Money to spend

Benjamin Netanyahu and his treasurer Moshe Kahlon are tinkering with a populism they might prove unable to afford.

BENJAMIN NETANYAHU and finance minister Moshe Kahlon. (photo credit: REUTERS/BAZ RATNER)
BENJAMIN NETANYAHU and finance minister Moshe Kahlon.
(photo credit: REUTERS/BAZ RATNER)
 “MOSHE KAHLON and I are the best finance ministers,” said Benjamin Netanyahu, referring to his sixth treasurer since 1996, before explaining, “We both started at the bottom – in the stores.”
The biographical part of this insight is fact. Netanyahu started off as a furniture firm’s sales manager, Kahlon as an auto-parts dealer. The economic part is trickier, especially after the introduction of the budget that the pair have just presented in the Knesset.
On the face of it, the budget’s contours are reasonable, beginning with its unique duration – two years instead of one.
The biannual budget, a rarity for national governments, was first tested in 2009-2010 during Netanyahu’s second premiership. Launched by then-finance minister Yuval Steinitz, it was praised by some for fostering political stability and economic predictability, and was attacked by others who thought it made the public-finance system too rigid.
The next Netanyahu government reverted to a one-year budget, as the Treasury landed in the hands of Yesh Atid leader Yair Lapid, whose political situation was an inversion of his predecessor’s ‒ Steinitz was Netanyahu’s closest confidant, Lapid, Netanyahu’s rival.
Kahlon’s situation is somewhere between these poles.
Though he fielded his own party, the center-right Kulanu, the current finance minister was politically born and raised in the Likud and has never openly attacked Netanyahu. Consequently, he was open to Netanyahu’s idea of restoring the two-year budget.
Still, today’s macroeconomic circumstances are very different from what they were in 2009.
Back then, the global economy was reeling from the previous year’s financial meltdown on Wall Street when markets collapsed, interest rates plunged and multibillion- dollar stimulus packages abounded.
In that setting, inserting some certainty into a very unpredictable macroeconomic scene was welcome. Today’s setting is different.
The global economy, while still ill, is not the unpredictable beast it was last decade.
That is why this time around Israel’s two-year budget is less an armor against the tremors of distant tsunamis, and more a precaution against homegrown political tornadoes.
A two-year budget effectively extends a government’s life span because it deprives the Knesset of one annual opportunity to topple it automatically by rejecting its budget. Hence, Netanyau’s motivation.
Kahlon’s motivation is different.
For him, the two-year budget’s aim is not to furnish Netanyahu with the political stability he craves, but to impose on him a populism the prime minister rejects ideologically and can doubtfully afford politically.
Totaling 454 billion shekels for 2017, and 463.6b. shekels for 2018, the budget the government approved on August 11 and the Knesset will debate in the fall is built to impress Kahlon’s lower-middle-class target constituency in both the income and the expense columns.
In the income column, the government is foregoing 5b. shekels in internal revenue, of which 4b. shekels will reflect an income-tax cut for the middle- and lower-income brackets.
The remaining 1b. shekels will reflect a one percentage point cut in corporate taxes, from 25% to 24%.
At the same time, a new tax will be imposed on owners of three apartments and more. Kahlon believes this will generate 800 million shekels for the country’s coffers.
Additional revenue is to be skimmed off of several agencies such as the Israel Land Authority and the Jewish National Fund through special, one-off charges.
In the expense column, the budget expands varied social budgets, such as a 66% addition to the basket of state-financed medications from 300m. to 500m. shekels; a 350m. shekel increase in the poorest of the elderly’s old-age allowances; an 8% increase in the Welfare Ministry’s budget, with 400m. shekels coming in 2017 and 918m. shekels the following year; and a 14% increase in the Absorption Ministry’s current budget of 1.77b. shekels These and other new social expenses dominate a fiscal expansion that will make spending next year and the following year rise 5.2% and 8.3%, respectively, compared with 2016’s.
To offset this, the budget promises a 2% spending cut in each ministry. However, besides Israeli political experience teaching that such a cut’s execution cannot be assumed in advance, even its theoretical size does not offset the new spending.
That is why the government is asking the Knesset to approve, as part of the budget bill, an expansion of the target budget deficit, from 2.4% of GDP to 2.9%.
It’s a tricky demand.
LAST DECADE’S global crisis made most of the world’s richest governments breach budgets and borrow heavily in order to finance sudden and artificial spending with which they resolved to prevent mass unemployment.
The aim was achieved, but the unplanned spending dramatically expanded national debt levels, which in 2015 reached 89% of GDP in Britain, 97% in France, 105% in the US, 133% in Italy and 245% in Japan.
Israel bucked this trend.
After having reduced its debt level from 99% of GDP in 2004 to 73% by the eve of the global meltdown, and after having allowed this figure to rise momentarily to 75% in 2009, Israel quickly resumed its frugality, steadily shrinking its debt to 65% of GDP, one of the rich world’s healthiest ratios.
This remarkable feat was a combination of six consecutive governments’ fiscal discipline and a vibrant private sector’s steady growth, aided by circumstances such as the discovery of natural gas deposits and a depreciating euro. This, then, is why Kahlon feels Israel can now expand borrowing.
That’s not how the Bank of Israel sees things.
According to Governor Karnit Flug, the planned deficit breach is prone to reverse the national debt’s historic trajectory of decline.
Speaking in the cabinet, she warned that the Treasury’s assumption that the new spending will raise debt by a mere two percentage points to 67% of GDP can prove elusive and hit 70% in a matter of no time.
