MOF DG ON ISRAELI ECONOMIC POLICY

C O N F I D E N T I A L SECTION 01 OF 03 TEL AVIV 003670

SIPDIS

NEA/FO FOR DANIN; NEA/IPA FOR WILLIAMS, WAECHTER; EB/FO FOR
DIBBLE; EB/OMA FOR GARRY; NSC FOR WATERS; TREASURY FOR
HIRSON

E.O. 12958: DECL: 09/13/2016
TAGS: ECON EFIN PGOV PREL IS
SUBJECT: MOF DG ON ISRAELI ECONOMIC POLICY


Classified By: Ambassador Richard H. Jones for reasons 1.4 b and d.

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Summary
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1. (C) Ministry of Finance (MOF) DG Yossi Bachar says that
Israeli politicians understand the need to maintain a policy
of fiscal restraint. The policy is not dependent on
individuals, but on market forces, which punish deviations
from that path. He is worried about the government's
longevity (please protect),but has no plans to leave his
job. Infrastructure projects and transfer payments will be
cut, as will discretionary spending in most ministries --
except health and education -- to provide for increased
defense spending over the next three years. Bachar said that
the post-war recovery in the north was almost instantaneous
and added that there will be GOI money available for
development of the Galilee, augmented by American Jewish
philanthropic contributions. He stated that there are no
plans to request special assistance from the U.S., but noted
that aid would be welcome if Washington signaled that it
would respond positively to a request. Regarding settlement
spending, Bachar said that, while there are no specific plans
to make cuts, such spending will be squeezed along with
everything else. He welcomed the establishment of the new
Economic Advisory Council in the PM's office, and did not
think it represented a threat to the power of either the Bank
of Israel (BOI) or the MOF. End Summary.

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Defense Spending Increased
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2. (C) EconCouns and DepEconCouns met on September 12 with
MOF DG Yossi Bachar and his Senior Adviser Roni Loebenstein
to deliver a demarche regarding the U.S.- Israel Loan
Guarantee Agreement (reported septel). In a follow-on
discussion about the 2007 budget, Bachar said that the full
cost of the Lebanon War has not yet been determined, but
looks to be somewhere between USD 3-3.5 billion (about NIS 15
billion),of which USD 2.2-2.3 billion will have been spent
by the military. He estimated it may require an additional
USD 2 billion to refurbish the army and prepare it for the
next round of fighting. Of the approximately USD 1 billion
in civilian costs incurred during the war, about twenty
percent will go towards rebuilding homes, businesses, and
property that actually sustained physical damage; the rest
will go for compensation for lost economic activity. Bachar
noted the number of compensation requests is quickly
declining and remarked that recovery in the north was
virtually instantaneous, with few signs still visible to
indicate that the region had just been on the front lines of
a war. Tourism, so important to the north's economy,
recovered quickly, with the region's bed and breakfast
establishments filled with internal (Israeli) tourists within
days of the end of the fighting. (Note: It will take
considerably longer for foreign tourists to return en masse.
End Note).


3. (C) Bachar said that there is a big debate raging over
what is necessary to prepare the army for another war, but
the resolution of the question would not come until well
after the 2007 budget is approved. For now, it has been
decided to spend an extra NIS 8.2 billion (USD 1.86 billion)
over three years on the military -- NIS 2.5 billion in 2006
and again in 2007, and about NIS 3 billion in 2008.

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No Plans for Aid Request
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4. (C) Regarding a possible aid request to the U.S. to help
cover war expenses, Bachar said that for practical purposes
"it's not happening." If there were a realistic chance to
get some aid, Israel would be eager to "jump on it."
However, the process would have to begin at the political
level with an indication from Washington that an aid request
would be viewed positively. As the head of the professional
team which would prepare an aid request, Bachar said that he
could state authoritatively that the GOI is not working on
preparing such a request now.

