Seven Reasons Why the Israeli Economy Is Losing Altitude

It’s not because of the war or the sluggish economies abroad, although neither of those helps matters.

Tomer Apelbaum

We did not need Operation Protective Edge to know that the Israeli economy is losing altitude. We did not need the press conference with Prime Minister Benjamin Netanyahu on Wednesday night, in which he took more anger out on his coalition partners than on Hamas, to know that this government is not synchronized.

This week, the Central Bureau of Statistics published the data on Israel’s anemic economic growth — only 1.7% in the second quarter (in an annual calculation, before the start of the operation/war). The situation is gloomier still in terms of per-capita growth.

In the last four quarters, the Israeli economy grew at a low rate (see graph). The specific growth data for the second quarter show a worrisome decline in investments in the economy and in exports. This is the reason for the low growth rate. This was happening even before Operation Protective Edge, and obviously the cost of the operation only exacerbated the situation — both because of the heavy defense costs and because of the austerity measures that will evidently follow.

Another fear is that the security situation will cause a delay, abolition or freeze in the important economic reforms in electricity, the seaports and army service, as well as the profound changes that are needed in the defense budget and its the heavy pension burden.

There are several more indications of the economy’s weakness, including very low demand for business credit despite the very low interest rates,. Entrepreneurs and businesspeople are not eager to make use of these cheap funds. There are at least seven reasons why the economy is losing altitude. Only one of them is a result of developments abroad. The rest are locally produced.

1. There is no economic leadership in Israel

The fragmentation of Israeli politics sentences us to a complicated situation in which the prime minister is from one party while the finance minister, who comes from a rival party, wishes to usurp him in the future. Netanyahu found it convenient to saddle Yair Lapid with the Finance Ministry and let him get into trouble, even at the cost of harming the economy. Lapid took up the challenge, but he works according to his own agenda, which differs from Netanyahu’s. The result is a lack of coordination between them and little to no involvement of Netanyahu in managing the economy — which engenders the lack of economic leadership.

Economy Minister Naftali Bennett has his own agenda as well, and even the joint statements to the press that he issues on occasion with his (former?) brother Yair Lapid about projects of one kind or another seem more like a battle for credit.

At the Bank of Israel, Governor Karnit Flug has not yet entrenched her status as a leader, and it is doubtful whether she will succeed in reaching the status of her predecessor, Stanley Fischer. Flug and Lapid do not demonstrate special chemistry or a strong desire to work together to move the economy forward. Flug is not giving support to Lapid’s flagship program, a zero-percent VAT rate, while Lapid was happy to kick Flug when she was dealing with the unfortunately-worded mourning notice that the Bank of Israel issued when the son of a contract laborer at the bank was killed in Gaza.

While the economy is not yet in crisis, one might have expected that the trio of Netanyahu, Lapid and Flug would work together to stop the economy from losing altitude and sliding into a recession. That is not happening. It is doubtful that it will.

2. A finance minister who does not work for economists

The finance minister is allowed to think differently from the prime minister and do things in a different way. But Lapid is a minister who lacks experience in and understanding of economics, and he also has contempt for the profession known as “economist.” We saw that mainly concerning the fight he has been waging to bring the VAT rate down to zero in the purchase of new housing units, when he opposes all the recommendations of the economists, from Flug to the ranking companies to Finance Ministry officials, first among them former chief economist Michael Sarel, who quit in protest of Lapid’s decision.

On taking office, Lapid promised that things would be better here in one-and-a-half to two years. He did not keep that promise, but he will have to obtain funding for the war in Gaza and deal with budget cutbacks or larger deficits — things that do not create prosperity.

3. A slowdown in global trade

The Israeli economy is biased toward export and foreign trade. Any global crisis or slowdown will be felt here right away, and vice versa. Over the past six years, the global economy passed through a crisis to a low rate of growth in the United States and an even lower rate in Europe. Israel’s economic leaders have no influence over this. While they can engage in pinpoint actions such as signing trade agreements and providing guarantees to exporters, this does not change the economic trend.

