Top OECD Official: Israel Must do more to Integrate Arabs and ultra-Orthodox into the Economy

Anyone who read the Economic Survey of Israel that the OECD published about three months ago might have been briefly intoxicated by the many compliments it showered on Israel. The report found that the country’s economy is strong and praised its high growth rate, low unemployment, and low debt-to-GDP ratio. The Finance Minister, Moshe Kahlon, lost no time in announcing that this was “another international testimony to the stability and strength of the Israeli economy.”

Later in the report, though, the OECD pointed to a series of failures, difficulties, and dangers that are looming for the Israeli economy: the high level of poverty, the social disparities, the lack of social cohesion, a failing education system, infrastructure problems, a lack of competitiveness and low labor productivity, road congestion, and air pollution.

According to the Survey, “Israeli society suffers from major divisions that threaten its good fiscal results in the long term. Israel suffers from substantial income inequality and a high poverty rate. The labor market is characterized by severe polarization. At one end are the high-tech industries with high-quality jobs and on the other end are low productivity jobs with low wages. This reflects substantial dispersion in skills, which is the highest among all OECD countries. The poor skills in Israel are a serious matter that must not be ignored.”

In an interview with TheMarker, Dr. Peter Jarrett, the head of the Country Studies Division at the OECD, said that Israel’s outstanding economic performance will not be sustained in the long term unless it undertakes a series of reforms, beginning with a reform of the education system.

The Canadian-born Jarrett, who has a doctorate from Harvard, has been at the OECD for more than 30 years. The division he heads conducts surveys of Israel and other countries, including Canada, France, Hungary, Poland, Switzerland, New Zealand, Slovakia, Slovenia, and Indonesia.

Jarrett will be in Israel to take part in the Eli Hurvitz Conference on Economy and Society (formerly the Caesarea Conference), which will open on June 19, under the heading “Two Economies—One Society.” This year’s conference will focus on the labor market of the future, the education system, and Israel’s national economic strategy.

When the OECD looks at Israel’s situation, what is the greatest problem you identify?

“The Israeli economy is growing at a stable rate, but the growth is not trickling down to all sectors of the population, and this fact creates great and increasing tension. In recent years the government in Israel has been trying to integrate the Ultra-Orthodox and the Arabs into the labor market, with some success. It understands that their share of the population will increase greatly in the future. We estimate that by 2060 the Ultra-Orthodox and the Arabs will constitute half the country’s population, so it is essential to integrate them into the work force and give them the tools and skills that will make it possible for them to do so. Without appropriate skills, most of them will be impoverished laborers and will not be able to escape a life of poverty.

“You have to increase the incentives to work, for example by means of a negative income tax—but even that won’t help in the long term if you don’t make a significant investment in education and implement reforms that will make it possible for these groups to acquire the appropriate skills for finding jobs.”

The education budget in Israel has been increased by billions of sheqels in recent years. Isn’t that enough?

“Israel needs to continue increasing its education budgets, even though the government has already increased the budget significantly. We think there is room for additional investment. If you plan and implement a suitable reform in education it will bear fruit and also will help a larger number of skilled Ultra-Orthodox and Arab workers find their place in the job market. You also have to introduce changes in the curricula of the Ultra-Orthodox schools, in order to make sure that every Israeli acquires the skills needed for the labor market in the 21st century.”

It seems that our education minister does not want to force major changes on Ultra-Orthodox education. He believes that the Ultra-Orthodox will be able to acquire the skills and advanced education appropriate to the labor market through a natural process and voluntarily.

“I think that’s a dangerous strategy. You’re in a race against the clock. It’s obvious to everyone that the returns that a quality education system makes to society are not immediate. Even if you manage to provide an excellent education to a sector that needs it, the resulting benefit to you and to society will not arrive for at least a decade. How long will you wait? Until they discover the advantages of higher education? That might not happen for another ten years, and in the meantime you will lose many young people to the lifestyle their parents lead, one of poverty and a paucity of material resources, even if many of them are happy and willing to continue to live that way.”

Jarrett mentions the report’s recommendations concerning the core curriculum for the Ultra-Orthodox sector—that Israel should provide suitable infrastructure for training Ultra-Orthodox teachers, write appropriate textbooks and curricula, and use budgets to incentivize schools that are willing to teach the core subjects.

“You have to make sure that the Ultra-Orthodox and the other lagging groups receive an excellent education from the very best teachers, who themselves receive a salary higher than the average, and place the accent on measuring the outcomes. You have to demonstrate that Israeli society is willing to invest and do everything required to reinforce the skills of the weakest elements of society and make them the strongest—both among the Ultra-Orthodox and in other sectors.”

