Israel’s political deal may unlock two-year wait for new budget

United Arab List party leader Mansour Abbas, Yamina party leader Naftali Bennett and Yesh Atid party leader Yair Lapid, sit together in Ramat Gan, near Tel Aviv, Israel June 2, 2021. United Arab List Raam/Handout via REUTERS

JERUSALEM, June 3 (Reuters) - The possibility of new government in Israel has fuelled optimism that a long overdue state budget could be on the horizon.

Handcuffed by more than two years of political stalemate and four elections, Israel is still using a pro-rated version of a base 2019 budget that was ratified in mid-2018.

But a group of left-wing, centrist and right-wing parties looking to unseat Prime Minister Benjamin Netanyahu reached a coalition deal just before Wednesday's midnight deadline. A government could be sworn in next week, though Netanyahu is still working to scuttle the deal. read more

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"The main agenda for this government is economic recovery," said Jonathan Katz, chief economist at Leader Capital Markets, citing incentives for the ultra-Orthodox to join the work force and reforms to stimulate growth.

Formulating a budget for 2021 and 2022 is expected to be among the first orders of business to help Israel's economy rebound from the pandemic.

Avigdor Lieberman, a proponent of free markets and reduced spending who heads the far-right Yisrael Beitenu party, has been tapped as a potential finance minister tasked with returning Israel to fiscal responsibility.

Amid very large stimulus spending to combat the impact of the coronavirus outbreak, Israel's public debt burden jumped to 72.4% of economic output in 2020 from an all-time low of 60% in 2019. Moody's Investors Service expects that to reach 80% by 2024.

The ratings agency, like its peers, had been patient with Israel's political instability given its good public finances. But Moody's warned last month that "extended political instability is credit negative."

Standard & Poor's said that despite the turmoil, Israel has mostly longer-term, locally held debt.

"It’s a debt profile that many countries would wish to have," Maxim Rybnikov, director of sovereign ratings at S&P, told Reuters. "Despite higher public debt levels following the pandemic, the structure of debt remains very favourable, which mitigates the risks."

A key issue in any budget will be reversing a pre-crisis structural deficit by spending more efficiently while raising some taxes, according to former Bank of Israel Governor Karnit Flug.

Flug, now vice president of the Israel Democracy Institute, advocates eliminating some tax exemptions while raising carbon emissions and inheritance taxes. She also favors boosting infrastructure spending and reducing state bureaucracy and regulations.

Rather than raise taxes, economist Dan Ben-David believes the government needs to go after the nearly 300 billion shekels ($92 billion) in the so-called shadow economy which he says is a result of a lack of proper tax reporting and enforcement.

At the same time, Netanyahu and current finance minister Israel Katz "were just showering money like we were living on a goldmine and we don't have other things that we need to spend money on," said Ben-David, who is president of the Shoresh Institution for Socioeconomic Research.

As a consequence, three senior finance ministry officials -- the director general, accountant general and budget director -- stepped down last year.

The Bank of Israel, which has criticised some of the government's spending, has yet to comment on the political deal.

Central bank governor Amir Yaron told Reuters last month that without a budget Israel will continue to fall further behind other countries in education and other areas.

"I see it very important that whatever government is formed, it is a stable government," Yaron said. "Time is money, and because of the long and protracted political process, we are losing time in terms of putting these reforms in place."

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Reporting by Steven Scheer; Editing by Mike Harrison

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