It's the Israeli Economy, Stupid

In Israel, economic concerns grow as judicial overhaul plans remain on the table

“There is a very broad consensus among economists, which is very unusual, expressing grave concerns about the potential effects on the economy of this judicial overhaul,” former Bank of Israel Governor Karnit Flug told JI


Former Bank of Israel Governor Karnit Flug

Israel’s government must take immediate steps to scrap its judicial overhaul plans if it wants to prevent further decline of the country’s already plunging currency and reverse the current economic trend, former Bank of Israel Governor Karnit Flug told Jewish Insider in an interview last week.

Flug, the vice president for research at the Israel Democracy Institute, adds her voice to the economics experts in Israel who in recent months have raised concerns regarding proposals by Prime Minister Benjamin Netanyahu’s government to make key changes to the country’s structure of government.

Those changes, which include a reform to the way top judges are selected and a block on Supreme Court decisions relating to controversial legislation, combined with elements of the recently passed state budget, could cause irreversible damage to an economy that has been widely envied and broadly celebrated in the past, Flug cautioned.

“There is a very broad consensus among economists, which is very unusual, expressing grave concerns about the potential effects on the economy of this judicial overhaul,” said Flug, who served as Bank of Israel governor from 2013 to 2018. “The reason is that we believe every economy is vulnerable to any change in its institutions that interferes with the checks and balances between the branches of the government.”

Earlier this month, the New Israeli Shekel fell to a new low of 3.753 against the dollar, and in order to offset the imbalance, the Bank of Israel has been forced to drive up interest rates multiple times.

Netanyahu, a former finance minister who prides himself on his economic expertise, appears to be paying attention to the impact of his government’s policies on the economy. Last week he convened for the first time a newly created committee aimed at tackling the high cost of living in Israel, although in his press statement he blamed the economic challenges on “hidden monopolies and all kinds of impediments to competition.”

The long-serving leader, who reentered office in January, has also taken some steps to slow down the pace of his government’s controversial reforms, allowing members of his coalition to meet with opposition lawmakers to find a reasonable solution. Meanwhile, some of his lawmakers, including Justice Minister Yariv Levin, have indicated that the plans, which have sparked mass weekly protests, will eventually go ahead.

“There is vast economic literature that talks about checks and balances and the importance of the judicial oversight of the executive branch to the development of economies and their growth,” Flug explained.

“Being familiar with this literature and looking at what happened in particular countries such as Hungary and Poland, we identified these concerns,” Flug said, adding that examining the experiences of such countries only “intensified the concerns.”

“What we saw was a decline in capital inflows and in the willingness of foreigners to invest in these countries,” she explained. “What we saw in some cases was a decline in the rating by the credit agencies and also, where they didn’t change the rating, they made very critical comments about the effect of these changes.”

A key indicator, said Flug, is the drop in investment in Israel’s high-tech sector.

The high-tech sector, she continued “is very dependent on foreign capital, on the financing by foreign venture capitalists and investors that are either investing through funds or directly, and it’s very clear that if they have questions about the institutions in Israel, that are halting their investments.”

Flug pointed out that the high-tech sector is extremely important in Israel, employing some 11% of all employees, responsible for 17% of the country’s GDP and for 25% of overall direct tax receipts, as well as 54% of Israel’s exports.

Compounding the economic concerns, she said, was the recent passage of a two-year national budget, which, while conservative, favors certain sectors in Israeli society, mainly the Haredim and those living in settlements, said Flug.

She explained that while most of the budget is predetermined by salaries and other needs in the public sector, around 10-15% is flexible, and “there was a tendency to give preferences to the Haredim, the settlers and all kinds of other interests represented heavily in this government.”

“Regarding the Haredim, it is particularly concerning because among the men there is low participation in the labor market, and even if they do work, they are not equipped with the skills to get them into reasonably salaried positions,” Flug said, explaining that an increase to Haredi education institutions that do not include core curriculum subjects such as English, math or tech and digital skills will handicap the sector in the future.

Neri Zilber, a Tel Aviv-based journalist and advisor to Israel Policy Forum, told JI that while there are signs that Netanyahu is aware that his government’s judicial overhaul proposal is causing economic damage to Israel’s economy, the budget that was passed last month “is irresponsible and does little to address Israel’s economic issues.”

“As always, Netanyahu is putting political expediency and his own political interests over the longer-term interests of the Israeli economy,” Zilber continued. “Even though he, more than anyone else, should know the potential damage of the budget to Israel’s economic interests.”

“Netanyahu’s focus is political survival, that is the short term threat but that does not mean he is not listening to the economists,” said Jonathan Rynhold, head of the political studies department at Bar-Ilan University near Tel Aviv. “He will try to navigate through the politics and economics of this and try to survive without having to do the extensive reforms that he knows will damage the economy and, in particular, his standing as a politician who is the most capable at managing the economy.”

“If he can preserve his place as prime minister, which means relying on the far right and Haredim, and avoid passing reforms that challenge the international community’s beliefs in the soundness of the Israeli government and economic structure, then he’ll do it,” explained Rynhold. “But he’ll take the long route because he wants to survive.”

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