In comparison with other plans around the world that are intended to rehabilitate financial markets, the plan that the Israeli government unveiled today is both small in scope - just $2.5 billion - and more modest in its goals. It does not aim to be a wholesale rescue of troubled banks, because there is no need for this, nor a rescue of insolvent financial institutions.
The new Israeli government plan is based on more ordinary measures taken from the toolkit owned by every finance ministry. The government basically assumed the usual role of helping deal with risk by means of commitments and guarantees and to solve market failures, and to give small firms the means to deal with a difficult situation by providing credit.
Ultimately, there is no direct and immediate expenditure, but the granting of state guarantees for bank loans in order to create an incentive to increase credit. The government will provide NIS 5 billion to financing partnerships with pension and provident funds and insurance companies. The government will also provide NIS 6 billion to set up investment funds that will invest in distressed companies.
The Ministry of Finance has already played similar roles in past crises, when the economy needed a large capital injection, and the ministry assumed the role of market solutions facilitator. This happened in the early 1990s when the government assumed the risks of venture capital funds, and when it financed the absorption of the massive Russian immigration. This time, it must be admitted, the effort is unusual, since the government of most industrialized countries do not believe that there is a market solution to the crisis, and have assumed the job of directly boosting demand.
Ministry of Finance officials believe that their plan has another advantage: it gives them time to fend off the politicians clamoring for a safety net. Every last candidate in the party primaries will understand what's going on in a few days or weeks, and during the interim, the capital market may improve and partly correct yields. Until then, it will be possible to discuss the details of the Ministry of Finance plan, present actions, and publish the first tenders for the new investment funds. Some of the budget commitments can be recorded in the 2009 budget, and MKs will be told that if they want an economic stimulus plan and a financial plan, they must approve the budget.
The Ministry of Finance's problem is not with the politicians, but with the banks. Under ordinary circumstances, increasing the banks' capital by NIS 6 billion would increase available credit by NIS 50 billion. But these are not ordinary circumstances, and the banks are liable to use the state guarantees to raise money and simply replace expensive capital with cheap capital.
It should be remembered that in the management of their liquidity, the banks are liable to play a similar trick - take the cheap money provided by the Bank of Israel and charge customers high interest. The question is when will Governor of the Bank of Israel Prof. Stanley Fischer and Minister of Finance Ronnie Bar-On get fed up. In other words, when will they summon the bankers and read them the riot act, telling them exactly what will happen if they do not open the credit spigots in the amount necessary to prevent a slide into a severe recession.
Published by Globes [online], Israel business news - www.globes-online.com - on November 25, 2008
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