Several years ago a cache of explosives was discovered beneath a home in a rural community in Israel. During the 1948 War of Independence someone hid it beneath the floor. Imagine the feelings of the occupants when they discovered the explosive potential just under their feet. An observer of Israel’s economy might feel similarly shocked. We suddenly have learned we face serious problems.

To be sure, we are not in a recession. Our challenges pale in comparison with those of countries like Greece or Spain. Nevertheless, the new budget introduced by Finance Minister Yair Lapid tells some painful truths about how quickly a country can go off the rails when it loses sight of economic principles. The economic stewards of Israel recently “discovered” that a 2% projected budget deficit for 2012 more than doubled to 4.2%. Much hinges on our ability to restore control to the budget while the credit rating agencies watch and wait.

Once it became clear that 2012 would be an election year, the Netanyahu government inaugurated a classic election year economy. Professor Omer Moav, a Hebrew University economist, calls the government to task for irresponsibly raising salaries, providing free dental care for children, raising the defense budget and refusing to increase taxes to cover the expenses. Since no politician likes to own failure, the State Comptroller will investigate who failed to act to prevent this impasse. It is galling that in a period when Israel faces so many external dangers its economic problems appear largely homemade.

Looking forward, the harsh economic measures necessary to fix the mess have already dealt political damage to two key players. Finance Minister Lapid is head of a new party. He soared quickly in the Israeli political firmament, but now seems to have come back to Earth. His polling numbers are down by half. The Prime Minister, who has always dominated economic policy, faces severe criticism for his economic stewardship over the last year.

One criticism of the current economic steps is that they have not produced comprehensive reform. Under the new budget, the same inefficiencies continue to afflict the government-owned companies, large unions who control access to monopoly services will not be restrained in their impact on the national marketplace. A one billion shekel reduction in the defense budget may be compensated generously in years to come. It appears that the only sector that will be significantly affected is the Haredi community, rendered politically vulnerable by their absence from the coalition. With their economic subsidies reduced, many Haredi men will be forced into the workplace. Ironically, as a community they could well emerge strengthened by this reform.
Moreover, the current austerity budget does nothing to address Israel’s dangerous levels of economic polarization. Tthe Organization for Economic Co-operation and Development (OECD) new report on income distribution shows that Israel has the highest level of relative poverty in the 34 nation bloc. (Relative poverty is defined as “living in households with less than 50% of median disposable income in their country.”) The Gini coefficient that shows the relationship between the disposable income of the richest and poorest 10% comes in over 20, nearly double the OECD average. A recent Bank of Israel report had similar findings.

Israeli politicians responded with notable insensitivity. The Netanyahus faced a chorus of condemnation over allegations of living the high life at public expense. Netanyahu had a double bed installed in the El Al airplane at a cost of 500,000 shekels for the five-hour flight to London to attend the Thatcher funeral.

Haaretz’s Nehemiah Shtrassler notes that the state budget spent “NIS 64,000 on clothing, makeup and hair care” for Netanyahu and “another NIS 1.2 million went to cleaning and housekeeping services.” Shtrassler points out that for a good portion of the Israeli public NIS 64,000 (about $17,800) is a yearly salary. The earlier generation of prime ministers, Ben Gurion through Shamir, lived lives of economic modesty to a startling degree. Shtrassler tells how Shamir once travelled tourist class in a Knesset delegation to Australia and slept on the floor of the airplane.

To be fair, Netanyahu is not the only leader of the current generation to embarrass himself with demands on the public purse to support creature comforts. Yet, the prime minister is a man of legendary political instincts, so it is puzzling why he seems unable to grasp that large public expenses for personal comfort dangerously threaten the credibility of an austerity economic policy.

Lapid seems to have taken a careful but daring gamble. He believes that economic austerity will work, that his actions will rebound in his favorover the next two years, and that he will have shown that he has what it takes to be Prime Minister.

In the meantime, attempts to revive the protest movement failed to gain traction. Taxes rise, prices rise and the Israeli middle class soldiers on.