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Israel Faces Tough Questions From Credit Rating Agencies

Government policy is in disarray, as Finance Ministry Director Keren Terner-Eyal's resignation attests

Sami Peretz
Sami Peretz
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Finance Ministry Director General Keren Terner-Eyal, 2018.
Finance Ministry Director General Keren Terner-Eyal, 2018. Credit: Tomer Appelbaum
Sami Peretz
Sami Peretz

The resignation of Keren Terner-Eyal as director general of the Finance Ministry on Sunday comes at an inopportune time: Over the next two weeks, top officials at the treasury and Bank of Israel will be meeting with the three big international rating agencies – Standard & Poor’s, Moody’s and Fitch. The three will be assessing Israel’s finance and its ability to repay debt.

For a change the meetings will not be face to face, accompanied by meals together; it will all take place over Zoom.

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Normally, the resignation of a top ministry official wouldn’t attract the agencies’ attention. Officials come and go, as do ministers and central bank governors. Rating agency analysts come and go, too. However, this time the resignation is of the treasury’s top official and comes not long after she started at the post, and it comes in the midst of an unprecedented economic crisis. Two other top officials – Accountant General Ronny Hizkiyahu and Budget Director Shaul Meridor – have also stepped down in recent weeks.

The agencies have already made preliminary inquiries about the reasons for Hizkiyahu and Meridor’s resignations. Asked if they were given real explanations for the two departures, a source familiar with the process said: “Of course, but in a gentle fashion.” However, anyone who thinks they will be able to discount the exodus as just the departure of a few officials faces the bigger reality about the state of the Israeli economy and economic policy management.

First and foremost, they will demand an explanation for why Israel has no budget – not for this year, not for next year. In previous meetings, treasury and Bank of Israel officials were able to offer as an excuse the three back-to-back elections in the span of a year. The minute there’s a government, they assured the rating agencies, there will be a budget.

But here we are, five months after the current government was formed and there’s still no budget. How can you explain that there’s a government with a big Knesset majority yet has not advanced a millimeter in producing a budget, setting economic priorities or creating economic growth engines for the year ahead?

The second thing they will have to explain is how authority and responsibility for policy is now divided between the National Economic Council, led by Prof. Avi Simhon and reporting directly to Prime Minister Benjamin Netanyahu, and the Finance Ministry. Since the start of the coronavirus crisis, Simhon has engineered payment of two one-time grants to Israelis over the objections of the treasury staff, who saw them as an ineffective tool for spurring consumer demand. Simhon recently proposed – to much criticism – that the value-added tax be slashed to 12% from 17%.

Treasury officials see Simhon as floating ideas that come from his boss and are aimed at giving a boost to Netanyahu’s political standing even if they have no economic value. But in the meantime, those critics are falling one by one by the wayside while Simhon remains at his job.

On the other hand, several things have happened of late that point to the situation being under control, despite the chaotic management. The government built a safety net for the unemployed and those put on unpaid leave, and created a framework to lend money to needy businesses. The Bank of Israel has also undertaken measures to help cope with the coronavirus – injecting liquidity into the banking system, enabling borrowers to delay loan repayments and buying government bonds. Israel has borrowed money on international markets several times since the onset of the crisis on good terms.

Also, when rates of morbidity and the cost to the economy of the two lockdowns this year are examined, Israel is in a reasonable place by world standards. Not the best but not the worst either. All the while, the economy is coping with the most serious crisis the world has faced in a century.

However, the rating agencies don’t just look at the deficit, lost economic output, the ratio of debt to gross domestic product or unemployment. They also look at how decisions are being made and their quality. Here, there’s a good chance that if their Israeli interlocutors tell them the truth, there could be a problem. The fact is the treasury is at one of its lowest points in terms of policy-making power that it’s been in during the past 20 years.

The departure of three senior officials within 10 weeks is testament to its weakness. It has ceded much power to the Prime Minister’s Office and the National Economic Council. It’s not just that the 10 billion shekels ($2.9 billion) in grants were run through the PMO, but that the treasury is not engaged right now in two of its primary tasks – the budget and economic reform – because they have been taken hostage to Netanyahu’s political agenda.

Another issue of no less importance is the model the government plans to adopt for exiting the lockdown. This involves eight phases, each separated by two weeks that gradually reopen the economy. There are endless debates now inside the government about whether there needs to be so many phases and about the time between them. The debate is informed by worries that the longer the lockdown drags on, the more difficult it will be to enforce it and the more the pressure will grow to bring it to an end.

Over the last two decades, Israel succeeded in improving its ability to meet its debt obligations. That, in turn, brought an improvement in its debt rating. Now it faces a new test of its ability, not because of one data point or another but because of the government’s conduct. It’s doubtful that the rating agencies will look kindly on key economic policy jobs being manned by interim officials, not just in the treasury but elsewhere: the state prosecutor, chief of police, director general of the PMO and a host of others. It’s evidence that the gatekeepers are absent. Israel not only faces a health and economic crisis, but a political and social crisis. That’s more threatening than a ratings downgrade.

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