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Israel’s next generation will foot the bill for the coronavirus crisis

  • August 12, 2020

How much deficit spending has Israel done to counter the effects of the coronavirus on the economy? And, more importantly, who will pay it back?

No one knows exactly the answer to the first question. The Finance Ministry’s summary report on all the government’s expenditures and commitments amounts to 190 billion shekels ($60 billion). But that number isn’t reliable and, in any case, will grow.

On the one hand, the government has only disbursed part of the funds it has pledged to fight coronavirus. On the other hand, it’s clear the pandemic will be with us for some time. The lockdowns will come and go, and economies in Israeli and abroad will remain in crisis mode. The government will be spending heavily for some time to come.

Israel is contending already with a fiscal hole of historic dimensions. The budget deficit is expected to reach 13% of gross domestic product this year, the second-largest among developed economies, after the United States. Debt will reach 77% of GDP by the end of 2020, an increase of 17 percentage points from 2019, making it the biggest year-to-year increase in the developed world. And that’s only the beginning.

Where will the money come from? By increasing public debt. In the last half year, the treasury has raised tens of millions of shekels by stepping up the size of bond issues both in the domestic market and abroad. It is selling are long term bonds, some for 40 years and in one case for no less than 100 years.

A restaurant is seen closed in Jerusalem, July 17, 2020.

These numbers aren’t exact either, but it’s safe to assume that this year that total borrowing has reached 100 billion shekels – and there is still more to come. And who will pay all this back? Today’s young people.

Raghuram Rajan, a University of Chicago professor and former governor of India’s central bank, says that even huge amounts of debt run up in a crisis can be repaid in theory without setting off a financial crisis, threatening bankruptcy and the need for debt relief (something that has never happened to Israel), but only given three basic conditions.

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The first is that interest rates remain close to zero for several years. The second is that the indebted country’s economy continues to grow rapidly in the post-crisis period. The third is that the government returns to a responsible policy of long-term fiscal restraint.

In the past, for instance after a war, governments were able to repay the debt they had run up because the generations that followed were financially better off than the ones that had preceded them. They could afford to pay the high taxes governments needed to meet the repayments.

Today, that model doesn’t seem realistic for Israel. Investment has been low, labor productivity growth has been stagnant and the population has been aging. There’s virtually no chance that today’s younger generation will be better off than their parents.

But that’s only part of the bad news. The next generation will be even worse off if there are further waves of the coronavirus, if investment on health and education is frozen and/or governments have to spend heavily to cope with the effects of climate change. The young, to put it short, are in trouble. Their parents have left them big debts and without the tools to cope with future pandemics, financial crises and climate change. They will need to pay for those out of their own pockets.

File photo: A person is seen putting on a mask in a undated photo.

For Prof. Rajan, the conclusion is – contrary to what the Israeli government is doing – that governments must stop spending big in order to mitigate the short-term pain of COVID-19 and start planning for the long-term welfare of the young.

In practical terms, it means not compensating everyone for the harm caused them by the coronavirus, such as businesses that don’t have a future in the post-coronavirus economy. It means not giving money to big businesses to take back workers if they aren’t critical for the economy. It’s cheaper to pay unemployment than to subsidize companies whose markets and sales have disappeared.

Prof. Rajan agrees that there are businesses that should be rescued because their potential collapse would delay the economy’s recovery. However, shareholders and bondholders should bear part of the cost by transferring part of their holdings to the public. Putting the entire rescue burden on the public will ultimately come at the cost of the young. El Al Airlines is a good example of that principle since the aid will come only in exchange for shares.

El Al workers protesting outside the Finance Ministry, Jerusalem, May 5, 2020

The government should invest in the young to partly compensate for the debt burden they will be bearing in the future, say Prof. Rojan. That compensation can come in the form of more spending on education, for instance, by investing in remote-learning technology and/or small-group learning in schools.

Prof. Rajan’s recommendations are aimed mainly at the U.S. government, but they apply just as well to Israel. Today, the Israeli government is making one economic policy mistake after another. Prime Minister Benjamin Netanyahu and ?Finance Minister Yisrael Katz seem motivated by politics and short-term thinking. Neither of them is offering anything to the next generations.

Take taxes, for example. The long-term debt that Israel is assuming these days will need to be paid back over the coming decades through higher taxes. But who will pay those taxes?

In Israel, the middle class shoulders most of the burden. Half the public is under the minimum tax threshold while the rich enjoy all kinds of tax shelters. How will the next generation of middle class Israelis be able to cover that higher tax burden?

The logical answer is to raise taxes on the rich, but the treasury hasn’t said a word about this. To the contrary, all the programs that have been announced increase their income – starting from aid to big companies that don’t need the money to billions of shekels of purchases of medical equipment without competitive bidding. The Bank of Israel has bought corporate bonds to lower their borrowing costs. Meanwhile, the government is talking about cutting the minimum wage and employer contributions to national insurance (social security).

There’s nothing new in the idea of raising taxes on the rich. It’s been done in Europe, while leaders like Elizabeth Warren and Bernie Sanders, who both enjoy support from younger voters, have pushed the idea in the United States.

Members of the Organization for Economic Cooperation and Development have signed agreements to step up enforcement of tax rules across borders to prevent the rich from exploiting variable tax rates. There are proposals to tax liquid assets in order to encourage investment in the real economy.

In Israel, whether it’s Netanyahu, Kahol Lavan or Yesh Atid, discussion of raising taxes is taboo. And, if anyone asks, “How are the young going to pay for the debts we’re amassing?” he’s immediately branded a communist whose secret agenda is to turn Israel into Venezuela. Raising taxes, he’ll be told, will discourage businesses from hiring and will hurt the economy now.

And what about our children and grandchildren? The answer is: “We’re in a war right now. We can’t talk about it.”

Article source: https://www.haaretz.com/israel-news/business/.premium-israel-s-next-generation-will-foot-the-bill-for-the-coronavirus-crisis-1.9065434

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