We need to rethink the citizen wealth fund – opinion

The politicization caused delays that made the fund miss its launch date because tax revenues from the natural gas projects hadn’t reached the trigger of NIS 1b.

By GLENN YAGO
Illustrative photo of Israeli money (photo credit: MARC ISRAEL SELLEM)
Illustrative photo of Israeli money
(photo credit: MARC ISRAEL SELLEM)
Quietly over the past two months, MK Avi Dichter and the oversight committee on levies on gas and oil profits have been excavating what went wrong and how to fix Israel’s efforts to form its first sovereign wealth fund.
I was invited to address the special committee because in 2011 we presented our findings, at the request of the National Economic Council and in conjunction with the Bank of Israel and the Finance Ministry, on design, asset management, governance and monitoring criteria for the fund. Our report was widely discussed in the financial press and in subsequent working teams and Knesset hearings, which eventually led to the passage of the Israeli Citizens’ Fund (ICF) Law of 2014.
The concern at the time was to create a capital base chiefly derived from an anticipated revenue windfall from natural gas, oil and other mineral revenues. The fund would shield the shekel from too-rapid appreciation caused by sudden inflow of foreign currency from gas exports, which would raise prices at home and “crowd out” other competitive exports – namely Israel’s hi-tech export industry, the goose that laid our golden egg – and cripple the most important driver of our tech growth economy: our knowledge capital born of investments in human capital.
To prevent this, the Bank of Israel has been buying up foreign currency for years. In just the seven years, the bank bought more than $16 billion to offset the effects of gas production on the shekel exchange rates and stabilize exports. Had the ICF launched on time, those costs could have been avoided, especially if the Israel sovereign wealth fund had been capitalized both with gas revenues and growing foreign exchange reserves (now over $147b.).
Today we stand by our conviction that an independently managed, well-governed citizen’s fund will build long-term savings and investment, and that once it achieves benchmark returns, it can direct its financial returns to specific policy objectives.
Yet here we stand in 2020, trying to figure out why the fund hasn’t launched, and how to unravel the litany of regulatory and export policy missteps and foot-dragging, market volatility, inconclusive elections and unstable coalitions that turned “gas wealth” into a contentious political football that deterred investors and further strategic economic development.
The politicization caused delays that made the fund miss its launch date because tax revenues from the natural gas projects hadn’t reached the trigger of NIS 1b. Alas, Israel proved it too can’t refrain from missing an opportunity – this one being the once-in-a-century chance to create a permanent capital fund for its people.
The Bank of Israel now says the fund could launch at the end of 2021. This is great news because it also means we can use this interval to rethink its capitalization and strengthen its framework. Israel needs a sovereign wealth fund for the future, not just for preserving wealth, but building it. Our recommendations in 2011 remain the best answers for the fund’s capitalization, structure, and management – and much has changed since then that makes those recommendations even more relevant.
The Tax Authority reports that estimated inflows to the fund could be as high as $12b-$13.4b. by 2030 (and accumulate to $60b. by 2064). There could be additional sums from the Dead Sea Works subsidiary of Israel Chemicals and other natural resource development. Based on average annual nominal SWF return rates over the past decade, it is reasonable to expect the ICF to bring in 5%–7% annual net returns.
Even though gas prices have dropped significantly, the most conservative estimates still amount to enormous sums the fund could generate – without raising taxes or increasing budgets. It could very likely reach at least $14b.-$24b. on a compounded basis by 2030, a substantial lever to expand growth, stability and job and income creation to bridge the social and economic gaps that are unraveling the social cohesion that built this nation.
When we published our report, “Structuring Israel’s Sovereign Investment Fund: Financing the Nation’s Future in 2011,” there were 56 sovereign wealth funds; now there are 122. And they have evolved through the decades since their first appearance half a century ago. Sovereign wealth funds worldwide, including in the most advanced economies, are turning to non-commodity revenue sources for their capital base. Forty percent of all new SWFs over the past decade have formed around non-commodity sources of funding.
Most recently, SWFs in Japan, France, Ireland, Italy, Singapore, Morocco and the UAE have combined traditional sources of capitalization, i.e., their foreign exchange reserves and commodity wealth, with alternative income sources, such as dedicated taxes, immigrant investor programs, revenues or asset transfers from state-owned enterprise restructuring, diaspora bonds, IP rents and funds raised in international capital markets.
And with COVID-19, SWFs are, so far, leveraging their funds to shape post-pandemic recovery – not locking in low valuations as they did in the last global crisis. Recent investments favor technology, telecom, infrastructure, renewable energy and healthcare – sectors Israel has already targeted for national investment and in which the fund could co-invest with other SWFs. Singapore’s Temasek and Australia’s Future Fund finance research to accelerate COVID-19 vaccine initiatives.
Other SWFs seek out buying opportunities in depressed asset prices. Saudi Arabia’s Public Investment Fund has put $2b. toward an amalgamation of new acquisitions. By June 2020, SWFs had poured $17b. into venture capital funds or technology and health technology start-ups.
Sovereign wealth funds have matured into self-subsidizing wholesale finance facilities (fund of funds) that invest domestically and with developing-market partners beyond their borders, including other large financial institutions and government agencies.
As Israel, too, moves past COVID-19, we continue to develop new natural resource deposits (in Karish North, for example, and elsewhere in the Eastern Mediterranean) and negotiate pipeline delivery, it is more important to rethink the ICF framework. A more diversified capital framework will allow us to reboot lagging productivity, long held down by non-tradable and protected industries and expand into new markets.
The fund’s returns could target universal basic income, or individual long-term savings programs, educational and health services, and support for start-ups and small and medium-sized enterprises, again, without raising taxes or budget commitments. The returns will help Israel and its new trade partners in developing markets to achieve UN sustainable development goal investments in beta sites, projects and companies.
Given the tectonic shifts in the global trade and Israel’s status as the world leader in disruptive technology, the fund has the inside track if it wants to join with global institutional investor partners. Long-term investments across asset classes in infrastructure (water, energy, transportation and telecommunications), global health, food and agriculture and cybersecurity will drive aggregate growth, with over $12 trillion of business opportunities.
If the fund applies Israel’s hi-tech advantage to export these kinds of investments, we will be sharing our capacity-building skills with markets in dire need of them. We’ll increase their productivity and our own. After all, the best way to share wealth is to grow it together.
Just as natural gas is a transition fuel to a renewable, low-carbon economy by mid-century, so too is the ICF an investment facility catalyzing Israel’s transition from a start-up to a global nation, shaping more regenerative and inclusive markets.
As the Israeli Citizens’ Fund wealth grows, we’ll offset the potential negative impacts of currency appreciation with these diverse investments, and accelerate Israel’s technology transfer and applications in rapidly developing new markets in Africa, Asia and Latin America and throughout the Eastern Mediterranean and Middle East.
The writer is senior director at the Milken Innovation Center-Jerusalem Institute for Policy Research and its Blum Lab for Developing Economies, and teaches at the Hebrew University of Jerusalem School of Business.


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