The 'New' Politics and Economics

The lower housing prices we were promised won’t come from ignoring basic economics.

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Finance Minister Yair Lapid.
Finance Minister Yair Lapid.Credit: Olivier Fitoussi

Israel was once a country where three of the first four presidents were leading researchers in their fields. Today, this is a country where a Nobel prize-winning scientist, Daniel Shechtman, whose focus these days is Israel’s existential domestic issues, cannot even get the support of 10 Knesset members required to qualify as a candidate. They promised us “new politics,” and they certainly delivered.

We were also promised “new economics.” But what we received is not a new national agenda, but the invention of new economic principles that run contrary to the accumulated research knowledge in the field. Intuition, no matter how well-intentioned, cannot replace basic economics.

Yes, there are those who exaggerate the accuracy of economic principles, treating them like the laws of physics to make precise economic forecasts. But it is no better to be lured to the opposite extreme, assuming that intuition and conventional wisdom can replace established economic rules and facts.

The hyperbolic public discourse surrounding Finance Minister Yair Lapid’s proposal to reduce housing prices by eliminating VAT on new apartments sold to young couples has completely obscured the borders between what we think and what we know. Economics is not an exact science, and a large number of social factors may cause the proposed policy intended to lower prices to actually raise them, or possibly lower them somewhat — but that is not the point.

What we do know with certainty is that this policy is not the most effective way to reduce the cost of housing. In the short term, the stock of apartments is relatively fixed — there is what is called in economics an “inelastic supply.” As a result, not only would a tax reduction increase the demand for apartments, but the benefits of the policy, paid for by billions of shekels in lost tax revenue, would go almost entirely into the pockets of building contractors, not those of the young home buyers. These outcomes follow from the most basic laws of supply and demand, taught in introductory economics courses. They could not possibly be what our policy makers have in mind.

A serious solution to the high cost of apartments must be long term: the provision of the best education in Israel’s peripheral areas and the connection of these areas to the major cities with a rapid, cheap and reliable transportation infrastructure. After all, this is a small country where almost everyone lives within what should be no more than half an hour from a big city. Cheaper land prices in the periphery would enable young families currently living in the cities to pay less for more living space without having to compromise on the quality of their children's education or on their careers.

And on the way to solving the housing problems of young families, we will upgrade the education of the children who already live in the peripheral areas — which will become suburbs — while bringing their parents closer to potential places of employment. In other words, on the way to a core solution of the housing problem, we will begin to provide solutions to Israel’s core problems — high rates of poverty and inequality and low productivity.  

This might be a new economic policy for Israel, but it is rooted in the most fundamental economic principles.

Professor Dan Ben-David is the executive director of the Taub Center for Social Policy Studies in Israel and an economist at Tel Aviv University.

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