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Cuts in Transfer Payments
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5. (C) To cover the increased defense expenditures, Bachar
said that there would be cuts in other areas. He had met
with Minister of Industry, Trade, and Labor Eli Yishai (of
Shas) to discuss delaying a scheduled cost-of-living increase
in child allowances and other transfer payments. Putting off
the 1.65 percent increase on NIS 40 billion (about USD 9
billion) in payments saves the government almost NIS 700
million (about USD 160 million). (Note: Yishai was clearly
unhappy with the outcome of that discussion, as all four Shas
ministers voted against the budget in the Cabinet vote later
that evening. End Note) Bachar also noted that
infrastructure spending would be reduced, although he did not
go into specifics.

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Galilee Development will be Funded
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6. (C) Bachar denied that there were to be simple "across
the board cuts" in ministries' budgets, as the media had been
reporting. He said that ministries generally spend only
about 98 percent or so of their allotted money during the
year, and that this extra money is what will be taken for
defense. In addition, the purchasing budgets for all
ministries but health and education will be cut, but money
for salaries will not be touched. When the EconCouns asked
about money for Negev-Galilee Development, Bachar said that
this was not really being cut. The government intends to
spend about NIS 1.5 billion for Galilee development (with a
bit of it for the Negev as well),and get additional money
from American Jewish philanthropic organizations such as the
United Jewish Communities (UJC).

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No Special Money for Settlements
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7. (C) In response to EconCouns question on spending for
settlements, Bachar said that the money spent in the
territories is spread out among all of the ministries, and
that there is no special money allotted for settlements.
When the EconCouns reiterated USG concern about money being
spent on settlements, especially at this time of increasing
fiscal difficulty, Bachar said that the GOI does not support
building more settlements, or investing in major new
infrastructure projects such as highways in the territories.
While Israeli citizens living in the territories are entitled
to whatever other Israeli citizens receive, Bachar said that
spending on settlements might be reduced as a result of the
pressure to spend on defense.

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Economic Advisory Council No Threat
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8. (C) Regarding the new Economic Advisory Council, Bachar
said it is headed by a good economist (Note: Manuel
Trajtenberg of Tel Aviv University; PHD, Harvard 1984. End
Note),and that it is being established because the PM wanted
to have an economic affairs advisory group close at hand.
The goal is for it to be the economic equivalent of the
National Security Council. Bachar said he is not sure what
the new body will be able to contribute, but was sure that it
would not take power away from either the Bank of Israel
(BOI) or the MOF. The BOI is independent and the presence
and personality of Governor Stanley Fischer is a major factor
in enhancing the perception of Israeli economic stability
outside the country. He noted that when Fischer speaks,
Cabinet members listen. As for the power of the MOF, Bachar
said that it would take a very powerful PM and a very stable
government to reduce it in any meaningful way.

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Government Unstable but Fiscal Stability Entrenched
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9. (C) This led Bachar to remark off-the-record (please
protect) that he is deeply concerned at the weakness of the
government, fears for its stability, and thinks that it could
easily fall and bring on new elections. Asked about his own
future and about how much continued fiscal discipline depends
on him, Bachar said that he has no plans to leave. He added
that personalities are important, but policy is not heavily
dependent on individuals. The Israeli economy is on track to
be competitive in the world market. If it deviates from that
track, it will be punished by investors and be forced to turn
back. He added that the economy has been moving in more or
less the same direction for the past twenty years, and that
Netanyahu did not "invent the wheel." He succeeded as
Finance Minister by refusing to compromise on important
economic principles. Politicians can be wrong, but the
economy is always right. Now, things are still moving in the
right direction. This is not to say, however, that there are
not some very problematic issues that need attention. Bachar
went on to note that even (DefMin and former labor boss) Amir
Peretz does not want to bust the budget framework. Even those
who oppose the budget do so at the margins and do not attempt
to change the fundamental principles of the economic growth
policies. At heart, people understand that fiscal restraint
is the correct policy, and want to figure out a way to
properly deal with issues of social concern.


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