VZCZCXRO5781
RR RUEHROV
DE RUEHTV #1099/01 1351806
ZNR UUUUU ZZH
R 151806Z MAY 09
FM AMEMBASSY TEL AVIV
TO RUEHC/SECSTATE WASHDC 1850
INFO RUEHXK/ARAB ISRAELI COLLECTIVE
RHEHNSC/NSC WASHDC
RUEATRS/DEPT OF TREASURY WASHDC

UNCLAS SECTION 01 OF 04 TEL AVIV 001099 
 
SENSITIVE 
SIPDIS 
 
 
NEA/IPA FOR GOLDBERGER, FRELICH; EEB/IFD FOR JACOBY; TREASURY FOR 
BALIN 
 
E.O. 12958: N/A 
TAGS: ECON EFIN PGOV ELAB IS
SUBJECT: UNION CHIEF UP, BUDGET CHIEF OUT, AS CABINET BUSTS BUDGET 
FRAMEWORK 
 
------- 
Summary 
------- 
 
¶1. (SBU) On May 13, about fifteen minutes after the cabinet voted 
26-4 in favor of the proposed 2009-2010 budget, Ministry of Finance 
Budget Director Ram Belinkov resigned, citing what he felt was 
inappropriate handling of the budget process.  Belinkov strongly 
objected to the profound and highly unusual involvement of the Head 
of the Histadrut Labor Federation Ofer Eini in the budget 
negotiations, at the expense of the MOF's involvement in the 
"package deal" that was agreed upon.  The PM also had to deal with a 
last-minute rebellion from Yisrael Beiteinu and the Likud's Gideon 
Sa'ar, the Education Minister and a close associate of PM Netanyahu, 
who opposed cuts in the education budget.  Both voted in favor in 
return for some last minute concessions.  Only the four Shas 
ministers voted against the budget, unwilling to accept extension of 
the value-added tax (VAT) to fruits and vegetables.  In a nod toward 
the budget framework, the annual expenditure increases for both 2009 
and 2010 are defined in the budget as 1.7 percent plus an additional 
temporary 1.35 percent -- an effective rate of 3.05 percent.  The 
figure is supposed to return to 1.7 percent in 2011.  End summary. 
 
--------------------- 
Eini Up, Belinkov Out 
--------------------- 
 
¶2. (SBU) Belinkov, a fiscal conservative closely aligned with the 
previous Finance Minister Roni Bar-On, objected to the deep 
involvement of Histadrut Labor Federation Head Ofer Eini in the 
negotiations and the marginalization of the Ministry of Finance 
professional echelon.  In return for supporting the budget, Eini 
secured numerous non-financial changes to labor and employment laws, 
many of which are designed to make it easier for unions to organize. 
 Belinkov also opposed the decision to increase year-to-year 
expenditures by more than the 1.7 percent rate under Israel's 
debt-reduction framework. 
 
----------------------- 
Budget Framework Busted 
----------------------- 
 
¶3. (U) The original budget proposal, approved by the cabinet on May 
3, included expenditure increases of 1.7 percent in both 2009 and 
2010, and projected budget deficits of 6 percent of GDP in 2009 (NIS 
44.8 billion, USD 11.2 billion) and 5.5 percent of GDP in 2010 (NIS 
41.6 billion, USD 10.4 billion)   In order to meet these targets, 
the GOI needed to make expenditure cuts of about NIS 14 billion (USD 
3.5 billion).  According to the budget which was approved on May 13, 
the expenditure increases will temporarily rise by 1.35 percent 
above the 1.7 percent figure for both 2009 and 2010, implying an 
effective annual increase of about 3.05 percent in both years.  The 
expenditure increase is supposed to return to 1.7 percent in 2011. 
 
¶4. (U) The deficit targets of 6 percent of GDP and 5.5 percent of 
GDP in 2009 and 2010, respectively, were maintained in the final 
version.  However, according to numerous commentators, the 
government may not be able to meet these targets, and the deficits 
may end up exceeding them by up to 0.5 percent.  (Note: The Ministry 
of Finance (MOF) did not issue revised data for the projected 
expenditures and deficits under the May 13 budget proposal.  It only 
restated the original deficit targets from the May 3 proposal.  End 
note).  According to press reports, in 2009 and 2010 respectively, 
the defense budget will be NIS 46.5 billion (USD 11.6 billion) and 
NIS 48.5 billion (USD 12.1 billion), the education budget NIS 30.9 
billion (USD 7.7 billion) and NIS 32 billion (USD 8 billion), and 
the health budget NIS 16.4 billion (USD 4.1 billion) and NIS 18 
billion (USD 4.5 billion).  The Chief Scientist's office will 
receive NIS 1.8 billion (USD 450 million) each year to encourage 
investment. 
 