As Flug sees it, the combination of expanded spending and reduced taxation is explosive. She recommends not only avoiding the planned tax cuts but, in fact, to raise taxes, since the aim of expanded social spending is actually agreeable to her.
Kahlon, for his part, promises that the expansion is momentary and that the budget deficit target will be reduced again come the next biannual budget. Even so, his general economic outlook smacks of populism, at least when compared to the neoliberalism that has been a hallmark of his boss’s ideology and a centerpiece of his career.
Before opening his auto parts dealership 30 years ago, the now 55-year-old Kahlon was reared in the slums of Givat Olga, a five-minute car ride and a social light year from posh Caesarea where Netanyahu now resides.
The fifth child of his Libyan-born parents’ seven kids, Kahlon ended up working his way through law school and, at the same time, up Likud’s party ranks until he became Netanyahu’s communications minister in 2009.
Kahlon’s crusade at the time against a de facto cellphone cartel resulted in a reform that imposed competition on suppliers and ultimately worked well both economically and politically. Rates were more than halved, Kahlon became a national hero and his concern for simple people seemed fully in synch with Netanyahu’s faith in the markets.
Since then, however, Kahlon parted ways with Netanyahu for reasons he never explained, and set out to capitalize on his popularity in general, and among Likud’s lower-income electorate, in particular.
Hence, Kahlon’s quest to bolster social spending.
Kahlon, in fact, is trying to fashion himself not only as the poor’s provider but also as their protector. That is why he picked a fight with Mifal Hapayis, the state-owned lottery and gambling authority, by inserting into the budget bill a clause that will abolish this agency’s digital slot machines.
In Kahlon’s view, the machines that have proliferated in candy stores are different from the same agency’s main product, the lottery ticket, because the slot machines tempt the poor daily and with unlimited sums. Ultimately, he argues, the machines swallow low wages.
However, this universally admired concern for the poor is also leading Kahlon to seek banking reforms that might be reckless, both for the individual household and the economy.
The new budget will set in motion Kahlon’s much heralded plan to make the banks spin off their credit-card activities, and also to ease regulations for opening new banks. The idea is to do in the banks what was done with the cell phones, namely foster competition, and thus reduce commissions and make credit more accessible to lower-income customers.
The problem is that easy credit, unlike low phone bills, might lead households to ruin and the economy into a debt crisis.
Under the current system, Israelis’ credit- card activity is limited because of their cards’ linkage to their bank accounts. Once cards are decoupled from the banks, card holders will be able to borrow regardless of their bank accounts’ situation, the way they do in the US, often recklessly.
Similarly, reducing capital-adequacy requirements for new banks will increase chances that banks will lend beyond their resources and customers will borrow beyond their means. It was such financial permissiveness that sowed the seeds of America’s fateful subprime crisis.
Kahlon’s failure, so far, to increase housing supply and thus reduce home prices raises the chance that the combination of cheap credit and expensive apartments will eventually generate a bad loans crisis.
Governor Flug, though less categorical in the face of the banking reform than in her criticism of the deficit breach, has nonetheless cautioned that the banking reforms are “risky” and must therefore be executed “cautiously and gradually.”
All this has obviously been known all along to Netanyahu, the man who, as finance minister last decade, slashed social spending while preaching fiscal austerity and financial caution. Now, however, a set of social, political, economic and personal circumstances is making the same Netanyahu change course.
THE SOCIAL fact Netanyahu faces is the five-year-old consumer protest movement that sent thousands to demonstrate in the streets and some of their leaders to serve in the Knesset where they are crusading for cheaper housing, tuition and food.
As Netanyahu sees it, that sentiment was the driving force behind the rise of Lapid who, two years after the street protests, dealt the Likud a severe electoral blow. Whereas that contest cost Netanyahu middle-class voters, the previous decade he lost working-class votes in the 2006 election following his social-spending cuts as finance minister.
Finally, in last year’s election, much of that electorate migrated to Kahlon, thus consolidating Netanyahu’s socially driven political losses.
The Netanyahu-Kahlon duo’s economic differences echo the contradiction that has historically bedeviled the Likud, whose leaders included conservative millionaires such as Yitzhak Modai, the finance minister who defeated hyperinflation in 1985, and populists like David Levy, the former housing minister who wanted the state to continue to subsidize food prices, even when that spending brought the economy to its knees.
Kahlon’s populism comes nowhere near this type of dereliction, but it does fall well short of Netanyahu’s Thatcherism.
Then again, today’s economic reality is entirely different from what it was in 2003 when Israel was in its deepest-ever recession and Netanyahu set out to complete the country’s journey from socialism to capitalism.
The economy has since matured, excelled, impressed investors, become the envy of governments and, on top of all this, also found gas.
Netanyahu, therefore, feels he can afford to slightly unfasten the fiscal belt and accommodate Kahlon’s social demands.
Finally, from Netanyahu’s viewpoint Kahlon is not Lapid.
Lapid’s political zenith is, for the prime minister, an aberration, and he sees in him a nemesis. Kahlon’s emergence is in Netanyahu’s view but an accident, an escapade that will end, one way or another, with his return home to the Likud.
Kahlon, too, at this stage, does not want a showdown with Netanyahu because he is eager to impact first the lives of middleincome households by increasing their available income. Consequently, the budget the two men are now bringing to the Knesset reflects an impressive effort to reconcile this pair’s different, and sometimes contradictory, interests and views.
In line with its political rationale, the twoyear budget the Knesset will soon debate will be good for the Netanyahu-Kahlon marriage of convenience. What remains to be seen is whether it will also be good for everyone else.