Analysis: Washington’s financial troubles and J'lem

If US fiscal cliff deal were to fall, Israel's economy would feel ripple effects both directly, indirectly.

US Capitol building in Washington DC 390 (photo credit: Kevin Lamarque / Reuters)
US Capitol building in Washington DC 390
(photo credit: Kevin Lamarque / Reuters)
Brinksmanship has a new name, and it is Congress.
Over New Year’s, the US legislative body not only teetered along the edge of the “fiscal cliff,” it actually stumbled over it, sliding down to a less dangerous lower tier. Instead of putting its financial house in order to avert a series of devastating automatic tax increases and budget cuts, the Senate managed only to pass an agreement on taxes and several smaller issues, kicking the can on government spending down the road by two months, and creating a miniature fiscal cliff in March.
As of press time, the House of Representatives had not yet decided whether to pass even the compromise bill or balk, which could throw America the whole way over the cliff and back into a recession, dragging much of the world along with it.
Like many countries watching from the sidelines and praying that the world’s largest economy does not self-immolate, Israel has much at stake – both economically and security-wise – but little influence on the outcomes.
The scenarios, from worst to best, are: 1) The Senate’s tentative deal to avert the cliff fumbles in the House and no deal is passed; 2) The deal passes the House, but no agreement is made in time for the newly created mini-cliff; or 3) A full-on deal gets squared away to responsibly reduce US spending by March.
If, for some reason, the House manages to fell the deal brokered between Vice President Joe Biden and Senate Minority Leader Mitch McConnell, which passed in the Senate by a margin of 89-8 at 2 a.m. on New Year’s Day, chaos would ensue. Stock markets around the world would plunge, not just because the lethal combination of tax increases and spending cuts would pull the rug out from under America’s recovery, but also because the US would have proven that politics trumps effective governance.
Israel’s economy, which maintained a healthy growth rate of 3.3 percent in 2012, would feel the ripple effects both directly and indirectly.
A shrinking American economy would mean less Israeli trade with one of its two major trading partners.
The other, the European Union, would also be hit hard by recession in the US. The Jewish state may not be as resilient to such a shock as it was to the 2008 financial crisis.
More directly, without a deal, the automatic spending cuts the White House outlined to “sequester” the budget would axe between 9.4% and 10% of non-exempt defense funding, some $55 billion for the next year alone. The Office of Management and Budget called the potential cuts “deeply destructive to national security, domestic investments and core government functions.”
Fortunately for Israel, monies already committed for projects like the Iron Dome are unlikely to be affected.
“Long-term projects which are already committed are difficult to affect. What can be hurt are the more flexible things like off-shore procurement and investment in Israel,” says Oded Eran, a senior researcher at Tel Aviv University’s Institute for National Security Studies.
But as long as those defense cuts are in effect, Eran says, new defense contracts will be much harder to come by, robbing Israel of one of its major exports.
Should Congress pull itself together and avert the current fiscal cliff, the same defense sequestration will still lurk behind the new mini-cliff on March 1, though passing that threshold would not induce the same deep recession promised by the current cliff.
In either scenario, Eran says, there is a third way in which American fiscal folly could affect Israel.
“The glue that holds together the peace between Israel and Egypt is green – the color of the dollar,” he says.
Should the US be forced to cut back its spending, it could spend less cash incentivizing Israel’s neighbors to stay on good terms with the Jewish state.