--------------------------------------- 
Small Defense Cut Secures Barak Support 
--------------------------------------- 
 
¶5. (SBU) After having opposed the earlier version presented on May 
3, the Labor Party ministers voted in favor of the revised proposal. 
 Despite the widespread view that there is much "fat" in the defense 
establishment, the Prime Minister agreed to reduce the proposed cut 
in the defense budget from NIS 3 billion (USD 750 million) to NIS 
1.5 billion (USD 375 million), which cemented the support of Labor 
Party leader and Defense Minister Barak.  Press reports indicate 
that the defense establishment is slated to receive an additional 
NIS 750 million (USD 188 million) in 2011 to compensate for the 
earlier cut.  In addition the Labor Party also strongly resisted a 
 
TEL AVIV 00001099  002 OF 004 
 
 
long list of austerity measures proposed by the MOF to keep 
expenditure growth within the 1.7 percent budget framework.  Those 
measures included reductions in allowances to numerous vulnerable 
sectors including Holocaust survivors, children, and the chronically 
ill.  Publication of this list elicited a huge outcry from 
politicians and the press, which resulted in the PM backing away 
from it and the MOF having to withdraw most of the proposed cuts. 
Once that happened and the PM agreed to allow the budget to increase 
beyond the 1.7 percent framework, the Labor Party agreed to support 
the new proposal. 
 
------------------------ 
Last Minute Negotiations 
------------------------ 
 
¶6. (SBU) Minister of Education Gideon Sa'ar, a Likud stalwart and 
close associate of PM Netanyahu, also voted in favor when he not 
only succeeded in blocking a cut, but secured an increase of NIS 350 
million (USD 87.5 million) for his ministry.  Foreign Minister 
Avigdor Lieberman's Israel Beitenu ministers also opposed the budget 
until the last minute when the Ministries of Tourism and Internal 
Security had their budgets increased.  While acknowledging that the 
dropping of the social austerity measures was a significant 
achievement, Shas still voted against the budget primarily due to 
the imposition of value added taxes (VAT) on fruits and vegetables, 
which it claimed was a regressive measure which will harm the most 
vulnerable. 
 
---------------------------- 
Potential Revenue Generators 
---------------------------- 
 
¶7.  (U) According to the MOF and press reports, the following 
measures are among those expected to offset the expenditure 
increases: 
 
- a 1 percent VAT increase to 16.5 percent starting from July 1, 
2009 to December 31, 2010.  It is estimated that this will provide 
additional revenues of NIS 4 billion (USD 1 billion); 
 
- imposition of the VAT on fruits and vegetables -- exempt until now 
-- until the end of 2010.  The rate will be the 16.5 percent, as on 
all other products up from the present 15.5 percent.  It is 
estimated that this will provide additional revenues of NIS 1.8 
billion (USD 450 million); 
 
- across the board "flat" cuts in ministry budgets of between 6 and 
6.5 percent, with each ministry negotiating separately with the MOF 
to determine a final figure.  Globes business newspaper estimates 
that this will save NIS 3.2 billion (USD 800 million) through the 
end of 2010; 
 
- an increase in National Insurance Institute payments for those 
earning between NIS 38,000 and NIS 61,000 a month (USD 
9,500-15,200), providing about NIS 1.5 billion (USD 375 million) in 
savings for the period; 
 
- increased taxes on cigarettes, alcohol, and gas will provide NIS 
1.4 billion (USD 350 million); 
 
- a special "luxury" tax on SUVs, land cruisers and jeeps expected 
to raise about NIS 400 million (USD 100 million); 
 
- and collection of about NIS 6 billion (USD 1.5 billion) a year by 
tightening up tax collection procedures and increasing anti-fraud 
measures. 
 
---------------------------- 
No Public Sector Wage Freeze 
---------------------------- 
 
¶8. (U) While it had been much discussed, the final package deal did 
not include a freeze in public sector wages that would have saved an 
estimated NIS 4 billion (USD 1 billion).  However, Histadrut 
Chairman Eini agreed to a cut in a supplemental public sector wage 
benefit, at a savings of NIS 2 billion (USD 500 million).  In 
praising the Histadrut's cooperation during this budget process, 
Prime Minister Netanyahu said in a press briefing on May 13 that 
this NIS 2 billion Histadrut concession matched the amount the 
Histadrut agreed to concede at the height of the recession in 2003, 
but without any labor disruptions. 
 
