The Magazine

Bibi as Economic Reformer

Three generations of Israeli statism is enough.

Jan 12, 2004, Vol. 9, No. 17 • By DANIEL DORON
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Jerusalem

WHEN FORMER prime minister Benjamin Netanyahu took on the thankless job of finance minister last March, Israel was facing a grave economic crisis. In the sixth year of a deep recession, the country had seen its tax receipts plummet while welfare transfer payments kept growing, amounting to more than a third of the government's $70 billion budget. The budget deficit had reached a perilous 5 percent of GNP. It was feared that the government might not be able to meet the payroll of a bloated public sector that employs every third worker in Israel, or keep paying generous benefits to the more than 10 percent of the workforce that is unemployed. To guard against inflation, the Bank of Israel kept interest rates so high (9.1 percent in real terms at their peak) that the economy was choking. There were murmurs Israel might slide into an Argentinian-style crisis or a deflation like Japan's.

The economic hard times have greatly aggravated social and political tensions. Many hardworking and intelligent Israeli workers earn less than $1,200 a month, barely making ends meet. Near poverty even in the professional classes and extreme wealth among a few well-connected economic and political operators have created one of the worst income gaps in the world. Israel's fractious politics are made even worse by the intense competition among interest groups vying for government favor. In short, a lot is riding on the success or failure of the finance minister.

The wildest optimists would not have predicted that Netanyahu could reverse this downward economic trend, and in fairly short order. Yet the economy is growing again. Netanyahu has managed to make substantial cuts in two consecutive budgets and reduce the bloated public workforce and salaries (though not enough). He has even managed to reduce unemployment benefits that discouraged lower paid Israelis from working.

Netanyahu also launched a modest tax reform, bringing the top marginal rate below 50 percent of income. And he courageously took over the Histadrut-controlled pension funds that were going bankrupt as a result of the labor federation's mismanagement. But the Histadrut, cynically posing as the protector of workers' pensions (that the union itself has squandered), launched a well-financed campaign of massive demonstrations, strike threats, and a PR drive vilifying Netanyahu as the benefactor of the rich (because he cut taxes). The strikes, only some of which materialized, almost broke an already teetering Israeli economy.

Netanyahu's showdown with labor is an epic struggle. He wants to privatize the hugely wasteful public-sector monopolies, but that means taking on Israel's most powerful unions. Workers in the seaports and airports and in the electrical and water works--all government-owned monopolies--earn five times the average Israeli salary and have cushy work arrangements. Jaguar-driving union bosses enjoy fantastic perks for no-show jobs. They threatened to bring the economy to a halt to protect these privileges, counting on support from other public-sector workers, government employees, teachers, etc.

Their leader in this is the politically ambitious boss of the Histadrut, Amir Peretz, a member of the Knesset who heads his own political party. Together with the Labor opposition, Peretz's unions have done everything in their considerable power to thwart Netanyahu's reform plans. But Netanyahu garnered great public sympathy that made the strikers back down. He still faces the threat of general strikes that may halt the progress of his reforms.

Netanyahu has shown great political skill in putting his economic rescue plan through a skeptical and divided government and a fragmented Knesset. Only Prime Minister Ariel Sharon has given him strong backing in his fight with the Histadrut. His fellow government ministers had other political axes to grind, and altogether they would not mind very much to see Netanyahu fail. His trump card was, no doubt, the $9 billion in American loan guarantees this summer that allowed the government of Israel to tap international markets for desperately needed funds, as they have nearly depleted local credit markets. The U.S. government astutely made the loan guarantees conditional on the enactment of basic economic reforms, tipping the political scales in favor of Netanyahu's bold moves.

Despite these manifest achievements, it is not a safe bet that Netanyahu will be able to break the monopolies that have dominated Israel's economy for decades. Some argue that Netanyahu should first have tackled the private monopolies that add about 30 percent to the prices paid by Israeli consumers. This would have been of great benefit to lower paid workers and would have helped him to counter the union charges that he is catering to the rich.