Israel endangered by lack of long-term economic thinking, expert says

‘Two separate economies,’ inequality, waste of human talent weighing heavily on country’s future, Start-Up Nation Central head tells ‘Post’

Prof. Eugene Kandel  (photo credit: YOSSI ZELIGER)
Prof. Eugene Kandel
(photo credit: YOSSI ZELIGER)
Major challenges facing the Israeli economy are failing to be tackled due to a lack of long-term economic thinking and leadership, one of Israel’s leading economists has warned.
Prof. Eugene Kandel, a former head of Israel’s National Economic Council (NEC) and current CEO of Start-Up Nation Central, told The Jerusalem Post that “what should worry us” is the failure to develop long-term and overarching strategies for threats hanging over the country’s economy, rather than often-discussed immediate and pressing issues.
“When you look from outside, it’s not the several dozen pressing and immediate economic issues that should worry us, because the pressing and immediate things tend to get solved,” said Kandel, citing issues ranging from the fiscal deficit to the defense budget.
“Rather, it is the things that will become pressing in five to 10 years that people do not tend to pay enough attention to, because they are not pressing – or nobody is pressing enough.”
Kandel, who led the NEC and served as economic adviser to the prime minister from July 2009 to August 2015, is also a professor of economics and finance at Jerusalem’s Hebrew University.
Beginning Tuesday, Kandel will chair the Israel Democracy Institute’s annual two-day Eli Hurvitz Conference on Economy and Society. For the third consecutive year, the Jerusalem conference will bring together leading economists, policy-makers, politicians and academics to focus on the topic of “Two Economies – One Society.”
Looming challenges, he says, include tackling Israel’s “two separate economies,” maintaining the current technology-based driver of economic growth, demographic changes, education, and sustainable development.
“As I sometimes say, democracy is a pretty anti-strategic form of government. Nobody is electing anyone because they are solving a problem 10 years from now – and nobody is not getting elected because they fail to solve the problems and are leading us into a crisis 10 years from now,” he said.
While Kandel strove to initiate a more strategic outlook for the government while leading the NEC, he added that it is “still not functioning as well it should.” The need to focus on strategy and not short-term tactics, he said, is comparable to the IDF’s perception of war as a tactical victory until 1967.
“Only when Israel was hit by surprise in 1973, costing Israel one-third of its annual GDP, did the government and military receive a huge wake-up call,” Kandel said.
“So the military established strategic institutions looking 15 to 20 years ahead. If you wait until a new missile arrives and then start looking for new technologies, it is way too late. That’s the type of thing we have to adopt – hopefully without being hit with something equivalent to the 1973 war on the economic and social side.”
ONE OF the key issues facing the country, Kandel says, is that it is home to “two separate and basically disconnected economies.” One economy is the innovative economy, pushing the technology frontier of the world. The second economy is a more traditional one, with far weaker productivity and far greater dependency on the government.
“There is a big bifurcation of the population. People within each economy co-invest and co-habitate, and create separation,” Kandel said. “This separation is not healthy, especially in a country built on a premise of egalitarianism.”
While Israel has become a global center of innovation and entrepreneurialism, Kandel says it was always assumed that the “fruits of this innovation” will remain in Israel. The market’s goal, however, is to maximize value and not to keep it in the country.
According to a report published earlier this year by the New York-Israel Business Alliance, over 500 Israeli companies operating in New York directly contributed $18.6 billion in revenue and employed almost 25,000 residents in 2018.
“Creating thousands of jobs is great, but we would like some of those jobs to stay here. The state wants to capture the value. I’m happy to see the Israel Innovation Authority doing much more strategic thinking, shifting its focus not from only creating the value somehow, but also capturing the value for Israel – which is quite a dramatic shift,” said Kandel, who has headed the nonprofit Start-Up Nation Central since 2015.
“You need a mix of all the different pieces. Multinational companies and Israeli firms which are here, which are there, and which are sold. For a long time, there was no question asked [of] a country – what sort of mix do we want for the best outcome for our citizens, that would somehow be connected between these two economies?”
Rather than relying on markets, maintaining Israel’s technological leadership – one of the main drivers of economic growth – necessitates the establishment of a forum including all governmental stakeholders, Kandel said.
“We don’t have a forum that sits and says, ‘look, this is 13% of our GDP. It could go down to maybe 6% or [up to] 20% of GDP over the next decade,” he said. “If the Finance Ministry, Israel Tax Authority, Economy Ministry and Israel Securities Authority etc. all pull in various directions, each with their own strategy, how do we expect to actually beat countries that have an innovation ministry controlling the whole spectrum?”
ANOTHER LONG-TERM issue that must be addressed, Kandel says, is the issue of inequality within Israeli society. There should be an understanding that “increasing inequality” can stem from both productive and unproductive sources.
According to the latest OECD Gini coefficient, where 0 represents perfect income equality and 100 represents extreme inequality, Israeli inequality stands at 34.4 worse than the advanced economy median of 29.7, and the overall OECD median of 31.7. The poorest 20% of the Israeli population holds approximately 6.2% of the national disposable income, below the OECD average of 7.6%.
“Our goal as a country is to accept that there will be value creation discrepancies between the populations, and try to make as many of the population start creating that value as fast as possible,” Kandel said. “We need to bring more and more people into opportunity, even though within this process, we are increasing inequality even further.”
“There will always be people who run faster than others. You can try to stop those that run the fastest by taking away their shoes. That works to some extent in the short-run to reduce inequality, but in the long-run, they’ll disappear from here and run for somebody else with shoes.”
Education is one of the primary ways to eliminate equality and provide a better start for as many children as possible, Kandel said, describing the current education system as being “in terrible shape, and not because of PISA marks.”
“Education is in terrible shape because we’re basically teaching our children with antiquated methods and materials. On a macro level, everything that we do is basically not that different from about a century ago,” said Kandel, adding that solving education challenges won’t be done by giving “another billion or two to the Education Ministry.”
“Things you actually need to know, in my opinion, are just languages,” he said. “You need to know your own language, [and] English, mathematics and computers. Without them, you can’t build anything else. Everything else that you study, you should like, experience and enjoy.”
The country also cannot continue to ignore the “huge waste of human talent” in the Arab and ultra-Orthodox sectors, which are rapidly growing as a share of Israel’s population, Kandel said. Start-Up Nation Central’s efforts to better connect some Arab and ultra-Orthodox computer science graduates to the hi-tech industry have seen immediate results and significantly increased wages.
Far from “doing anyone a favor,” investing in these populations will ultimately lead to higher earnings, greater tax revenues and connecting them to “one economy.”
Long-term thinking is also required, Kandel adds, in order to balance economic challenges over the coming decades with issues of sustainability. As a small country, Israel might be unable to have a global environmental impact by cutting down emissions but, as a price-taker in the world market, it is also necessary to take into account future prices based on being environmentally friendly.
“Why should I look at future prices? If you’re building a power station for 40 years, you better know what kind of fuel you’ll be using in it. If you don’t, you might be surprised [when] prices will be five times higher than you thought,” said Kandel.
Yet a sustainable global economy could also provide a giant market for a technologically-advanced, small nation. While the market and investors may not currently be interested in a lucrative, eco-friendly opportunity a decade from now, the government can play a key role now for Israel to be ready when the time comes.
“There have been many examples of good government initiatives, in smart transportation, the fuel initiative and the cyber initiative,” said Kandel.
“Somebody has to take it into account, because the market won’t care less if you’ll be a powerhouse in cleantech in a decade and be open to a huge market, utilizing the people in the traditional economy rather than programmers. In my opinion, if you’re not strategic, you’re missing a huge part of the equation.”