search
Ari Mushell

The Price of Israeli Success

Pundits laud Israeli economic policy, especially regarding Israel’s strong growth despite the 2007-9 financial collapse (Israeli GDP growth of 4.1 percent in 2008) and its relatively low national debt ratio (67 percent). This has made Israel attractive to foreign investors, especially in the high tech sector. In fact, Google’s purchase of Israeli navigation app producer Waze for $1.1 billion was the largest app purchase in history.

Israel has reached significant economic milestones in recent years. For instance, in 2010 the Organisation for Economic Co-operation and Development (OECD) accepted Israel as a full member, joining the ranks of economic superpowers Germany, Japan, and the U.S. Of the 34 OECD member countries, Israel ranks 21st in per capita GDP. While the OECD classifies the Israeli standard of living as low amongst its members, the OECD points to relative economic stability and low unemployment. Israel’s export market has grown significantly, from $30 million per year at its inception to $2.98 billion today.

The economic boom was in large part a product of currency devaluation. Former Bank of Israel (BOI) governor Stanley Fischer, realizing Israel’s potential as an exporter, directed a devaluation of the shekel in 2008, thereby strengthening Israeli exports. Specifically, the combination of the growing high-tech sector and the weaker shekel boosted the global export of Israeli technology, which became more affordable to foreign purchasers. While in theory all central bankers have a currency devaluation tool in their toolbox, such a move is very risky because it can wreak havoc in financial markets due to many foreign investors holding positions in foreign currency-denominated investments outside the host country that would plummet if devalued. In contrast, the Israeli economy is small and there were few foreign investors holding positions in shekel-denominated investments outside Israel, making shekel devaluation a prudent fiscal decision.

This success, however, comes with a price. The strengthening Israeli economy has accelerated living costs, whereby food and housing costs increased dramatically. 2011 saw the “tent protests,” wherein middle-class Israelis publicly expressed concerns that they are unable to afford basic necessities. Pr. Karnit Flug, current governor of the BOI, rejected calls for price controls and instead advocated for increased competition to alleviate middle-class concerns.

There may also be a significant price on a macroeconomic level. The devalued shekel damages the Israeli import market because purchasing those imports become more cost prohibitive. And 70 percent of consumer goods in Israel are imported. Moreover, Israel imports significant amounts of iron and steel, which have become increasingly expensive. Much of the iron and steel is used in weapons and other military-related production, historically a strong Israeli economic vehicle, and the higher cost of materials will eat profits of the lucrative weapons industry. These higher costs impact both consumer and business spending, hurting both retailers and industry.

This scenario was surely discussed and debated by BOI members, culminating with the critical decision to devalue the currency. This Keynesian economic approach, which advocates activist government intervention and stabilization of economies in the near term, may have negative implications for Israel in the long term.

The current makeup of the Middle East and Israel’s unique security concerns may be incompatible with the decision to devalue the shekel. Back in 2008, prior to the Arab Spring, Israel’s neighbors were hostile but predictable. Mubarak in Egypt, Assad in Syria, stability in Iraq and Jordan, stability and sanctions in Iran. This predictability allowed for the BOI to adopt a pro-export, weaker currency strategy. In the post-Arab Spring Middle East, Egypt is volatile and unpredictable, Syria is engaged in a long, grueling war, Iraq and Jordan are unpredictable. This has given rise to the Islamic State, who has exploited the depleted security situation in Syria and is growing fast. By unilaterally triggering price increases of imported raw material, Israel may lose some of its military edge, which may be severe in an unpredictable, volatile Middle East.

Moreover, the push to draft yeshiva bochurim into the IDF further ties Israel’s military budget. From an economic standpoint, diverting resources into drafting yeshiva bochurim from an already shrinking pool of military resources is ill-advised. Placing 1,000 yeshiva bochurim in the army would be chaotic, more so when placing 50,000. Wrecking the army for political gain may dramatically compromise Israel’s security.

Former BOI governor Stanley Fischer, through devaluing the shekel, enabled Israeli exporters to significantly increase sales worldwide, especially in the high-tech sector. The result was a boon for the Israeli economy, allowing for strong economic growth despite the banking crisis. This Keynesian economic policy created an export boom and has attracted foreign investment. While clearly an economic victory in the short term, its long term ramifications of Israel’s security are unclear. Contributing factors that may negatively interact with current Israeli economic policy are: increased price of imports; regime change and instability of Israel’s neighbors; the looming draft of yeshiva bochurim. Will this short term gain lead to long term pain? Time will tell.

About the Author
Ari Mushell works in the banking industry.
Related Topics
Related Posts