When Lehman Collapsed 10 Years Ago, Israel Was on Holiday and Barely Noticed

But after officials finally woke up, they adopted the right policies, a key player recalls

Meirav Arlosoroff
Meirav Arlosoroff
A protestor holds a sign in front of the Lehman Brothers headquarters Monday, Sept. 15, 2008 in New York.
A protestor holds a sign in front of the Lehman Brothers headquarters Monday, Sept. 15, 2008 in New York. Credit: Mary Altaffer / ASSOCIATED PRESS
Meirav Arlosoroff
Meirav Arlosoroff

When the key moment of the 2008 financial crisis arrived with the collapse of Lehman Brothers 10 years ago this past weekend, Israel was slow to react. It was the start of the High Holy Days period, and people were on vacation or in shul. The Tel Aviv Stock Exchange was closed much of the time.

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Yarom AriavCredit: \ Moti Milrod

Officials realized the extent of the disaster facing the world economy only on the night after Yom Kippur holiday, recalled Yarom Ariav, who was the director general of the Financial Ministry at the time. “It took us something like two weeks to enter crisis mode,” he told TheMarker.

“Stanley Fischer [then governor of the Bank of Israel] was at the airport on his way to the annual conference of the International Monetary Fund. I was on the phone with him discussing what to do. His luggage was already on the plane when he decided that under the circumstances he couldn’t leave the country.”

For Israel, the crisis was made all the more traumatic because it came so closely on the heels of good times. The year before the state budget had been in surplus for the first time in Israel’s history and politicians were demanding spending increases.

But even before Lehman, the warning signs had been growing. After the investment house Bear Stearns had collapsed in March 2008, the treasury and the Bank of Israel began discussing a plan for Israel to stock up on dollars for a possible emergency,.

With Fischer back at his desk, the treasury and central bank set up two emergency teams to deal with the crisis. The first concern was the stability of the banking system and in particular Bank Hapoalim. Israel’s largest lender was holding $1 billion of toxic mortgage-backed securities, and officials were worried that the bank had “more skeletons in its closet.”

The next worry was the stock exchange, which had been closed for several days for the holidays during which world bourses had suffered huge downturns.

“We were very concerned that when the TASE reopened the selloff would come to Israel. Finance Minister Roni Bar-On was under immense pressure to use his authority to prevent trading from resuming,” said Ariav.

In the end, it didn’t happen. “A professional committee I headed at the treasury recommended not to [delay re-opening] because we feared it would create an atmosphere of hysteria and that would translate into a collapse of the banks,” he recalled. The TASE opened on schedule and the losses were modest.

Stanley Fischer.Credit: Ofer Vaknin

Israeli officials worked on the assumption the global crisis was out of their control and that their only thing they could do was to mitigate its impact on the Israeli economy and plan for the day after.

Officials concluded that the banking system on the whole was sound and debate how to reassure nervous depositors. They did that with a statement saying that while Israel would not introduce deposit insurance, never in the history of the country had a saver lost his or her savings from a failed bank. “We thought about every word that went into that announcement. It worked – the banks remained stable,” noted Ariav.

Dealing with the risk to pension savings proved more complicated. Under pressure from Ofer Eini, who was then chairman of the Histadrut labor federation, Prime Minister Ehud Olmert agreed to a costly plan to protect savers against losses.

The proposal was hammered out at a secret meeting on November 28. Treasury officials weren’t informed about, much less invited to the meeting, which was limited to top aides in the Prime Minister Office, Eini and Shraga Brosh, the president of the Manufacturers Association trade group.

The deal they worked out, which is contained in a handwritten memo revealed for the first time in TheMarker, called for the government to provide insurance of up to 750,000 shekels ($209,500 at current exchange rates) and compensation for losses. Neither baseline for when losses would be calculated nor was a time limit on long they could accrue were specified. Eini wanted the baseline to be the start of 2008.

Ehud OlmertCredit: Marc Israel Sellem

Ariav said he first learned about the proposal a day later in a phone call from Manuel Trajtenberg, who was then Olmert’s economic adviser.

“When I saw the document, I understood it would a catastrophe that must be prevented at all costs,” said Ariav. “We hadn’t even examined the possible cost of deploying such a safety net, and in fact we didn’t know at the time whether the losses would worsen further than they had till then.”

The final plan was moderated to include only the insurance component and limit it to small and older pension savers. The baseline for calculating losses was set at November 30, which fortuitously for the government turned out to be close to the bottom of the stock market sell-off in Israel. The safety net ended up not costing the government any money.

As to fiscal policy, the government was feeling the pinch of lower tax revenues as the economy slowed and share prices fell. Unemployment was starting to move up.

“We decided that for a small, open economy like ours, there was no logic in implementing Keynesian policies,” said Ariav, referring to a strategy of increasing government spending and the deficit to prop up demand when an economy is in recession. “On the other hand, we didn’t want to cut spending either. ... Instead we decided on an automatic stabilizer – we didn’t touch the budget, we let the deficit grow from 0% [of GDP] to 5%.”

FILE PHOTO: An electronic board displaying market data is seen at the entrance of the Tel Aviv Stock Exchange, in Tel Aviv, Israel January 29, 2017.Credit: Baz Ratner/Reuters

The strategy encountered a lot of resistance from critics who noted that everywhere else in the world Keynesian policies and safety nets for investors were being introduced.

As it turned out, Israel was one of the first countries to exit crisis mode, which Ariav said in retrospect was a matter of good policies and good luck.

“Israeli banks had undergone a serious crisis in 1983, so they had maintained relatively conservative policies and avoided risky lending as other world banks did,” Ariav said. “We were also lucky that the business sector showed flexibility and reached arrangements to cut wages rather than fire people, and sought out new markets, so in the end we avoided a recession.”



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