Israel: Staff Concluding Statement of the 2018 Article IV Mission
IMF News, March 14, 2018
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- Published: March 14, 2018
Economic developments and outlook
- Israel’s economy grew 3.4 percent in 2017 on the back of robust domestic demand and higher global growth.
- Unemployment fell below 4 percent in early 2018.
- Broad-based wage growth averaged 3.3 percent in 2017.
- Core CPI inflation was 0.5 percent in January.
- Near-term growth is expected to remain strong at about 3.5 percent in the next few years.
- With trend productivity gains relatively modest at ¾ percent annually, growth is projected to average about 3 percent in subsequent years.
- Demographic shifts and infrastructure constraints present long-term risks:
- Subgroups (Haredim and Israeli-Arabs) share of working age population: one‑quarter in 2015; one‑third by 2025; two‑fifths by 2045.
- Cross-country benchmarks suggest an infrastructure gap on the order of 20 percent of GDP, with traffic congestion the most prominent issue.
Monetary policy
- Current assessment:
- Domestic and international conditions are supportive of an increase in inflation, but significant uncertainty remains around the timing.
- Competitive pressures and relatively high Israeli price levels could keep inflation lower for some time.
- Recommended stance:
- Monetary policy should remain accommodative pending a durable rise in inflation and inflation expectations.
- Tightening should wait until inflation is clearly heading back to target, with the pace of eventual rate hikes being data driven.
- Exchange rate flexibility should remain the first line of defense in the event of external shocks; foreign exchange intervention should be limited to addressing disorderly market conditions.
Financial sector and housing policies
- Financial sector findings:
- Israel’s banking system is healthy yet highly concentrated.
- Ongoing measures to strengthen competition include “one click” bank account mobility, facilitating price comparisons, establishing a credit register, lowering minimum capital requirements for insurance companies, divesting two credit card companies, and reducing bank entry costs through access to IT services.
- Sources of credit are shifting, making it urgent to approve legislation to establish the Financial Stability Committee.
- Entry by new banks is welcome provided there are appropriate deposit insurance and resolution arrangements.
- The adoption of Solvency II by the Capital Markets, Insurance and Savings Authority is welcome.
- Regulators should harmonize regulations in areas of overlapping activity, safeguard operational independence, and coordinate on technological risk management to facilitate Fintech development.
- Housing market findings:
- Housing price increases slowed to just 2 percent y/y.
- Dwelling investment declined during 2017 and falling housing starts indicate a further decline in 2018.
- Housing policy recommendations:
- Land supply, competition, and regulation:
- Increase auctions of land to avoid availability constraints.
- Reduce construction costs and time by streamlining building regulations and expanding foreign construction company access.
- Municipal incentives:
- Raise residential property taxes coupled with predictable central government support for up-front infrastructure and public service costs.
- Expand commutable areas and increase urban density:
- Develop public transportation and establish metropolitan authorities.
- Increase urban renewal and use fast-track approvals for mixed‑use developments.
Fiscal policy and infrastructure
- 2017 fiscal outcomes:
- Central government deficit limited to 2 percent of GDP due to one-off revenues.
- General government debt declined to 61 percent of GDP.
- Underlying deficit was 2.9 percent of GDP.
- 2018–19 budgets:
- Deficit target for 2018 remains at 2.9 percent of GDP.
- Proposed 2019 budget target is raised to 2.9 percent of GDP.
- Adhering to a 2.5 percent of GDP deficit target would reduce the general government deficit to around 3 percent of GDP.
- Infrastructure strategy and priorities:
- A government committee is developing an integrated long-term national infrastructure strategy until 2030 and preparing a list of projects for the next five years.
- Immediate priority: improve utilization of existing infrastructure through demand management tools (ride sharing, car‑pooling, high occupancy vehicle lanes, “Going Green” pilot, charging for road use at peak hours coupled with flexible working arrangements).
- Framework improvements recommended for infrastructure investment:
- Establish a body with clear accountability and sufficient powers for upgrading Israel’s infrastructure, staffed with technical expertise.
- Make project evaluation and selection more rigorous and transparent, ensuring consistency with the long-term strategy.
- Streamline zoning and permitting processes and address bureaucratic impediments.
- Improve coordination between ministries and between central and local governments; consider broadening medium‑term fiscal framework coverage to the general government.
- Phase any scaling up of public investment judiciously to avoid waste.
- Use PPPs only where private sector know-how improves efficiency; design and monitor PPPs carefully.
- Maintain high transparency around the level and composition of investment.
- Fiscal financing guidance:
- If public investment is increased, preserve adequate fiscal buffers; any increase in public debt should be modest and temporary.
- Liabilities from PPPs should be managed carefully and reported in line with international best practices.
- Revenues should be the main source of non-debt financing; reducing tax benefits (which total 5 percent of GDP) should be a focus.
Structural reforms and social inclusion
- Labor market and poverty findings:
- Wage gaps (relative to non-Haredi Jewish men):
- Non-Haredi Jewish women: about one-fifth lower.
- Haredi: about one-third lower.
- Israeli-Arabs: about half.
- Employment rates:
- Haredi men: 47 percent.
- Arab women: 35 percent.
- Narrowing gaps in employment and hourly wages by half (leaving the proportion of part-time workers unchanged) could raise output by almost 14 percent.
- Education and vocational training recommendations:
- Education:
- Increase effectiveness of schools through higher standards for teachers, covering core subjects at all grades in Haredi schools, improving Hebrew teaching in Arab schools, and extending the short school day.
- Consider subsidizing voluntary participation in after‑school educational programs where school reform is not feasible.
- Vocational training:
- Ensure courses meet business needs and evaluate course quality.
- Facilitate participation by Haredi and Israeli-Arabs and provide training‑related cost support for low wage workers.
- Career centers should guide the unemployed to suitable training, including business-oriented Hebrew.
- Policies to raise participation:
- Expand childcare support, especially for younger children, to raise labor participation and work hours of women.
- Continue increases in the retirement age for women without introducing new incentives for early retirement.
- Expand resources for active labor market programs from their current level of 0.2 percent of GDP.
- Enhance public transportation and enable workplaces to locate near communities where relevant for participation gains.
- Business environment and regulatory reform:
- Continue product market reforms (personal imports, electricity sector reforms) and replace trade barriers on agricultural products with targeted subsidies.
- Reduce bureaucracy and compliance costs; implement “one-stop shop” for regulatory assessment and robust regulatory impact assessments for new regulations.
- Improve court efficiency and consider a specialized court for complex antitrust cases.
- Poverty reduction and redistribution:
- Expand the Earned Income Tax Credit (EITC):
- Israel’s EITC current fiscal cost is 0.16 percent of GDP annually.
- By comparison, EITC costs are 0.4–0.5 percent of GDP in the U.S. or the U.K.
- Implement the EITC more effectively by allowing more frequent and timely payments and streamlining administration to improve take-up.
- Make transfers more targeted: modify the transfer system that currently gives similar shekel amounts to all households (including the top income decile) to reduce poverty at less fiscal cost.
- Use resources released from better targeting to expand the EITC and fund transfers conditional on additional education and training.
- Review modest welfare support for those unable to work.
Immediate priorities and institutional actions
- Demand management is the immediate priority while planning for higher-quality public investment over time.
- Strengthen the fiscal framework for managing public investment and preserve fiscal buffers.
- Approve the Financial Stability Committee urgently to avoid oversight gaps amid increasing financial sector competition.
- Continue operationalizing a risk-focused supervisory approach in banking supervision and harmonize regulation across financial regulators.
IMF staff concluding statement of the 2018 Article IV mission to Israel (March 14, 2018).