Taking Stock / The Biggest Mistake in 2006

The year 2005 is not even over yet, and nobody knows when we'll have a national budget for 2006. But we suspect the next great macroeconomic mistake is already taking shape.

In three weeks, the treasury's accountant general will be announcing the deficit figures for 2005. They will evidently constitute a "happy surprise." The government was allowed to run a deficit of 3.4 percent of gross domestic product; in practice, the deficit will be more like 1.5 percent to 2.5 percent.

Those deficit figures are all the more impressive when you consider that the prime minister and the treasury spent billions on the disengagement and the separation fence, billions beyond their original budget for those two projects.

The reason the deficit ran so low is that the economy did so well in the last two years. It is the nature of tax revenue in a growing economy, to grow by more than the economy itself does. Conversely, when the economy slows, tax income shrinks faster than the economy.

The year 2006 looks like a promising one, from the perspective of tax revenue. Economists are predicting around 5 percent economic growth, the fastest rate since 2000. While in 2000 half the growth was due to the high-tech-communications-Internet bubble, this time around it's more dispersed and stable.

So what problem lurks ahead? It's the same as in 2000, or at any other point in the last decade: Instead of taking advantage of the boom to adopt lower deficit targets, instead of reducing the national debt, our elected leaders are probably going to fritter away billions without first formulating long-term strategic plans.

The temptation is obvious. They all want to be champions of the poor, to reduce poverty, and every politician, minister, journalist and publicist in town is competing over the Mr. Compassionate ribbon.

But increasing government spending and pouring billions into welfare allowances won't solve Israel's social problems. We have been trying that method for the last 30 years and it hasn't worked.

Stupid and brutal, but necessary

And one morning the nation woke up and discovered that the business sector couldn't carry the burden any more: the burden of so few people in the workforce, coupled with such enormous transfer payments. So we had to suddenly, violently, cut back, brutally and sometimes stupidly, taking the ax to every social budget and item.

The cycle of boom-euphoria-meltdown in the last five years should have generated other conclusions. For instance, that Israel needs new priorities in its national budget. That we need a long-term strategic plan to double economic growth, in order to better support the old and weak.

Our experiences in the last five years should have led to the conclusion that a national debt amounting to 100 percent of GDP, among the highest in the world, is making us vulnerable. And when the slowdown arrives, as it must, we have to react hysterically, slashing at everything that comes to hand, completely without a long-run strategy.

The table printed here shows the price of carrying out national debt. Each year our interest payments are growing at terrifying speed. Before spending a single shekel on health care, education or security, we're putting NIS 36 billion into interest payments on national debt.

The silence of Bank of Israel Governor Stanley Fischer is especially disheartening. One might have expected him to lead a vocal public campaign to set a target for reducing the national debt and exploiting tax surpluses.

But Fischer is not one to talk much. We had to wait for the International Monetary Fund (where Fischer used to serve) to amble along with its annual report on Israel to hear what every economist in the land already knew: Without significantly reducing its national debt to acceptable levels, the Israeli economy will remain vulnerable, and macroeconomic policy will remain severely shackled when it comes to addressing crises and social problems.