The Hidden Taxation of Israel's Skies

Besides having most of their security costs paid by the state, Israeli airlines exact a large tax from the Israeli public and foreign visitors in the form of non-competitive ticket prices.

Let's imagine that tomorrow a war breaks out and Israel is bombarded in an all-out missile offensive. In such a situation, safeguarding Israel's air (and naval) connections with the outside world is a strategic interest of the highest order for the country. Since no foreign airline will agree to fly to Israel while stray missiles are flying through the skies, it's clear that Israel needs a national carrier that will continue service during a crisis. It follows that Israel needs to protect Israeli airlines and prevent their collapse.

Assuming this argument is sound, and that Israeli airlines will in fact fly when the country is under missile attack, the question remains: How much is Israel willing to pay to preserve Israeli airlines? It's worth noting that in the one instance when Israel urgently needed airlifts - 40 years ago during the Yom Kippur War - it was foreign airlines that made them.

So how much does Israel need to pay to protect Israeli airlines? On the surface, the answer appears to be very little. The government currently pays Israeli airlines $70 million per year to cover 70 percent of their security costs. On Monday, the airlines called off their strike against the Open Skies agreement, which will expose Israeli and European Union's airlines to increased competition from each other, in exchange for the government's agreement to increase its share of their security costs to 97.5 percent. Altogether, this doesn't sound like that much money.

The problem is that this calculation is a form of self-deception. The price paid by the government to Israeli airlines to help cover their security costs is just a small fraction of the full price that is paid to support these companies. The state neither bears nor sees the main cost, because it isn’t paid directly out of its pocket or in a transparent manner.

It is the wider public that pays this price, the price levied through a lack of competition. No one knows exactly what the price is, but it is clearly significantly more than $97.5 million per year. The Israel Antitrust Authority tried four years ago to quantify the economic costs of the lack of competition in the airline industry and the fact that many flight routes to Israel are flown by just two airlines (one Israeli and one foreign-owned). By necessity, this leads to weak competition and high prices on these routes. The authority compared the prices on El Al routes that weren't competitive (with just one or two carriers flying them) to routes that were (with many carriers flying them, like Tel Aviv-New York or Tel Aviv-Kiev).

While the Antitrust Authority could not determine the exact numbers, it was clear the prices on the various routes were on a downward trend over the years. It also appeared that the disparity in prices among different carriers on the same route wasn't particularly large and that over time all carriers' prices dropped. But it also appeared that the average ticket price on competitive routes was much lower than the average price on non-competitive routes. The average price for both types of routes dropped over time, but a large gap between them remained.

This gap is a tax paid by all Israelis due to an absence of competition. It is levied on everyone who flies abroad and is penalized with a much higher ticket price than they would pay under competitive market conditions. Those who took to the streets during the 2011 social justice protests will find in ticket prices a clear demonstration of the high cost of living. The lack-of-competition tax is also levied on those who don't travel abroad, because the increased cost of living harms the purchasing power of Israelis, and thus also overall economic growth.

In addition, the lack-of-competition tax is levied on foreigners who are forced to pay an extra surcharge to visit Israel. Consequently, they simply visit less, something that harms the inbound tourism industry and hence employment and incomes from tourism. Since the tourism industry generates a sizable number of jobs for those with low levels of education, it is actually the workers from the weakest socioeconomic groups who pay the highest price for the lack of competition in the airline industry. At the same time, the entire economy pays the price of increased income inequality.

Who benefits from the lack-of-competition tax? Just a handful of Israeli airlines' employees, most of who come from a relatively strong socioeconomic background. The salary for El Al pilots is between NIS 30,000 and NIS 100,000 per month, and pilots are highly educated and highly skilled people who could presumably find a wide variety of jobs in the economy with relative ease. In addition to pilots, unionized and highly educated airline employees benefit from this tax, just not the workers from weak socioeconomic backgrounds.

Another group that benefits from the lack-of-competition tax is the pilots and shareholders of foreign airlines. This tax, levied through the high price of plane tickets to and from Israel, also lines the pockets of the foreign airlines that fly to Israel. Thus, Israel exports part of the protection it intends to provide to Israeli airlines to their competitors.

Of course, this is incredibly stupid. It would be much simpler to end the lack-of-competition tax, since no one really knows how much damage it does to the economy and no one measures it. It would be better to switch to directly paying a "tax to maintain Israeli airlines," which would be added to the $97 million per year the Israeli airlines already receive from the government to keep them viable.

A check like this one, written into government budget in an open, direct and transparent manner, would at least stir up debate on the question of how much we are really willing to pay to preserve the jobs of El Al's pilots. Are their jobs worth more to us than adding another medicine to the health maintenance organizations basket of covered medicines or additional Iron Dome batteries, which as we know, are also a response to missiles?

Olivier Fitoussi