Laboring for Social Welfare Limited by An Open Economy

By Ephraim Kleiman

Published December 02, 2005, issue of December 02, 2005.
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By speaking out loudly against the rise of economic inequality and the spread of poverty in Israel, newly elected Labor Party leader Amir Peretz has brought about a major shift in the country’s public agenda, away from the security matters that have dominated debate in Israel for so long. Some unspecified anti-poverty measures were supposedly in the pipelines before, but now politicians of all stripes are trying to outdo each other in demonstrating their concern for the country’s social welfare.

Pundits and policymakers are trying to figure out in which direction Peretz would take the Israeli economy if he is called on to form the government after the general election next March, or if, as is more likely, Labor becomes the junior partner in a government formed by Ariel Sharon. In particular, speculation has been rife about whether Peretz would lead Israel back to the supposedly “socialist” policies of the country’s first decades.

In fact, Israel’s economic regime never bore any resemblance to those of the Soviet bloc countries — former finance minister Benjamin Netanyahu’s insinuations to the contrary notwithstanding. Israel’s brand of dirigisme, or statism — that is, of direct government intervention in the workings of a basically market-driven economy — was much the same as that practiced in Western European countries such as the United Kingdom in the immediate postwar period. What differences existed were mainly the products of history and of the somewhat unique problems faced by the nascent Jewish state.

Peculiar to the Israeli scene were the semipublic, trade union-run industrial enterprises and social services. They originally were developed to compensate for the private sector’s inability to generate sufficient employment, and for the British Mandate’s failure to go beyond the colonial minimum in the provision of health and education services.

The employment and housing needs of the mass of immigrants that poured into Israel during its early years could in no way have been met by private, profit-oriented initiatives. So the state had to step in. At first it did so by setting up industrial plants and constructing housing itself. Later, after awakening to its lack of business expertise, the government subsidized private entrepreneurs to do so, conditional on them undertaking to provide a certain number of jobs in localities where the need for them seemed most acute.

While Israel’s government established a large number of state-owned enterprises, unlike its Western European counterparts it did not indulge in widespread nationalization of existing ones. Perhaps the most prominent case of state ownwership has been Israel’s main commercial banks, of which it has recently been divesting itself. But their nationalization happened not by design but literally by default, in the wake of the bank-shares crash of 1983.

As the economy grew, these tools of the government’s development policy — establishing state enterprises, allocating cheap bank credits, offering made-to-measure protective tariffs and export subsidies, and resorting to the occasional arm-twisting — outlived their usefulness. Their drawbacks, on the other hand, became more and more evident: industrial inefficiency, political interference and even outright corruption. But because this system provided opportunities for political patronage and out of fear of job losses, it was slow to be dismantled. Both management and employees at many of the state-owned firms strongly opposed any reform that would weaken their position.

Netanyahu’s onslaught on these remaining bastions of dirigisme was nominally pursued in the name of economic efficiency. However, it seems at least in part to have been driven by the finance minister’s vision of Israel as an American-style capitalist economy, as well as by his wish to weaken whatever power the trade unions still wielded.

Because privatization coincided with the growth of income inequality in Israel, many have conflated the two. As they see it, privatization is a main cause of the spreading poverty and rising inequality in Israel, along with tax cuts for the rich and the sharp reduction in old-age pensions, child allowances and unemployment benefits.

Peretz earned his political spurs as the militant head of the by-now much-weakened Histadrut, Israel’s central trade-union federation. From that position, he fought many of the government’s privatization decisions, defending the well-entrenched workers of state monopolies who, together with the Histadrut apparatus, formed his political base.

But while he could be expected to backpedal on some of Netanyahu’s welfare-cutting measures and stop part of the proposed privatization of government services, it is highly unlikely he would roll back the reforms of the last two decades and try to restore the old interventionist system. Nothing in his recent public pronouncements suggests this is the path he intends to follow. Furthermore, his bringing into the Labor Party of Avishai Braverman — the highly successful president of Ben-Gurion University in the Negev and former World Bank economist who was courted, or at least coveted, by Sharon’s newly formed Kadima party — suggests that Peretz will not embark on any starry-eyed wild course.

Ultimately it is economics, more than any ideological or political consideration, that will constrain Peretz’s freedom of action. Unlike in its early days, Israel today has an open economy, with much of its growth in recent years driven by exports and financed by business investments from abroad. Such reliance on foreign markets, whose reactions a small economy cannot control, imposes a strict discipline on the policies a country can pursue. This is a dilemma that all social democratic parties have to face, unless they are willing to sacrifice growth by withdrawing from the market economy.

If Peretz comes to power, or shares enough of it to influence Israel’s economic policies, he could be expected to follow a path parallel to that trodden by Lula da Silva, another statesman with a proletarian background. Like the Brazilian president, Peretz will stick to the capitalist market system, but he will try to temper its iniquities with a social welfare net, the easing of the transition for downsized workers, and similar measures aimed at protecting and supporting the weakest segments of society.

Such an agenda may seem pedestrian and, in contrast to much that has transpired of late in Israel’s political arena, lacking in drama. But in fact, it will require a major shift in priorities. Considerable portions of the budget now spent on the settlements and national defense will have to be reallocated to pay for increased expenditures on infrastructure, education and social services.

This budgetary restructuring is bound to be opposed by those who will be adversely affected by it. But this is the only manner in which Israel’s perennial problems of social cohesion and immigration absorption can be dealt with under the rules of the game of today’s world.

Ephraim Kleiman is a professor emeritus of economics at the Hebrew University of Jerusalem.

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