Karnit Flug opposes tax cuts

Moshe Kahlon, Karnit Flug  photo: Uriah Tadmor
Moshe Kahlon, Karnit Flug photo: Uriah Tadmor

The Bank of Israel Governor said surplus tax revenues should be used to increase growth potential by investing in infrastructures and education.

The economy put in an impressive performance in 2016, with substantial growth in individuals' incomes, but the government failed to adequately address the main problems and challenges of the Israel economy, a Bank of Israel report states.

Among Israel's strategic challenges mentioned by the Bank of Israel is the low productivity of Israeli labor, a high degree of income inequality, poor education among large population groups, and the substandard state of transportation infrastructure.

The report also criticized the planned tax cuts. According to the report, this measure incurs the risk that at a low point in the business cycle, or when the market boom ends, when tax revenues fall, the government is liable to find itself obliged to cut spending or raise taxes in order to restrain the rise in the budget deficit. The report adds that this will have an even greater negative impact on economic activity at a time when it should have the option of adopting an expansionary fiscal policy, According to the Bank of Israel, experience in recent years shows that there are years, such as 2009 and 2012, in which tax revenues are substantially lower than the forecasts.

Responding to a question by "Globes" about her views on the plan by Prime Minister Benjamin Netanyahu and Minister of Finance Moshe Kahlon to use surplus tax revenues to cut income and other taxes, Governor of the Bank of Israel Karnit Flug said, "We obviously do not want to cut taxes permanently because of higher tax revenues resulting from one-time events, such as the Mobileye(NYSE: MBLY) acquisitions and auto imports."

Flug said she preferred the government to increase growth potential by investing in infrastructures and education. 

2016 will be remembered as one of the economy's best years, with growth, employment, and household income growing at a higher-than-average rate or reaching an all-time high.

The economy grew by 4% in 2016, faster than the 3.5% average annual growth in 2009-2015. One of the main reasons was the strong shekel, which lowered the prices of imported goods, especially cars, and bolstered private consumption, accompanied by some improvement in competition. The Bank of Israel was referring, among other things to online purchases, which are revolutionizing consumption patterns among Israeli consumers. The report said that the change in the behavior of Israeli consumers resulted from greater awareness of and exposure to online shopping on local and international websites. The report pointed out that the Internet was making it possible to look for products, compare prices, and buy products in a relatively short time, usually at prices lower than those offered by local chains. Furthermore, overseas purchases of up to $75 are exempt from VAT, and purchases of up to $500 are exempt from customs duties. The Bank of Israel says that the result is increased competition with local chains.

The Bank of Israel report also cited negative inflation in 2016, with the Consumer Price Index falling 0.2% during the year, putting inflation no less than 1.7% below the average in Israel's trading partners. The Bank of Israel's economists considered at length the question of why prices in Israel continue to fall when economic growth is strong, wages are rising, employment is at a peak, and housing prices continue to climb. Their explanation is that most of Israel's imports of products and raw materials come from euro bloc countries, and the prices of these items in shekels fell this year for the second straight year, both because of the strong shekel and because of the composition of the goods that Israel imports. The report says that the economy benefited from the depreciation of the euro over the past two year. Another possible factor mentioned was the growing competitive pressure on local companies, which pushed the Consumer Price Index down by 0.6%.

The average wage in Israel rose 2.9% in 2016, the same rise as in 2015. The bottom line for salaried employees is even better: the fall in the relative cost of private consumption, combined with the rise in nominal wages, boosted the disposable income of Israeli households by 6%.

This situation, however, was small consolation for home buyers, whose plight continued to worsen. Housing prices continued their rampage in 2016 with a 6.3% jump. In its annual report, the Bank of Israel reiterated Flug's statement that the tax on a third housing unit might bring housing prices down in the short term, but would also raise rents, because some of it would be rolled over onto the renters.

The report stressed the need to substantially increase the volume of new housing construction, especially in central Israel, following the forecast population increase in the next two decades, while noting that the 2040 strategic housing plan recently approved by the government was a step in the right direction in handling the problem.

Published by Globes [online], Israel Business News - www.globes-online.com - on March 29, 2017

© Copyright of Globes Publisher Itonut (1983) Ltd. 2017

Moshe Kahlon, Karnit Flug  photo: Uriah Tadmor
Moshe Kahlon, Karnit Flug photo: Uriah Tadmor
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