Analysis

Choosing Conspiracy Theories Over the Fiscal Facts

Israel’s budget deficit is rising quickly, but rather than accept reality, cabinet ministers attack the messenger

The Ministry of Finance
Emil Salman

Every six months, the Finance Ministry presents the government with its fiscal forecast for the next three years, The idea is to give leaders a heads up before they find themselves running enormous budget deficits.

Israeli governments, previously constrained only by a deficit ceiling, used to solve the problem of paying for expensive, grandiose projects by postponing their costs and implementation until the following year, creating bigger deficits in their wake.

But since three years ago, when an amendment was passed requiring the government to comply with a predefined “numerator” – the multiyear monitoring mechanism of the budget aggregates, which limits its ability to incur new spending commitments without identifying a funding source – that kind of overspending is no longer the problem it once was.

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The three-year forecast thus imposes badly needed fiscal discipline for the medium term. Cabinet ministers no longer approve costly budget items without making sure there’s a way to pay for it. It’s been something of a fiscal revolution, that has nearly put an end to the practice of approving big budget items in the middle of the year. These days, major spending appears in the annual budget itself, which the Knesset approves (ideally) before the year begins.

The numerator has been lauded by policymakers and experts around the world as a useful fiscal tool and is regarded by many as one of the major fiscal policy accomplishments of the Netanyahu era.

That is, until this week’s cabinet meeting, at which members of the treasury’s budget division presented ministers with its biannual forecast for 2021-23. Afterward, a debate ensued over 2020 and the Finance Ministry’s prediction that it could range anywhere from 2.5% to 4% of gross domestic product.

The range, officials explained, hinged on when a new government is formed and when the Knesset approve the 2020 national budget. In the meantime, since the start of the year Israel is recycling the 2019 budget on a month-by-month basis.

What that means is that at present, no one knows the size of the 2020 budget deficit will be, so the discussion returned to the 2021 numerator. When ministers saw that the forecast deficit for next year would soar to 4.2%, all hell broke loose.

Cabinet ministers angrily attacked budget division officials from different angles, beginning with complaints that the estimates and how the treasury arrived at them were unclear. Others said the entire deliberation was a waste because the cabinet is required to approve them without making any changes of its own.

Economy and Industry Minister Eli Cohen declared that he would never approve a deficit of 4.2% and accused Finance Ministry officials of inflating the figure to make Prime Minister Benjamin Netanyahu and the government look bad.

The climax came when the prime minister himself – at least according to accounts from some of the people who attended the meeting – dismissed the numerator forecast out of hand. He resented the very notion that the deficit could balloon to such as high figure and said that in his opinion it would be in the range of 3%-3.3%. How did he arrive at that estimate? We’ll only know next week, maybe when the deliberations are expected to resume.

For the first time since the numerator amendment was passed, the cabinet did not automatically approve the forecast, and has so far done so without relying on an expert opinion or analysis. All that Netanyahu and his ministers would say is that they didn’t accept the treasury figure, period.

Given the circumstances – Israel will hold its third election in under than a year in six weeks, and a week ago it was reported that last year’s deficit was an already steep 3.7% – no one in the cabinet was prepared simply to accept the facts. They would rather avoid the obvious conclusion from the forecast, that years of austerity spending are ahead.

Their problem is that not approving the projection can’t change reality, The numerator forecast is reached after lengthy discussions inside the treasury, with the National Economic Council and the Bank of Israel.

While the figure is high, it should have come as no surprise: Six months ago, the forecast was for a 3.8% deficit in 2021, if steps were taken to cut spending, and 4% if they weren’t. It’s a stretch to claims that there was some kind of conspiracy inside the treasury ahead of the election.

Moreover, while they treated treasury officials like a punching bag, the ministers were eminently respectful of Bank of Israel Governor Amir Yaron. Yet the central bank has long spoken about a “structural deficit of 4%-4.5%,” and his expectation was that 2021 would end with a 4.6% deficit.

By 2025, the central bank predicts that it could reach as high as 5.2%.

Far from there being a conspiracy cooked up by treasury officials to undermine the electoral prospects of Netanyahu and his Likud party, their outlook is less worrying that the central bank’s by a gap of 0.4 percentage points.

They can scream at treasury officials as much as they like and they can refuse to approve the numerator projection, but like an ostrich with its head firmly planted in the sand, the government cannot escape the ugly reality. Israel is marching up the hill of a growing deficit and the hard data make that clear.

Instead of dealing with the message, the Netanyahu govenrment would rather kill the messenger, namely the Finance Ministry senior staff. But that won’t kill off the truth of their message, which has to be addressed. That why was the numerator was devised to begin with – not to damage the government’s image or spoil its election chances, but to influence decision making.

A deficit of 4.2% in 2021 is not fated to be, If the government makes the right (and, alas, painful) decsions, it can be brought down to a more reasonable range of 3% to 3.3% of GDP, just as Netanyahu said it would be.

First, however, the cabinet must realize it cannot change its course while marching in the same direction.