Sound and Fury

Let’s revert to the domestic arena – not for lack of interesting developments overseas, but because the level of noise emanating from the ‘discussion’ surrounding the budget proposal and accompanying economic policy program is just so disturbing, in every sense.

Judging by the amount of noise emanating from that direction, it is almost impossible to avoid the conclusion that the budget deficit is the dominant issue on this country’s economic agenda. Indeed, on the basis of the evidence this week, to suggest otherwise would be akin to driving northwards in the southbound lane. Nevertheless, the following facts need to be stated: first, the budget deficit is not a serious economic problem; second, there are considerably more serious ones, but they are being ignored or, at the least, overshadowed; third, the pretence that this country’s middle-class is being systematically oppressed and driven into poverty is nonsense.

In short, there is a huge gulf between the strongly positive underlying trends that characterize the Israeli economy over the last ten years, and the impression being (deliberately) created by most of the ‘chattering class’ – media and politicians. Most Israelis have no idea how robust the country is in absolute terms, and only a vague inkling of how enviable its position is in relative terms. Since they are bombarded daily with tendentious and largely ignorant and distorted babble, that is hardly surprising, but it is nonetheless sad.

The budget deficit has been a hot topic for some time now, having grown steadily over the last two years to fairly threatening proportions. As everyone surely knows, the deficit must be reduced by at least twenty, preferably thirty billion shekels over the next 12-18 months. This sounds like a lot of money and hence presents a major challenge – until you realize that what is needed is a reduction of two or three percent in the government’s spending, and/or additional revenues to be raised by higher taxes.

If a family, household or firm was faced with this challenge, its members would – reluctantly, no doubt – make the adjustment necessary and get on with life. But because this is a national budget, it becomes a contentious political issue, of who is going to ‘contribute’ more or less toward meeting the target. That is not a small matter and it is the essence of political activity, involving competing ideologies, interest and pressure groups and so on. But in the economic context, it is NOT a big deal. It is, in fact, quite a small deal.

That two or three percent adjustments to budgets are minor matters is an accounting fact. More open to argument is the suggestion that the entire budget brouhaha is a secondary issue – again, from an economic viewpoint. The reason for that is implicit in the foregoing discussion. Since the government’s budget is a purely Israeli matter, it is within the power of the government and the country as whole to deal with whatever problems arise in this area. Whether this is done by taxation – and which taxes, on whom, etc. – or by spending cuts – of what, etc. – is entirely our choice.

However, the central feature of the Israeli economy is that it is small and open. That means that global developments have a powerful impact on the domestic economy – but we have very little influence over those global trends and developments. At best, we can react quickly and respond wisely. Thus, in a situation where the world’s leading central banks are engaged in what has been aptly called ‘the biggest experiment in human history’ in their response to the crash and crisis of 2007-09 —  and where, in consequence, the prices of currencies and almost all financial assets are being massively and systematically distorted — Israel finds itself with a currency which is rapidly appreciating against virtually every major currency in the world.

This situation, which is exacerbated by the (positive) impact on Israel’s trade balance of the offshore natural gas finds, poses the greatest genuine threat currently facing the economy – because it is a purely economic phenomenon, of relative pricing and hence competitiveness and profitability, and because it is not of our making and hence outside of our control and we are obliged to react to it as best we can.

If the shekel remains at current levels – let alone if it rises further – the position of a growing number of firms and entire sectors will be eroded, undermined and ultimately rendered untenable. That will cause tax revenues to fall, unemployment to rise and thus will impose  a potentially permanent fall in the standard of living of many people and of the country as a whole. Now THAT is what I would call a serious threat to the economy – but you won’t read one word about it in the 260-page tome issued this week, covering the new government’s economic policy program, supposedly from A to Z.

From the finance ministry’s perspective, this is the Bank of Israel’s problem and hence to deal with. Yesterday Governor Fischer tried to throw the hot potato back into the Treasury’s court. Don’t hold your breath on this one, just pray.

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