Behind The Headlines, A Very Sick Economy

Sukkoth, the week-long harvest festival that ends on Sept. 30, is supposed to be a time of celebration for Jewish people everywhere. Yitzhak Shamir, the wily and combative Prime Minister of Israel, is celebrating the holiday at his heavily guarded residence in a leafy Jerusalem neighborhood. "But I can tell you," says one of Shamir's closest collaborators, "he's not doing a lot of rejoicing this year."

To Shamir's chagrin, his request in early September for $10 billion in loan guarantees to help the Jewish state absorb up to 1 million Soviet immigrants met with a stiff and angry rejection from President George Bush. Faced with the delicate diplomatic task of putting together a Middle East peace conference this fall, the White House wants Shamir to delay the request for four months so as not to alienate the Arabs. And Bush is throwing down the gauntlet to Jerusalem: Stop the frenetic pace of Jewish settlement-building in the occupied West Bank, Gaza Strip, and Golan Heights or risk not obtaining the guarantees at all.

BALLOONING DEFICITS. Along with the settlement question, the spat is putting a spotlight on another delicate issue: Israel's government- and trade-union-dominated economy. American and Israeli economists are worried that massive infusions of cash, like the loans, will increase Israel's dependence on handouts and make it even less likely to push needed economic reforms. "We're not talking about a productive private sector getting more access to capital," says Alvin Rabushka, a specialist on the Israeli economy at Stanford University's Hoover Institution. "We're talking about a public sector that is already bloated,inefficient, and wasteful getting more resources, leading to more bloat and inefficiency."

For reasons dating back to its founders' socialist ideals, the Israeli economy is one of the most tightly regulated in the world. Executives complain of tough foreign exchange controls, lengthy licensing procedures, and other red tape. Personal and corporate income taxes are prohibitively high.

Together, the government and the immensely powerful national labor organization Histadrut control over 200 enterprises that employ about 45% of the work force. They make everything from margarine to executive jets. A privatization program that was launched with much fanfare in 1988 has fizzled so far.

Only a half-dozen companies have been partially or fully privatized, bringing the government $250 million.

In the mid-1980s, Israel did manage to slash its triple-digit inflation and trim its ballooning budget deficits, but there are signs things may be getting out of hand again. Inflation, spurred by heavy demand for housing, is back up to 22%. Traditional exports of electronics and diamonds to sputtering economies in the U. S. and West Europe are lackluster. The arms industry, a major employer that racked up $1.6 billion in export sales last year, looks endangered as the world turns more peaceful.

The Israeli economy, which saw 5% growth in 1990, still isn't expanding fast enough to absorb the roughly 10,000 Soviet Jews arriving each month. Unemployment is already 11%. "If Israel can't double the size of its economy in the next five years, it just won't be able to cope with the new immigrants," warns Victor Medina, CEO of Israel Chemicals Ltd., a major employer.

Israeli private companies that might generate new jobs are being starved for investment capital by the government's housing programs. Paradoxically, these vast projects are creating thousands of apartments now standing empty. They are in locations, such as the Negev Desert and the Galilee, where the immigrants don't want to live because they are far from jobs.

OMINOUS SIGNS. The new arrivals are finding life in Israel almost as tough as back home. Jan Shubert, a process engineer from Moscow who arrived in Israel in March, 1990, managed to get a job within six months at a semiconductor manufacturer in Jerusalem. But of some 6,000 Soviet Jews who applied for jobs at the company over the past two years, only 30 have been taken on. Shubert's wife, a skilled electronics engineer, still cannot find work--nor have many of their Russian friends. Says Shubert: "I'm definitely one of the lucky ones."

The economic shortcomings have shaken some senior Israeli officials awake. In early September, Shamir and his Cabinet ushered in Gramm-Rudman Act-type rules that aim to squeeze the country's widening budget deficit. In the next few weeks, insiders say, the government will announce relaxations of foreign exchange controls, which constrict outside investment in the country.Recently, the government streamlined sell-off procedures for state-owned businesses so that candidates are no longer held up in the Cabinet and parliamentary committees for months and years. The government plans to float 25% of Israel Chemicals on the Tel Aviv Stock Exchange in November. Norway's Norsk Hydro is negotiating to take another 15% stake. The government is also talking to several U. S. Baby Bells about selling a piece of Bezeq, Israel's telephone company. Next year, says Joseph Nitzani, the energetic new head of Israel's privatization program, the government should take in $800 million from the sale of state-owned companies. "No serious effort had really been made before to privatize," he says. "Now, we're getting into high gear."

The government is also finally starting to get out of the largely state-owned banking industry. Israel Discount Bank Ltd., the country's third largest, was sold in early September to the bank's original founding family for $230 million. And the sale of the fourth-largest bank--United Mizrahi Bank Ltd.--is planned by yearend.

Israel's business community welcomes the apparent change in attitude. "There is a new mood," says Dov Frohman, managing director of Intel Israel Ltd., one of the country's leading high-tech exporters. Some Japanese companies, which have shunned Israel for fear of losing access to rich Arab markets, are showing new interest. Toyota Motor Corp., for instance, will start direct sales in November, and Nissan Motor Co. has appointed a dealer.

REFORM LINK. But others are skeptical that Israel is ready to change. Mendel Kaplan, chairman of the board of the key resettlement organization, the Jewish Agency for Israel, says Israeli governments are averse to privatization "no matter what they say," because the public sector "gives them so much patronage." State-owned companies are filled with political appointees, from vote-swinging rabbis to retired generals. And even if Nitzani plows ahead with asset sales, the government will still be pouring billions of dollars of subsidies into the public sector.

Some Americans, including Senator Patrick J. Leahy (D-Vt.), are urging that Washington link economic reform to the loan guarantees. After all, there seems to be no end to U. S. aid to Israel, which now gets at least $4 billion a year--far more than any other recipient. "We should come up with a comprehensive economic-reform program that would have as one of its goals the phasing out of economic aid" after the immigrants are absorbed, says American Enterprise Institute Senior Fellow Herbert Stein. Stein, chairman of the Council of Economic Advisers under Richard M. Nixon, played a key role in prodding Israel toward reform in the mid-1980s.

But Washington insiders doubt the U. S. will press Jerusalem on reform. One State Dept. specialist predicts that in the horse trading to get Shamir to a peace conference, economics could get lost.

At this point, Israel seems likely to get the loan guarantees after a delay and a compromise on settlements. That's good news for such Wall Street firms as Kidder Peabody, Bear Stearns, and Salomon Brothers, which have earned good fees floating U. S.-backed Israeli debt in the past. The Israelis, too, would profit if they would use this occasion to commit themselves to reform.

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