Israel: A Resilient Global Economy

"Israel’s economy has weathered extremely difficult periods in the past, even when government debt was more burdensome and the balance of payments more fragile... The government’s ample access to credit is a crucial underpinning for the country’s high ratings given its susceptibility to shocks." - Moody's

Strong fundamentals confront the global economic slowdown

The world's three largest rating agencies, Moody's, Fitch, and Standard & Poor’s, in a vote of confidence in the Israeli economy, maintained a high credit rating for Israel at a time when the economy's resilience was put to the test by both global financial pressures resulting from the credit crisis and geopolitical conflict. While Israel is not immune to the effects of the global credit crunch, as its main trading partners have been hit by the crisis, the country's sound macroeconomic fundamentals and strict fiscal policy have served as a buffer to dampen the impact of financial wobbles.

As a consequence of the macro-economic strategy that Israel had adopted during the last two decades, together with the relatively conservative approach that was undertaken by the Israeli banking sector and the regulation carried out by the supervisor of banks, the Israeli economy is relatively well prepared to confront the challenges of the global crisis, including the prospects for economic slowdown. 

The Israeli policy of removing barriers to trade in goods and to open capital movements has served the economy extremely well.  Israel is committed to openness as a strategic approach, while recognizing the importance of financial sector regulation.  The adoption of this strategy contributed significantly to Israel's economic growth and its increased economic efficiency.   

Measures aimed to boost the economy

Nevertheless, the global crisis has begun to affect the Israeli market as well. To help safeguard the economy, Israel’s Ministry of Finance, Ministry of Industry, Trade and Labor and the central bank have implemented special initiatives including a creation of a pension safety net, an acceleration program, and a monetary program to help increase liquidity, create new jobs, protect private savings and promote continuous growth in Israel.

The pension safety net, which is designed to compensate some market losses by pension funds for savers near retirement age, aims to protect a savings framework whose total worth was estimated at about 100 billion shekels (~$ 25b), as of November 2008. The acceleration program comprises a package of economic measures designed to boost activity in the economy through the allocation of funds to infrastructure, research & development, the credit sector and the labor market. In addition, the program also addresses the market failure present in the credit sector, using existing funds and creating new credit funds with an emphasis on small and medium-size businesses that have fewer resources available to deal with the credit crunch. All the said activities are expected to increase the supply of credit for these businesses by some 2.5 billion shekels (~$625 million).

To help the economy deal with the effects of the global crisis in the interim, the Bank of Israel in late February lowered the key lending rate by an additional 25 basis points to a new record low of 0.75%. Since October, 2008, the central bank has slashed lending rates by a cumulative 3.50% in seven consecutive rate reductions. The rate cuts, which are meant to support the economy by lowering the cost of credit and thereby contribute to financial stability and partially offset the downward pressure on prices, were in line with what central banks globally have done with their interest rates. It is expected that the Bank of Israel will lower borrowing costs further. As the Israeli market is heavily dependent on revenues from exports, the expansionary monetary policy has also served to stabilize the shekel relative to many of the globally weaker currencies to assist the competitiveness of Israeli products internationally.

To help underpin the economy, the Bank of Israel has also increased the level of foreign exchange reserves since March 2008 by purchasing about $100 million per business day. As of January 2009 the central bank had bought a total of approximately $10 billion, increasing their reserves to about $37 billion. The central bank believes that the appropriate level of the reserves lies between $40 billion and $44 billion, and plans to continue the program pending an adjustment in market conditions.

Outstanding Economic Performance

Though Israel is a small country with limited resources, it stands out as one of the world's most competitive economies.  In fact, The World Economic Forum (WEF) ranked Israel as the 23^rd most competitive economy (out of 134) in its 2008-2009 Global Competitive Index.

The country's market economy can be characterized as resilient, globally oriented and technologically advanced.  Over the last two decades, Israel has become famous for its high-tech capacity, particularly in telecommunications, information technology, electronics and life sciences.  Its capacity for innovation coupled with a highly-educated, skilled workforce have played a key role in its rating as a high-tech center second only to Silicon Valley in California and Route 128 in the Boston area.

Despite ongoing geopolitical challenges, the Israeli economy continued to grow steadily in 2008. Gross domestic product grew 4.1 percent to about $168 billion at current prices, representing a continuation of the sustainable growth seen over the last few years: the Israeli economy has grown 5 percent annually on average since 2005. In purchasing-power-parity (PPP) terms, Israel's GDP per capita, which has averaged around $30,000 for the past couple of years, has been on par with members of the Organization for Economic Cooperation and Development (OECD), which is comprised of the world's top 30 industrialized nations.

