Israel's internal concern - a dangling economy

The most pressing problem confronting Israel today is not the imminent threat of an Arab attack but the potential collapse of its own economy. The former can't be entirely discounted, particularly in the context of a massive Syrian military buildup that makes a future Syrian attack conceivable, even in the absence of Egypt's return to the Arab military front against Israel. But the latter is a disturbingly real possibility.

Israel is in the throes of its most serious economic crisis since the establishment of the state 36 years ago. The balance-of-payments deficit reached billion this year. It has been financed not by the sale of government bonds, as in the United States, but by the government's printing presses. In August alone, Israel printed more than $433 million worth of shekels. In proportional terms, this is the equivalent of a $75 billion increase in the monthly money supply in the US.

Israel's monetization policy has been the principal factor causing inflation to reach an annual rate in excess of 400 percent this year. The resulting inflationary environment has undermined business confidence and is a major disincentive to new investment. Another consequence has been the devastating decline of Israel's currency, the shekel, which is devalued daily against the dollar.

Israel's foreign debt, now $24 billion, has also become a cause for concern. While Israel continues to service both its public and private debts, its foreign-exchange reserves have declined from a level sufficient to cover at least three months' worth of imports to a level barely sufficient to cover two months' worth. If present trends continue, Israel faces the prospect of running out of foreign exchange by the end of this year.

A number of factors have caused the present crisis. Ironically, the sacrifices that Israel has made in the peace process with Egypt, including the return of the Sinai oil fields, have exacerbated Israel's balance-of-payments difficulties. The massive Arab military buildup financed by petro-dollars since the 1973 war has forced Israel to incur billions of dollars of foreign debt by importing expensive US arms needed to preserve its regional military superiority. Furthermore, precisely at a time when Israel's capacity to service foreign debts has diminished, the grace period on the sizable US loans provided after the 1973 war are expiring. Finally, misguided Israeli economic policies, including the encouragement of the importation of luxury consumer goods over the past few years, have increased the deficit and siphoned off badly needed foreign exchange.

Fortunately, the magnitude of the current crisis has forged a consensus among the Labor and Likud parties that a series of far-reaching and painful austerity measures has to be undertaken in the very near future. In the first days in power, the new national-unity government has taken some encouraging first steps to deal with the economic crisis, including cutting the budget by $1 billion and devaluing the shekel by 9 percent. Additional measures, however, will be necessary. Among the steps being considered are:

* Further slashing of government expenditures by at least $500 million to $1 billion. Allocating these cuts will pose very difficult economic, political, military, and ideological choices for Israel. But unless the new government is able to make cuts of at least this magnitude, most Israeli economists would agree that the country's fundamental economic problems will not be solved.

The budget cuts will almost certainly include the elimination or reduction of subsidies on basic commodities and fuel. And any program to reduce the budget deficit will probably have to include some cuts in defense spending. To the extent that the new government can honor its commitment to rapidly withdraw Israeli forces from southern Lebanon, as much as several hundred million dollars can be saved.

* Increasing tax revenues, either by imposing additional taxes or by more efficient collection of existing taxes.

* Imposing a temporary wage-and-price freeze to break the current inflationary spiral. The pervasive system of indexation, which only serves to perpetuate inflation, will have to be abolished or sharply cut back.

* Reducing imports, particularly of cars and luxury goods.

The immediate consequences for Israel of such an austerity program will be great. Unemployment will rise, and the standard of living will decline. Immigration to Israel may well diminish and emigration from Israel increase. But such consequences are inevitable. The only question is whether they occur as a result of planned policies or from an unmanaged financial collapse, the scope of which can neither be predicted nor necessarily controlled. If there is a collapse, a depression would be virtually inevitable. In the former case, the pain of austerity, although substantial, could be minimized and directed in a fashion that would facilitate the resumption of long-term growth rates.

In addition to the steps that Israel must take to put its own economic house in order, there is also an important role for the US to play. Israel simply can't resolve its economic problems by itself without making such draconian cuts as to jeopardize the very security of the state. Some increase in US aid above and beyond what we are already providing - probably an increase of between $700 million and $1 billion - will be a vital component of an Israeli recovery. Such an increase will ensure that Israel does not run out of foreign exchange, thereby bringing the economy to an abrupt halt before the austerity program takes effect.

A clear statement by the US government of its willingness to increase significantly its assistance on an emergency basis, in the context of a comprehensive Israeli austerity plan, would greatly facilitate the difficult decisions that lie ahead. Additional aid from the US and a strong and sweeping austerity program in Israel are linked both substantively and politically. From a substantive viewpoint, the problem can't be solved unless Israel takes firm measures of its own. But it also can't be solved unless the US is prepared to extend additional help. Politically, the Congress would probably be willing to provide additional assistance, as long as Israel is prepared to undertake a genuine austerity program. But Israeli leaders are unlikely to be able to impose such a program unless they know that additional US assistance will be forthcoming.

We must recognize the fact that, despite our own budgetary difficulties in the US, the provision of additional aid is very much in our own interests. The economic collapse of Israel would have very serious consequences for both our countries. The likelihood of another Arab-Israeli conflict, and the prospects for a dangerous superpower confrontation, would certainly be much greater if the Arab states ever came to believe that economic difficulties were forcing Israel to cut back on defense, thereby making it vulnerable. Similarly, if Israel appeared to be on the verge of social disintegration as a result of a financial collapse, the Arabs would have little incentive to pursue a peaceful resolution of the conflict.

A strong Israel - both economically and militarily - is thus a prerequisite for any further progress in the peace process. In view of the United States' overriding interest in a peaceful resolution of the Arab-Israeli dispute, as well as our enormous historical, moral, political, economic, and strategic stake in Israel's survival, we should generously support Israel as it undergoes this difficut period of austerity.