--------------------------- 
No Delay in Planned Tax Cut 
--------------------------- 
 
TEL AVIV 00001099  003 OF 004 
 
 
 
¶9. (U) Another potential source of revenues which had been widely 
suggested as a means of financing the increase in expenditures was a 
delay or cancellation of the previously-planned two percent 
reduction in income tax rates in 2010.  Many economists recommended 
this as a far better way to increase revenues to the government than 
the imposition of VAT on fruits and vegetables - a "regressive" 
measure directly and negatively affecting the poor. 
 
------------------------------- 
Increase Taxes, Not the Deficit 
------------------------------- 
 
¶10. (U) Vered Dar, Chief Strategist of Psagot Investment House, told 
the Globes business newspaper on the eve of the budget vote that tax 
increases would be preferable to an increased deficit, as far as the 
capital markets are concerned, a view also expressed in several 
interviews by Bank of Israel Governor Stanley Fischer.  Dar was 
particularly opposed to increasing the VAT, saying that the tax 
burden on items other than income is very high in Israel compared to 
that in other western countries.  Both she and Fischer commented 
prior to the budget vote that a freeze in the planned income tax 
reduction would have been preferable.  However, according to 
commentators, PM Netanyahu insisted on retaining the scheduled tax 
cut as a symbol of his continued strong belief in the efficacy of 
reducing income taxes as a means to spur economic growth - just as 
he maintains happened when he pushed through large tax cuts as 
Finance Minister in 2003. 
 
------------------------------ 
Zigzagging Damages Credibility 
------------------------------ 
 
¶11. (U) Dr. Michael Sarel, formerly the Senior Economist at the MOF 
worked closely with Netanyahu when he was Finance Minister and now 
Chief Economist at Harel Finance and Insurance, also said in a 
comment to Globes that the inability of the government to keep 
within the 1.7 percent expenditure increase framework, originally 
approved less than two weeks ago, is not a positive development for 
the Israeli economy.  He said that by changing its May 3 decision so 
drastically, the government is "not broadcasting a message of 
credibility," which will create further problems for the economy. 
While not in favor of increasing taxes, Sarel sees such a move as 
less problematic in the present situation than increasing the 
deficit. 
 
------- 
Comment 
------- 
 
¶12. (SBU) It was only a matter of time before the 1.7 percent 
expenditure framework was going to be breached.  The Olmert 
government was strongly criticized for maintaining it when it first 
submitted a draft 2009 budget.  The general view was that in light 
of the global financial crisis, the sharp drop in tax revenues, and 
growing unemployment, the government had no choice but to 
demonstrate more flexibility on increasing spending. 
 
¶13. (SBU) Criticism of the government focused on the budget process 
as much as the substance, and the somewhat tone deaf attempt by the 
government to push through a large, deeply unpopular package of 
austerity.  Finance Ministry officials and some political 
commentators criticized the major role of the Histadrut's Ofer Eini 
in the formulation of the final budget proposal, at the expense of 
the professional echelon in the MOF.  Changes that may yet occur 
when the government submits the budget to the Knesset in mid-June, 
the ruffled feelings in the MOF and the resignation of the budget 
chief aside, the Prime Minister's involvement of Eini has bought him 
a period of labor peace and the buy-in of the business community, 
major assets in troubled economic times. 
 
¶14. (SBU) However, the demonstrated power of Eini represents a 
potential long-term threat to the stability of the coalition, as he 
has demonstrated his strength within the Labor Party, key to the 
stability of the coalition.  With its negative vote on the budget, 
Shas has also made it clear that its support for the coalition 
cannot be taken for granted.  It is also not clear that measures 
such as the imposition of the VAT on fruits and vegetables will 
survive Knesset scrutiny, which could put further pressure on the 
coalition to find other money-saving measures.  As Israel's debt and 
interest payments rise and its currency comes under increased 
pressure in the longer term, Netanyahu will find it increasingly 
difficult to maneuver between what he considers sensible economic 
policy and the need to maintain a stable coalition. 
 
 
TEL AVIV 00001099  004 OF 004 
 
 
 
CUNNINGHAM