ISRAELI ECONOMISTS SEE SILVER LINING IN CRISIS

C O N F I D E N T I A L TEL AVIV 002636 NEA/IPA FOR GOLDBERGER, HOLMSTRUM, LENTZ; EEB/IFD FOR SNOW, JACOBY; TREASURY FOR BALIN E.O. 12958: DECL: 11/25/2018 TAGS: ECON EFIN PGOV PINR IS SUBJECT: ISRAELI ECONOMISTS SEE SILVER LINING IN CRISIS REF: 1) TEL AVIV 2597 2) TEL AVIV 2548 3) TEL AVIV 2430 Classified By: Economic Counselor David Burnett for reasons 1.5 b and d. -------------- Summary -------------- ¶1. (U) Two academic economists, with very different world views, explained to Dep EconCouns recently that they are sanguine about the ultimate effect of the international financial crisis on Israel. "Social" economist Momi Dahan, a Professor at Hebrew University and former senior adviser to the Director General of the Ministry of Finance (MOF) from 1999-2001 (during the premiership of Ehud Barak),thinks that the recession will eventually hit Israel with full force and cause severe problems for the economy. However, he sees a silver lining in that the government's need to assist the poorer socio-economic groups most hurt by the impending unemployment wave will halt Israel's gradual slide into a U.S.-style minimalist welfare state and push it closer to the European-style economy it resembled before the Netanyahu reforms of 2003 and beyond. Dan Ben-David, a Tel Aviv University academic who recently also became the head of the Taub Center, an apolitical social and political research institute in Jerusalem, thinks that Israel's main problem is the never-ending governmental instability brought on by its dysfunctional political system. His hope is that the economic crisis and the serious crisis he foresees due to the threat of a nuclear Iran, will combine to foster enough of an emergency atmosphere to finally result in meaningful and lasting reform of the political system, making it directly accountable to the public. Ben-David, who is number 34 on the Kadima Knesset list, has briefed all three candidates for Prime Minister and expressed confidence that each of them is capable of doing an excellent job. End Summary. -------------- Israel Enters Crisis in Good Shape -------------- ¶2. (U) Dahan foresees a severe economic crisis in Israel as a result of the worldwide economic situation. The fact that the crisis is not "home-made" will make it all the more severe in his view, as local forces in this very small and very open economy will be unable to control its impact in the way they probably could were the crisis home-grown. Israel "enjoyed the global party, now it's time for the hangover." All things considered, Israel is entering the crisis from a good strategic standpoint as far as the economic variables are concerned. However, it has two big problems fairly unique to a country with an advanced economy. The first is the continuing need for high security expenditures, for which there is no relief in sight. He maintained that it is no coincidence that past recessions have coincided with periods of increased security tensions, as manifested in terrorism or open warfare, and did not expect the coming recession to deviate from that pattern, especially if Benjamin Netanyahu becomes Prime Minister. -------------- Inequality a Major Concern -------------- ¶3. (U) Israel's second unique problem is ONE which he said must be dealt with quickly to ensure the very future of the country -- the ever-growing inequality within the society. In this regard, Dahan expressed particular concern about the situation of Israel's Arab population sector. The recent riots in Akko, although not particularly important from an economic standpoint, are a sign of things to come if Israel does not begin to address the economic situation of this sector seriously. About half of Israel's Arabs live below the poverty line, and this generates a lot of tension. A serious recession would dramatically exacerbate that tension, potentially leading to a repetition of Akko-type explosions throughout the country. -------------- The MOF Needs to Get Beyond its Ideology -------------- ¶4. (U) Dahan praised the government's handling of the "financial" aspects of the crisis thus far, saying he was "pleased that there has been no 'hysterical' reaction. His main concern is that the present caretaker government is not in any position to take the large steps that may become necessary -- despite Prime Minister Olmert's insistence to the contrary (i.e. that he remains in charge). However, the fundamental problem, in his view, is that the Ministry of Finance (MOF) is staffed by ideological "neo-classical economists who strongly believe that a central government is necessary only to defend the country from external threats and enforce law and order." He was optimistic, however, that the MOF would be able to rise above its ideological instincts in dealing with the crisis." -------------- Move Back to European Welfare-Style Economy -------------- ¶5. (U) Calling for the abandonment of the ONE percent budget deficit target for 2009, Dahan said that the deficit should be allowed to rise in the short run. Saying that the increased deficit would act as an "automatic stabilizer," he added that taxes should not be raised during a recessionary period to make up for the revenue shortfall. However, he lamented the government's overall tax and spending policies over the last few years, saying that Israel "moved very quickly move from a European-style welfare state to a U.S.