Israel: This Slowdown Is Going to Hang Around

Israel is facing a worsening economic crisis, and the troubles will complicate the fiscal plans of the winner of Israel's parliamentary elections on Jan. 28.

Israel's real gross domestic product contracted by nearly 1% in both 2001 and 2002, and growth in 2003 will be barely positive. Unemployment has risen from 9.6% at the end of 2001 to 10.4% in the fourth quarter of 2002. The rate is expected to hit 11% in 2003.

What's behind Israel's woes? First, domestic demand has been pummeled by the 2 1/2-year intifada uprising by Palestinians. The violence has led to a plunge in tourism and construction, resulting in massive layoffs. The situation will likely deteriorate if the U.S. attacks Iraq.

Second, the global slowdown has caused tech exports, which account for nearly half of all industrial exports, to fall by 10% for two years in a row. Venture capital for startups has dried up, with investments down from a record $3.2 billion in 2000 to $1 billion in 2002. Even established tech outfits, which survived the initial slowdown, have had to cut thousands of jobs.

Lastly, the Bank of Israel hiked interest rates in the first half of 2002 to stem a pickup in inflation brought about by the shekel's devaluation. On Dec. 23, the bank lowered its key lending rate, but only from 9.1% to 8.9%.

The economy and the intifada are the key issues of the election, which is expected to be won by the Likud Party, with Ariel Sharon remaining as Prime Minister. But the recession will make governing difficult, since it has reduced tax receipts, forcing the government to trim spending. The fiscal deficit probably equaled 4.5% of GDP in 2002, above the target of 3.9%. And Finance Minister Silvan Shalom has said the new government may have to cut the 2003 budget to meet an even lower 3% target.

The economy is not likely to improve soon. The only hopes right now rest with an end to the intifada, a quick resolution of the U.S.-Iraqi crisis, and an economic recovery abroad.

By Neal Sandler in Jerusalem

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