In fact, over the past 20 years, the country – with a population of only 7 million – has ranked as one of the world's five fastest growing emerging markets.

Responsible fiscal and monetary policies have accompanied reforms that have liberalized the economy, accelerated the process of privatization and made the economy more competitive.  Israel is in the accession process to the OECD

The effectiveness of its fiscal and monetary policy is reflected in the Israeli economy's performance. Gross Public Debt as a percentage of GDP contracted from 102% in 2003 to 78.9% in 2008, while unemployment declined and price stability was maintained.

The growth has been fueled by a steady increase in exports and foreign investment.  Foreigners continue to show their recognition of Israel's economic potential by increasing their investments in the country. Foreign direct investment in Israel was close to $10 billion in both 2008 and 2007, after reaching a record $14 billion in 2006.

In recent months the effects of ongoing financial turmoil globally have led to a slowdown in real economic activity. Though national account’s data for the last quarter of 2008 show negative growth at an annual rate of 0.5 percent, the Israeli economy has so far managed to withstand international financial pressures better than many of its peers and is forecast to crawl back into positive territory by next year.

Israel's Economic Indicators

Sources: The Ministry of Finance (2008), International Monetary Fund (2007)

Exports Lead the Way

Exports are the engine that drives the Israeli economy. The share of industrial exports in 2008 grew to 78.5%, while the high-tech sector accounted for 43% of all industrial exports, positioning Israel as one of the most technologically oriented markets in the world. 

Exports in the last quarter of 2008 declined by 13%, or 43.6% annually, weighed down by the effects of the credit crisis, but continued to be supported by an extensive network of international trade and economic agreements, and treaties for the avoidance of double taxation.  Israel is integrated into the global economy through free trade area agreements with the NAFTA countries (the U.S., Canada and Mexico), the European Union, EFTA, Jordan and Turkey. It also cooperates with neighboring Egypt and Jordan through US-sponsored Qualified Industrial Zone (QIZ) agreements, giving co-produced goods preferential access to U.S. markets; a similar arrangement of accumulation of origin also exists with the EU and is already operational with Jordan.

In its constant effort to expand its network of trade cooperation through bilateral agreements, Israel has also signed a free trade agreement with the Mercosur countries (Argentina, Brazil, Paraguay and Uruguay). In addition, Israel has developed an extensive network of technical cooperation, through R&D accords with many countries.

The way out of the crisis: An Ecosystem of Support

Through government agencies like the Office of the Chief Scientist at the Ministry of Industry, Trade and Labor, a network of technology incubators for very-early-stage technologies and an active and alert private venture capital system, Israel provides extensive support for new ideas and technologies, and assists the refinement and further development of more traditional industries. Israel invests strongly in R&D, where its investment of 4.8% of GDP is one of the highest in the world. The investor-friendly environment is enhanced by government policies including lower tax rates and investment benefits. 

It's hard to ignore the important role of Israel's venture capital industry, which the World Economic Forum has ranked second in the world after the U.S. Venture capital continues to pump a steady stream of essential financial resources into the technology sector by channeling its funds and knowledge into early-stage companies.

This ecosystem of support has fostered what has become the world's highest percentage of high-tech production relative to GDP, and the second highest concentration of high-tech companies, after California's Silicon Valley. The fact that Israel is the foreign country with the most companies listed on NASDAQ, the main stock exchange for technology companies, is testimony to its high-tech prowess.

The Investors Keep Coming

In recent years, Israel has become a magnet for foreign investors.  The list of those who have taken advantage of Israel's uniquely skilled, and highly educated workforce and cutting-edge R&D capabilities by establishing subsidiaries, production lines or R&D centers include top international companies like Intel, Microsoft, Motorola, Google, Applied Materials, HP, Deutsche Telekom,  Samsung among others. Given Israel's emphasis on innovative technologies and research, Israeli companies continue to attract foreign investors. Despite the global credit crisis multinational concerns continue to invest in Israeli expertise. Global demand for breakthrough technologies in the field of life sciences is expected to be less affected by the slowdown, due to the long R&D processes required in this field, and the culmination of patent licenses for some popular medicines in upcoming years. Hence, analysts expect the Israeli sector to be largely safeguarded from financial pressures. During the first two months of 2009 alone, three Israeli companies in the fields of life sciences were acquired. Medtronic bought Ventor Technologies for $325 million, Johnson & Johnson bought Omrix for $438 million and St. Jude acquired Haifa’s Mediguide for $300 million.

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