Our prime minister said, a few days ago, “If you leave out the Arab and the Ultra-Orthodox our situation is excellent.”

“I assume that from the statistical perspective he’s right—but that’s not something I would boast about. It’s rather stupid. We don’t sanctify economic growth only, but comprehensive and sustainable growth. Growth that doesn’t reach the entire population and that isn’t sustainable may enable you to succeed in the short time. But for how long exactly? And what will happen to you when growth is checked? Countries that lack the conditions for outstanding growth decline into political extremism. Extremists have already gained control of several OECD countries. In the case of poor growth in a country where the regime is not really democratic, there is a danger that it will become totalitarian. You can see signs of this in Poland, Hungary, and Turkey. You have to be concerned for all communities and sectors.”

The poverty rate in Israel is the highest in the OECD. Perhaps this really is linked to the Ultra-Orthodox and the Arabs?

“Even though more than half of the Arabs and Ultra-Orthodox in Israel are poor, the poverty rate is high among other sectors in the country, too. Poverty is a general problem in Israel and there are many Israelis who live in poverty.

“This problem stems from the low level of skills, but the idea is not to be satisfied just with excellent education in the schools; you also have to develop a system for learning throughout life and on the job. In high-tech, too, skills lose their value quickly. If you finished your studies in some high-tech field in 2018, the skills you acquired will serve you for ten years—and after that you will have to update them. So it’s necessary to encourage people and companies to bridge the skill gaps that exist in Israel by means of tax benefits or subsidies for professional studies and training.”

Is Israel liable to lose its status as the “start-up nation”?

“If you want to preserve the advantages of high-tech industry, you need your human capital to be educated—but in Israel that’s not the case. The skills tests we conducted showed that the skills of the Ultra-Orthodox older than 40 are similar to those of their non-Ultra-Orthodox peers, while the younger Ultra-Orthodox lag behind. The conclusion is that the disparities of knowledge and skills between the Ultra-Orthodox and the secular are a relatively new phenomenon. Foreign high-tech entrepreneurs and the managers of large international companies are aware of these problems in Israel and investigate the possibility of recruiting workers in Israel as compared to other countries. In other words, it is quite possible that in the future they will simply decide to invest in other places.”

What most impressed you in Israel?

“Everyone agrees that Israel is the “start-up nation,” and this is very impressive. Even though it’s a small country, you have many examples of successful companies and projects. Sometimes the production stage is moved to another country, but part of the wealth created stays in Israel. Still, I think that what is even more impressive is your great success in the field of water technology. There are many countries in the world that have to deal with droughts and water-supply problems—and you have been able to do much better work in this area, and at a lower cost.”

A Peace Agreement would Fire up the Israeli Economy

Does the OECD track the influence of the BDS movement on the Israeli economy?

“When we draw up our economic forecasts we map all the threats to the Israeli economy in the short and mid term, and for now we are relating to BDS as only a secondary threat.”

You mention in the reports that a deterioration in the security situation will harm the Israeli economy. How do you relate to the possibility of peace or progress towards a political agreement?

“A political agreement with the Palestinians would have a huge effect on the Israeli economy. Such an agreement would stimulate the Israeli economy and ultimately increase the average income as well. It would make it possible for you to realize the country’s potential as a tourist attraction for members of all religions, and firms in that sector would experience a significant increase in demand. Your currency would be stronger and you would be able to purchase and import goods for less. I think that such an agreement would also increase foreign investment in Israel and make Israelis among the leaders in the standard of living and per capita income among the OECD countries.”

Should we increase the government budget or try to maintain a low level of debt?

“We think that Israel needs to continue to reduce its debt gradually; it can do this cautiously with a larger budget. It’s possible to increase civilian outlays by increasing state tax revenues if you expand the tax base, impose value-added tax on fruits and vegetables, and cancel the tax benefits in Eilat. We also propose increasing environmental taxation [such as a tax on fuel, coal, and polluting emissions].

“You are also lagging behind in the realm of infrastructure, and this creates a major problem, because of how much time people waste when they’re stuck in traffic jams. It also has a general negative impact on the quality of life in Israel.”

What about public transportation?

“That is one of the most important things that Israel needs to deal with. You have to offer people alternatives to the private car. We sent the government many ideas about public transportation and infrastructure and laid special emphasis on the investment needed in Arab localities. If Arabs can’t reach places where there are jobs, because they don’t have buses, they cannot join the labor force.”

The prime minister claims that where we see traffic jams he see interchanges, trains, and bridges.