-style capitalistic economy." Compared to many European countries, Israeli spending on welfare is very low. It also comes in at the bottom on HEALTH spending and in the middle on education. Regarding the new-classical view that an economy in recession should be stimulated through lower taxes (the Netanyahu view),he said that "the test is in what happens afterwards. Are taxes raised back to their previous level once the emergency has passed, or do they remain low, representing a permanent change in policy?" -------------- Spending Proposals Won't Hurt Deficit -------------- ¶6. (U) Dahan's prescription for dealing with the economic crisis is for increasing spending on infrastructure projects, and providing more assistance to the needy. He particularly emphasized dramatically expanding unemployment benefits, which he said were lower and granted for a shorter period "than even the U.S." Asked how much his spending proposals would add to the budget deficit, he said about one-half percent. Since Israel is starting out with a larger debt burden than most developed countries, large scale spending increases should be temporary, and the deficit should not be allowed to exceed the 3 - 4 percent range. He maintained that his proposal for a temporary additional one-half percent would not significantly affect the deficit. However, after the country emerges from the recession, it will be necessary to raise taxes significantly to finance major new spending programs, particularly in education, where, he maintained, GOI spending has gone down significantly when compared to that in OECD countries. -------------- Resurrection of Welfare State a Silver Lining -------------- ¶7. (U) Dahan expressed the hope that the worldwide financial and now "real" economic crisis would cause a rethinking in Israel and elsewhere regarding governmental economic policies. He said that Israel has moved way too far in the direction of a "neo-classical" economic world view, which has caused a very large and growing gap between the haves and the have-nots. A major rethinking of the policy of strict fiscal discipline, would be a huge silver lining in the otherwise dismal situation brought on by the economic crisis. -------------- Vital to Include Haredim, Israeli Arabs -------------- ¶8. (C) Dan Ben-David, on the other hand, said that the problem in Israel is not the lack of government spending. He maintained that the GOI provides more than enough resources to get the job done in most areas, particularly in education, which he characterized as top-heavy and very poorly administered. He said that the main problems in Israel stem from its dysfunctional political system, which does not hold politicians personally accountable for failure. He also lamented the bifurcation in the society, in which the unemployment rate for the Ultra-Orthodox and Arab sectors -- both of which he characterized as "not contributing to the country" -- is double that of the Jewish sector. Inaction on this score will have severe long-term negative consequences for the society as 50 percent of all children registered in school by 2012 will be from ONE of those two communities. Noting that this was already the case for kindergarten and first grade, he maintained that "they are the future and they must be integrated into the society." -------------- Nuclear Iran an Existential Threat -------------- ¶9. (C) Ben-David put the economic crisis into the larger context of what he views as a major crisis of confidence unfolding in Israel. The other component in this is the impact on Israel's population of Iran's potential acquisition of nuclear weapons. He said that it is impossible to overestimate the profound effect this would have on Israeli society, a significant percentage of which either survived or escaped genocide and has continued to hear calls over the years from the Arab and Muslim worlds for its extermination. Despite describing himself as a "peacenik," he said that he is nonetheless the son of a Holocaust survivor and feels this threat very keenly. He has given up hope that other nations will prevent a nuclearized Iran, saying that whenever he raises the issue with foreign diplomats, including Americans, he understands that he is dismissed as a "paranoid Jew." Given that, he said that Israel will have no choice but to act on its own to prevent an Iranian nuclear weapon. -------------- - Crises May Result in Revamped Political System -------------- - ¶10. (C) Ben-David's hope is that the economic crisis, together with the profound and existential threat of a nuclear-armed Iran which preaches genocide, would create enough of an emergency situation to finally move Israeli politicians to reform the political system, in order to enable it to deal with these threats. He said that he has met all three major Prime Ministerial candidates in small forums and is extremely impressed with each ONE of them. Despite being in Kadima (Note: he is number 34 on Kadima's list for the Knesset, but chose to become head of the Taub Center rather than become a member of the Knesset when the opportunity presented itself End Note.),and disagreeing with each of them on some issues, particularly with Netanyahu on the peace process, Ben-David nevertheless said that all three are extremely serious, knowledgeable, and professional people. He said that he is sanguine about putting the country's future into the hands of any ONE of them. He hopes that whoever becomes Prime Minister will take advantage of the crisis situation he foresees to fundamentally alter the way Israel is governed, making politicians accountable directly to the people, and providing the stability the government would need to deal with the terribly difficult issues the country faces. ********************************************* ******************** Visit Embassy Tel Aviv's Classified Website: http://www.state.sgov.gov/p/nea/telaviv You can also access this site through the State Department's Classified SIPRNET website. ********************************************* ******************** MORENO