Likud's Pro-Business Plan Is Economic Shift for Israel

As news of Prime Minister Benjamin Netanyahu's victory spread over trading floors here late last month, investor panic ensued and the Israeli benchmark Mishtanim stock index plunged 5 percent.

The equation was easy: Peace had been good to Israel's economy, eroding the Arab boycott, opening up doors to new export markets, and luring a new rush of foreign investors into high-tech industries. The financial community had come out overwhelmingly in favor of then-Prime Minister Shimon Peres and his agenda for Mideast peace.

So when Mr. Netanyahu, the leader of the right-wing Likud Party, won the election with a hard-line stance toward peace talks, markets fell.

But stocks began to bounce back on a new equation: Even as the hawkish new government thrust Israel's peace agreement with the Palestine Liberation Organization into doubt, Netanyahu offered himself as a free-market fan who would deregulate the economy, privatize state-owned businesses, and cut a bloated budget deficit.

His first order of business in forming a government coalition showed some investors that those were more than campaign promises. For one, he appointed Likud moderate Dan Meridor as finance minister, spurning demands for the portfolio by far-right ex-general Ariel Sharon. Mr. Meridor promised to cut spending rather than raise taxes.

Moreover, Mr. Meridor's apparent dislike for entitlement programs and government spending tempered fears that the Netanyahu administration, which promised to expand Jewish settlements in the West Bank and Gaza, would start pouring funds into the controversial projects.

Netanyahu also reappointed respected Bank of Israel governor Jacob Frenkel to another five-year term. Mr. Frenkel, who is credited with fighting inflation with high interest rates, was also made a key player in a new, US-style Council of Economic Advisers.

The government guidelines drawn up last week include plans to sell state-owned land and banks, encourage savings, reduce government intervention, and foster competitive pricing.

Some economists say those moves cannot be underestimated.

"We do not believe that the key question for foreign investors has ever been peace," says Zev Golan, director of the Institute for Advanced Strategic and Political Studies, an economic think tank in Jerusalem. "It's whether the environment is user-friendly and pro-business."

But implementing the changes could be hard in Israel, where socialist roots have kept benefits popular and labor unions strong.

Moreover, Netanyahu and his economic team inherit a balance-of-payments deficit that is forecast to widen to $5 billion this year and need to try to curb annual inflation of 15 percent, up from 8.1 percent last year. With an eye on this goal, the Bank of Israel just moved to raise interest rates 1.5 percentage points. Frenkel says the government must also cut spending by about 5 billion shekels ($1.53 billion) in the next 18 months to bring the budget deficit nearer a target of 2.5 percent of Israel's economic output.

So far Netanyahu, educated at the Massachusetts Institute of Technology in Cambridge, has market analysts feeling more optimistic than they expected. Hanna Pri-Zan, vice president of Bank HaPoalim, says that for foreign investors, Israeli companies will remain good buys.

She says stock prices in Israel "are very low. Most of the stocks are traded on average below book value. It's a good opportunity for medium- and long-term investors."

But if Netanyahu interprets Israel's agreements with the PLO as he wishes - and refuses negotiation on the status of East Jerusalem and the Golan Heights - investor interest in the region could wane.

A breakdown in relations and a return to the violence of the 1987-93 Palestinian intifadah (uprising) would make Israel again seem a risky enterprise. Nascent Israeli-Arab business ventures could lose steam, though ties between Jordan and Israel have probably come too far to dissolve altogether.

The message that emanated from the recent Arab Summit in Cairo, convened in reaction to Netanyahu's victory, included the caveat that a stray from the "land-for-peace" formula would force Arabs nations to reconsider their new economic links with Israel.

Though some analysts predict slower economic growth under Netanyahu, most trade experts say the demand for sophisticated Israeli exports will sustain any setbacks in the peace process. Markets that have opened to Israel in the past few years - including China, India, Eastern Europe, and some of Asia's Muslim countries - have shown a hunger for Israeli telecommunications equipment, techno-gadgets, and software that is unlikely to subside for political reasons.

Some firms, such as Aladdin Knowledge Systems Ltd. in Tel Aviv, do up to 90 percent of their antipiracy software business overseas. Chief executive Yanki Margolit does not see the peace boon being tempered much, if at all. He says, "We get plenty of new customers all the time."