“You are paving lots of roads—but also importing many cars. Israel imports thousands of cars every month, and you are already the country with the highest number of motor vehicles per kilometer among all countries in the OECD. Until 20 or 30 years ago, most Israelis had only one car, the majority didn’t have to travel very far every day, and many Israelis didn’t have a car at all. Today, a huge percentage of Israeli families have two cars, and both spouses drive them dozens of kilometers very morning just to get to work.”

Boasting that if you leave out the Arabs and the Ultra-Orthodox, your situation is excellent—that is simply foolish. You are in a race against the clock

It’s Hard to Work in a Government of Six Parties

The Israeli government has a low capacity for getting things done. Do you think there is a problem of governance in Israel?

“The Knesset has more parties in it than in the parliaments of most of the countries in the OECD. In other countries they also manage with a coalition of two or three parties, but in Israel you had to bring six parties into the government so it would be stable. There may be Israelis from some sectors who are happy that they are represented in the government—but clearly this makes governing difficult. This is one of the reasons why the Finance Ministry has such broad powers. I imagine that if the Finance Ministry were weaker, the various ministers would always be trying to gain control of the purse and it would be very difficult to stay within the budget.”

In your opinion, what causes the low labor productivity in Israel?

“When we talk about low productivity, we look first of all at the education system. If you can raise the skills level of graduates of the education system and establish an excellent system of vocational training courses, labor productivity will increase. Still, you also have to look at the level of competition in the markets, because that is a key factor in the productivity issue. We conducted a deep study of competitiveness in Israel and found that in some markets there is no competition whatsoever. Obviously electric power is the most problematic market in this respect. [In its report the OECD also noted the lack of competition in aviation and the food industry.]

“This leads to the problem of the high cost of living in Israel. In the present situation you will not be able to increase productivity. You mustn’t let company executives sit back and relax. You have to make things difficult for companies that don’t try to compete, reduce prices, and innovate.”

The cost of living in Israel is extremely high, despite all sorts of measures taken by the government.

“That’s true. It’s important to note also that Israel has a comprehensive system that protects the agricultural sector, and this may be a price you are willing to pay so as not to have to depend on food imports. Another factor that influences the cost of living is the kosher-supervision system. When we compared the prices of kosher products in Israel to kosher food in the United States, Canada, and Britain, we found that the added cost of kashrut in Israel is higher than it is abroad. You have to encourage competition among several groups of kashrut supervisors in order to lower the price of food products. In addition, a large contributor to the high cost of living in Israel remains the nature of the distribution mechanisms and various rules and regulations that raise the prices of products to the consumer.”

Despite the inequality, traffic congestion, and failings in education—in all of the OECD surveys Israelis report great satisfaction with life and with the government. How do you explain this?

“I assume that many people remember that in the not-too-distant past the situation was much more difficult and are eternally grateful that their living conditions have improved. Perhaps, too, the Ultra-Orthodox are happy as long as they are left to study Torah as they wish.”

What OECD country is the closest parallel to Israel?

“I think Israel resembles the countries of Eastern Europe, such as Hungary, Poland, and the Czech Republic, which have to cope with similar challenges and which also started from an inferior position. Israel didn’t begin developing a modern economy until the 1980s, after the hyperinflation crisis, and those countries, too, began to grow around the same time, when their Communist regimes crumbled. They also have groups that face difficulties, are underprivileged, or depend on welfare, who live in separate communities, and their economies, too, are largely based on trade. In addition, average growth in these countries is very rapid, as it is in Israel—but they also are investing huge resource sin their education systems and trying to close the gaps quickly. On the other hand, they don’t have to deal with the political problems that Israel does.”

Both the poverty rate and fertility rate are higher in Israel than in those countries. Is this good or bad?

“No OECD country has a fertility rate approaching Israel’s. I believe that as long as the country can provide an excellent education and provide the public with a cadre of outstanding and appropriately paid teachers, a high fertility rate is actually an advantage. Especially when compared to countries like Japan, where the population is shrinking. We call this the ‘demographic dividend’—a situation in which the share of the population of working age is larger than that of children and the elderly.

“Israel has another advantage, which stems from its small size and its population density: if a scholar at the Hebrew University wants to collaborate with a scholar from Tel Aviv it’s easy for them to get together, because they are only an hour’s travel from each other. In my home country, Canada, the distances are vast and make such cooperation more difficult.”

So everything begins and ends with education?

“If you don’t invest in your education system, what has been your advantage until now will become a disadvantage and lead you to failure. Only if you are able to maintain a good education system here will you be able to enjoy the best of all worlds.”

The article was first published in Hebrew in The Marker.