As long as the global economy marches in place, the Israeli economy has no chance of reaching the growth potential of 5% and more that we saw during the good years. To this we should add the weak dollar (despite its having gained strength over the past several days).

4. Hi-tech is getting weaker

Yes, we are the startup nation and countless wonderful startups are going like hotcakes. There is no doubt that this was the main engine for the economy in recent years. But this engine seems to have stalled. The knowledge, initiative, research and drive are all there, but hi-tech is still a unique segment of the Israeli economy, with financial rules of its own and provides a livelihood for only a limited number of workers. The Central Bureau of Statistics published data last week that indicate a growth rate of only 1% in the information technology and communications technology industries in 2013 (see graph) and a 2% decline in the number of employees in those industries.

5. There is no growth engine

When we look at the Israeli economy’s prosperous years, from the early 1990s to the present, we can easily see the growth engines that brought us this far: the large reforms (openness to import, the government’s departure from the capital market), a million new immigrants, the technological revolution, the (intermittent) peace process, the development of the communications market (cellular devices, multi-channel television, the Internet). Today there is a potential growth engine, but we have not seen the government treat it as one.

This potential growth engine is the natural-gas fields — manna from Heaven for the Israeli economy. Since the discovery of the large Tamar and Leviathan fields, we have seen a great deal of activity surrounding the question of how to divide the pie (the government, the entrepreneurs and exports). But we have not seen any real effort to clarify how to make the natural-gas fields into an engine for growth that will engender the development of new industries, investments and jobs.

6. The “public atmosphere”

Ask any top-level businessperson, banker or lawyer, and they will tell you that in the current public atmosphere, no one has any desire to engage in business. This is not only because of the regulation or the social-justice protests, but also because of the tension that has been developing here in recent years between the public and the corporations over the high cost of living and and inequality. Surprisingly enough, both sides are threatening to leave the country. The tycoons are threatening to leave (one has already gone to London), while the young people, who are unable to buy homes of their own and make a decent living, are heading to Berlin.

This whole issue is one big missed opportunity. The social-justice protests created a new discourse here and an extraordinary opportunity to institute fair relationships and solidarity between the components of Israeli society, between consumers and corporations and between the public and the government. But these are goals that cannot be reached without struggle and friction. At the moment, we are in an intermediate stage on the way to a more fair socioeconomic structure, but reaching that point will take more time. It seems that the public can tell corporations that create real value from ones that steal. Does the business sector make that distinction?

7. The return of the security agenda

The security cabinet has met 20 times over the past six weeks. It has met 27 times since the kidnapping of the three teenagers (on June 14, 2014). The socioeconomic agenda that the government pretends to be promoting (Bennett: “A government of opportunities”; Lapid: “We will take care of the middle class”) evaporated and was pushed aside in favor of security, with deadly speed. The atmosphere of “Quiet, we’re shooting” disturbs the Finance Ministry — not only because of the war’s expenses, but mainly because in such a situation, especially if we find ourselves in a war of attrition, it will be impossible to move forward with issues that are vital for economic development.

Reforms could be buried, and the entire economy could move into a state of emergency in which programs are delayed and dissolve until the situation calms down. This is bad news for the economy, much more so than increasing the defense budget by several billions. It could consign to oblivion many ideas and directions that could have improved the socioeconomic situation here. It was hard to see a coherent socioeconomic policy even without the war in Gaza. This is now an even greater danger.

P.S.

The cliché that “only war will get us out of the crisis” appears often in Israel’s economic history. This statement reflects the internalization of the idea that it takes an extreme, tumultuous and even existential event to make us realize what we are doing here, how dependent we are on one another and how much power there is in unifying against a common enemy. But wars, military operations and routine security measures have not proven that this statement has any basis in fact.

The prosperity that came after the Six Day War was an extraordinary event and was the exception that does not prove the rule. We fell into a deep economic crisis after the Yom Kippur War, and after the first Lebanon war the economy crashed. If anything awakens hope in the current round of war, it is that this war will actually promote a connection among moderate elements in this bleeding, disturbed region in which we live. That could definitely prevent the Israeli economy from losing more altitude.