Finance Minister Keeps His Calm as Budget Deficit Balloons

The last time the government overspending reached such levels was in 2013

Finance Minister Moshe Kahlon attends a cabinet meeting in Jerusalem, March 6, 2019.
Alex Kolomoisky

There were two exceptionally worrisome things about the Finance Ministry’s latest budget announcement, issued late Thursday night.

The first was the rapid increase in the deficit, to 3.5% of gross domestic product in February, from 3.3% in January and 2.9% at the end of December, measured at the 12 months through the end of the relevant month.

Figures as high as these occurred in October and November, but before that the last time government overspending reached such levels was in 2013. The increase is especially worrying because it is occurring at a time when the Israeli economy is growing, albeit at a slower pace than a year ago.

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The second cause for concern was the timing of the treasury’s announcement. Budget data are published once a month, but this time officials opted to wait until 10:30 P.M. Thursday. Television news broadcasts were over and the deadline for Friday newspapers had passed.

Shai Babad, the Finance Ministry director general, insists the timing wasn’t meant to hide the distressing news from the public. He personally approves the data before it is released to the public; on Thursday, so he says, he was out of the office until late, for medical reasons. The fiscal data were released the minute he approved them, in order to avoid their leaking out.

For the past six months, the treasury has been speaking with two voices about Israel’s fiscal situation. One speaks reassuringly about how everything is under control. Not surprisingly, that voice come from the finance minister himself, Moshe Kahlon.

At the start of January, he quashed economists’ concerns and proudly announced that the deficit for 2019 would be just 2.9% of GDP.

Kahlon is maintaining that line. A statement from his office issued over the weekend said: “The time has come to stop the terrible practice of measuring the annual deficit by monthly measures alone. State revenues over the next few months will cover the gap that’s been created and the deficit will return to what it was a year ago. We won’t surrender to pressures whose sole purpose is to undermine our socioeconomic initiatives and force us to raise taxes.”

The deficit trend — from 3.5% to 3.6% in October and November to 2.9% in December and back up to 3.3% to 3.5% this year — shows the extent to which the treasury controls the official figure.

The State Comptroller’s Office is looking into how decisions are made and whether political considerations entered into the picture. For the record, officials still deny that the ministry took steps to bring forward revenue in 2018 and 2019 to help adjust the deficit level.

The second voice that emerges from the Finance Ministry is much more bearish than Kahlon’s. It says there is something to worry about because tax and other state revenues are no longer growing at the rapid rate they had been in recent years. Spending, on the other hand, keeps expanding, which means the deficit won’t be narrowing.

The bears say that during the fat years, government ministries got used to spending freely. Even though tax revenues lately haven’t been matching their old growth rate, ministries have continued their old ways knowing that the two-year budget for 2018-19 will guaranteed them their allocations.

As a result, they won’t be able to achieve the across-the-board spending cuts imposed on them for this year to pay for higher police and other security agencies’ salaries.

In shekel terms, the deficit in February came to 4.9 billion shekels ($1.35 billion), well over double the level a year earlier. For the first two months of 2019, overspending reached 5.6 billion shekels, versus 2.3 billion a year ago.

The deficit means more to Kahlon now than it has since he took over the treasury four years ago. His Kulanu party, which captured 10 Knesset seats in 2015, is set to shrink to four, according to the latest poll by Haaretz.

And not just the deficit. Housing prices, which he vowed to bring down when he ran in the 2015 election, and economic growth are important, too.

The news on GDP, released Sunday, was uninspiring: According to revised figures Israel’s economy grew 3.3% in 2018, down from 3.5% in 2017 and 4% in 2016. The first estimates for the first quarter of 2019 won’t come out until May, long after the election. It will be up to the next finance minister to deal with a widening deficit and slowing economy.

Standard & Poor’s recently expressed confidence that the next government would do what’s needed, but that may take time. The next government may opt to address the problem not this year but in the 2020 budget. Meantime, a more modest budget trimming program to help contain spending now is unlikely to happen.

Meanwhile, the main problem seems to be on the side of revenue rather than spending, whose growth moderated in February — in fact, defense spending dropped 3.3% from a year earlier. But tax collection and other revenue fell 6.8% in February year on year in nominal terms.

The biggest problem has been growing tax refunds, the fruit of three successive cuts in Israel’s corporate income tax rate in 2016-18, to 23% from 26.5%. Many companies paid tax in advance at the higher rate and were due a rebate, at a very generous 4% interest rate.

The Israel Tax Authority sees the phenomenon continuing into the year 2020.

Kahlon holds that tax cuts actually increase tax revenue over time by enabling the economy to grow faster, but that is not what has happened. Indeed, the reverse has proved to be true.