Budget dilemmas

Lapid has no intention of making enemies. He also wants to be seen in the eyes of his perspective constituents as someone who took steps to lower housing prices.

Yair Lapid
Clashes between Finance Minister Yair Lapid and Prime Minister Binyamin Netanyahu over the 2015 budget give one a sense of déjà vu. Politicians face the same perennial fiscal dilemmas: What size budget deficit endangers Israel’s financial standing? To what extent can health, welfare, and education be compromised for the sake of defense? Can taxes be raised without dampening the economy? And just as the dilemmas are familiar, so too is the political jockeying. As in past years, political considerations, not cold-calculated economic reasoning, will determine budgetary priorities.
A cornerstone of Lapid’s economic policy, articulated repeatedly in the news media, is to stand by his promise not to raise taxes. He also is pushing forward his 0% VAT reform for lowering real estate prices, which is expected to cost NIS 3b. a year in lost tax revenues. Lapid has said that he would quit the government before agreeing to a tax hike or doing away with the real estate reform.
Lapid’s reasoning is simple: tax hikes are unpopular.
Lapid has no intention of making enemies. He also wants to be seen in the eyes of his perspective constituents as someone who took steps to lower housing prices.
And by refusing to budge on either of these issues, he also presents an image of a politician with resolve who does not back down.
Netanyahu, meanwhile, has focused primarily on defense issues such the Iranian nuclear threat, Islamic State, and Hamas aggression. He knows that focusing on these issues enables him to emphasize his strongest attributes.
He is still traumatized by his stint as finance minister under Ariel Sharon. Despite his success in bailing out the economy, his popularity suffered terribly due to the painful cuts he oversaw.
Netanyahu has stated on numerous occasions that he intends to acquiesce to the demands of Defense Minister Moshe Ya’alon. Operation Protective Edge alone cost about NIS 9b. And in the wake of the fighting in Gaza, the Defense Ministry has reached the conclusion that another NIS 8b. to NIS 10b. will be needed over the next five years to prepare for future military challenges.
For both Lapid and Netanyahu to get their way, the budget deficit must be raised. This is the easiest solution from a political perspective. Neither Netanyahu nor Lapid would have to suffer an embarrassing retreat from their respective positions. And neither seems interested in breaking up the government coalition over budget disagreements. Netanyahu would be forced to bring into the coalition haredi parties – Shas and United Torah Judaism – which would have their own budgetary demands and would be more unruly than Yesh Atid’s 19 well behaved MKs.
Lapid, meanwhile, is probably not enthusiastic about exiling himself to the political wilderness of the opposition.
His popularity level is already low. Preparing for elections as an opposition party would put him at a disadvantage. The credit he would get for being willing to leave the government rather than raise taxes would be limited. And his 0% VAT program to fight housing prices has already been widely discredited.
But taking the easy way out and agreeing on a larger budget deficit carries with it many risks. Both Lapid and Netanyahu understand this. A lack of fiscal discipline leads the three big credit rating agencies Standards & Poor, Moody’s, and Fitch Group to lower Israel’s credit rating. The higher lending costs for the State of Israel that would result could stagnate growth.
There are already signs that Israel’s economy is slowing down. Exports have been hurt by the economic slowdown in Europe and Asia. A strong shekel is also pushing exports down by making Israeli products less competitively priced.
Also, the deteriorating geopolitical situation has had a negative impact on investments by both Israelis and foreigners. Finally, private consumption, which was already low in the first half of the year before Operation Protective Edge, has probably dropped even further.
If in a normal year Israel could absorb an eminently political solution to the budget dilemma, this year is different. There is a real danger that irresponsible fiscal policy will hurt the economy. Lapid and Netanyahu should put aside their narrow political considerations and do what is good for the nation’s economy.