What Makes the Israeli Economy so Powerful?
Last year, sales of Israeli companies hit 23 billion USD, and the pace of foreign investment was brisk. By all accounts, the Israeli economy seems to be in terrific shape. This news should come as no surprise to seasoned investors – Israel has been focused on the future for decades. Before high-tech became a buzzword, Israel’s capabilities in R&D allowed it to establish some of the world’s finest security and pharmaceutical companies.
In the 1990s, Israel has conceived some of the most popular companies online at the time, like ICQ (Mirabilis). Between 1998-2000, more than 50 Israel companies held successful IPOs. Their economy further developed in the 2000s, with more successful high-tech companies, more patents, more innovation, and more significant funding. There were plenty of exits, most notably, everyone’s favourite navigation software Waze (sold to Google for 966 million USD).
Interestingly enough, Israel weathered the 2008 Global Financial Crisis in fine fashion. Their performance raised eyebrows in the global investment community – until then, many hadn’t viewed Israel as a stable, developed economy.
While the USA and Europe were in an economic tailspin, Israeli real estate was flourishing, and taxes were exempted from those immigrating, leading to a massive cash inflow by both private clients and corporations.
Money transfers to Israeli Shekels were already quite popular in the USA and the UK, as both countries are home to significant Jewish communities. However, Chinese investments were unheard of before 2008 (and nowadays, Israel is the promised land for Chinese investments).
What Makes the Israeli Economy Prone to Crisis
At present, the Israeli economy is an attractive place for overseas investors to park their capital. Continuous investment by foreign players has made the Israeli Shekel one of the most powerful currencies in the world. Despite this, many risks exist in Israel’s economy.
Chief among these is its relatively high debt-to-GDP ratio. As of 2019, Israel’s debt-to-GDP ratio was at 61%. By global standards, they’re not faring poorly – after all, it’s at 105% in the United States, and in Japan, it’s at an eye-popping 253%.
However, according to analysis done by the Centre for Economic Policy Research, nations should avoid rates above 60%. When an economy becomes overburdened with debt, high-interest payments steals away capital better used on social programs. Israel could bring their ratio under control by restraining spending, but with slated increases in military interventions against Gaza, this possibility seems unlikely.
This point leads into the next one: the ramping-up of tensions between Israel and the Occupied Palestinian Territories. War is an economic net negative – a few sectors (defense contractors, weapons manufacturers, etc.) benefit, while the rest suffer.
When Israel engages in conflict, tourists stay away, foreigners don’t buy real estate, and people don’t go to work. These factors hurt direct foreign investment and gross domestic product, reducing tax revenues, stock dividends, and paychecks.
Finally, Israel’s foreign direct investment boom may prove to be a double-edged sword in the years ahead. Over the past ten years, the Israeli Shekel has appreciated considerably against major world currencies. Let’s use the ILS/USD pair, for instance: in May 2009, it was at 0.25244. Fast forward to January 2018, and the pairing hit 0.29478, a ten year high. As of May 2019, it was slightly lower, at 0.27921.
Persistently high currency valuations can lead to a phenomenon known as Dutch Disease. As an export-oriented economy, Israel benefits when the value of its currency is lower than its competitors. This situation allows it to sell its goods at a discount to buyers all over the world.
However, its booming high-tech sector and becoming a natural gas exporter have led investors to invest in ILS in the 2010s. To avoid the adverse effects of currency appreciation, the Israeli government established the Israeli Citizens’ Fund in 2014. Funded by a windfall profit tax, it is meant to counteract losses in export industries. However, observers worry extraction companies will engage in tax avoidance schemes to minimize exposure.
On top of all this, Israel continually deals with threats to its very existence. Presently, military tensions between Israel and Iran are at risk of boiling over. Both nations boast large standing armies, as well as weapons of mass destruction.
As a result of this, Israel is forced to invest considerable sums of money to ensure its self-preservation. This situation prevents extra capital from being spent on economic development, a problem that many of Israel’s competitors don’t face.
What Lies Ahead for Israel’s Economy – a Forecast
The Israeli economy has been prosperous in spite of the challenges it has faced along the way. Built mainly by the survivors of the Holocaust, it managed to achieve greatness in a short time.
In April 2019, Prime Minister Benjamin Netanyahu won his re-election bid. Likud, the political party Netanyahu leads, picked up five seats, tying the Blue and White, which also finished with 35 seats. However, he will remain in power, as he managed to secure support from smaller right-leaning parties in the Knesset.
What do four more years of Bibby mean for Israel’s economy? Over his decade in power, he has spearheaded efforts to reduce Israel’s debt, all while lowering taxes. One can expect this to continue, which will bring Israel’s debt-to-GDP ratio below the critical 60% level. Also, taxes will likely remain low, maintaining this nation’s reputation as a great place to do business.
However, storm clouds are gathering. Infrastructure spending has fallen by the wayside in recent years. According to the IMF, Israel’s roads are the most congested in the developed world. Public hospitals are bursting at the seams, with a 98% occupancy rate. And most worryingly, widening income inequality as the cost of living increases has strained the average Israeli’s ability to spend into the economy. As of 2019, despite an unemployment rate of 4.1%, two-thirds of Israelis made less than the average national wage.
What does this all mean? After a decade of torrid growth, headwinds are gathering. Growth in future years may slow if measures aren’t taken to boost the earning power of Israelis.
Outside the political arena, most economic indicators are looking positive. As mentioned above, unemployment stands at 4.1%. Israel’s booming high-tech industries are leading the charge, creating 40,000 jobs between 2013 and 2017.
While this industry’s 280,000 positions only represent 8% of all employment, they earn disproportionately higher wages. For example, software engineers in Israel earn an average of 319,728 ILS per year (~91,000 USD).
According to a recent Reuters report, the sector is suffering from a labour shortage. As such, you can expect salaries to rise, boosting consumer spending and growth in the broader economy.
Despite worrying geopolitical downside risks, Israel’s economy is in great shape overall. While more could be done to address rising living costs and below average wages, most people have decent paying jobs.
Further, the Netanyahu administration has maintained an economic environment conducive to business. By keeping taxes low and reducing Israel’s debt-to-GDP ratio, this nation will remain an attractive place to invest.