz in November 2021. He would rather manage his defense in the corruption trial as prime minister than as a private citizen. According to the polls, his Likud party is losing Knesset seats, but to the far right, not to the center left.

The success of the unity government led by Shimon Peres and Yitzhak Shamir starting in 1984 was due to their joint appreciation of the depth of the economic crisis Israel faced. They understood it wouldn’t be solved except by cooperating. But it took years of economic stagnation and a near brush with bankruptcy and against the background of a political logjam.

Closed shops are seen in Jerusalem, July 26, 2020.Credit: Eyal Toag

The current unity government was also born in a crisis, in this case a combined economic and health crisis, and a political logjam following three inconclusive elections.

But there are two critical differences between now and then. Not only is the current crisis young and not only did Israel enter it from a position of strength, but in addition, the political logjam effectively came to an end the minute Kahol Lavan split and only part of the party entered into the coalition. What was supposed to be a government of equals is in reality unbalanced and won’t survive long, even if it rallies long enough to deal with the coronavirus crisis.

The national accounts figures look worrying: Forecasts are for a budget deficit of 14% of gross domestic product this year and a debt-to-GDP ratio of 80%, a stunning 20 percentage-point increase from the end of 2019. But they aren’t worrying enough.

It’s easy to cling to the idea that the COVID-19 is a once-in-a-century crisis to justify wasteful, populist programs. The increase in debt can be justified on the grounds that there is no way to deal with the problem other than by injecting money into the economy. But the spending splurge betrays a lack of long-term thinking

Amir Yaron, the Bank of Israel governor, warned at a cabinet meeting (back when there were cabinet meetings) that if the international credit rating agencies lower Israel’s rating, it won’t be because of the country’s debt-to-GDP ratio but because of the government’s irresponsible conduct.

If that happens – and the odds of it happening are growing by the day – the impact will reverberate through the economy quickly. The cost of Israel’s debt will grow, foreign investment will fall and the rate of unemployment will almost certainly rise.

The cruse of being blessed with good numbers is akin to a man who weighed 120 kilos, succeeded through great effort to lose 40 kilos, only to resume putting on weight again. The thought of returning to 120 kilos doesn’t scare him – he’s already been there.

Then Prime Minister Ariel Sharon sits next to then Finance Minister Benjamin Netanyahu during voting in the Knesset Wednesday, May 28, 2003.Credit: Eyal Warszewski

In 2003, when Netanyahu was finance minister, Israel’s debt-to-GDP ratio was 105%. The idea that we will be going from 60% at the end of 2019 to 80% at the end of 2020 still leaves us in better shape than we once were. We have room to go even higher while we spend more money.

The problem is that the ratio isn’t just a number. It produces any number of undesirable side effects whose combined effect is prolonged economic decline.

It’s even more disturbing because the growing deficit is now coming by way of increased public investment in the economy – by putting money into better infrastructure or human capital that would boost economic growth going forward. Worse still, it is coming at the very time the government can’t get its act together to pass a budget, much less one with a horizon that looks past the final months of 2020.

Netanyahu has justified his short-term thinking on the budget by saying it’s impossible to forecast into the year 2021 while the coronavirus is raging. But the absence of a budget beyond December is contributing to uncertainty. The obvious conclusion is that the government must not only have a budget but an economic program that offers hope and a horizon. One-time grants are nice but they are not a comprehensive program and don’t look beyond the short term.

When Netanyahu looks long term, he’s looking at two dates only – January 2021, when the evidentiary phase of his trial begins, and November 2021, when he is due to hand over the premiership to Gantz. He can afford to focus on those dates alone because Israel was in good shape at the onset of the pandemic, and he has room to let the country’s situation deteriorate more before he really has to act. But there’s no reason why the rest of us have to go along for the ride down.

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