All this coincided with a decline in net immigration. New immigrants have always been a key source of Israel’s economic vitality. There had been a net gain of nearly one hundred thousand new Israelis between 1972 and 1973. But the number was down to fourteen thousand in 1974 and almost zero in 1975.
What made recovery especially unlikely—if not impossible—was the government’s monopoly of the capital market. As the Bank of Israel itself described it at the time, “The government’s involvement transcends anything that is known in politically free countries.” The government set the terms and interest rate for every loan and debt instrument for consumer and business credit. Commercial banks and pensions were forced to use most of their deposits to purchase nonnegotiable government bonds or to finance private-sector loans for projects that had been earmarked by the government.16
This was the condition of Israel’s economy during what is often described by economists as Israel’s “lost decade,” from the mid-1970s through the mid-1980s. Today, Intel’s decision to search for scarce engineers in Israel seems like an obvious move. But the Israel that Intel found in 1974 was nothing like what it is today. While it may no longer have resembled an expanse of sand, swamps, and malaria, visitors during the 1970s might have been excused for thinking they had landed in a third-world country.
Israeli universities and Israel’s engineering talent were by this time fairly advanced, but much of the country’s infrastructure was antiquated. The airport was small, quaint, and shabby. It had a Soviet-style utilitarian feel as one arrived and entered immigration. There was no major road that could pass for a real highway. Television reception was shoddy, but it hardly mattered since there was only a single government-owned station broadcasting in Hebrew, along with a couple of Arabic channels that, with a powerful enough antenna, one could pick up from Jordan or Lebanon.
Not everyone had a telephone at home, and not because they all had cell phones, which didn’t exist yet. The reason was that phone lines were still being slowly rationed out by a government ministry, and it took a long time to get one. Supermarkets, unlike the small food marts common in neighborhoods, were a novelty, and they did not carry many international products. Major international retail chains were nonexistent. If you needed something from abroad, you had to go yourself, or ask a visitor to bring it back for you. High customs duties—many of them protectionist attempts to coddle local producers—made most imports prohibitively expensive.
The cars on the road were a bland bunch—some produced in Israel (these became the butt of jokes, much like locally produced Russian cars did in Russia) and a motley assortment of the cheapest models of mostly Subaru and Citroën, the two companies brave or desperate enough to defy the Arab boycott. The banking system and the government’s financial regulations were as antiquated as the auto industry. It was illegal to change dollars anywhere except at banks, which charged government-set exchange rates. Even holding an overseas bank account was illegal.
The overall mood was dour. The euphoria that had come with the stunning 1967 victory—which some likened to first receiving a death-row pardon and then winning the lottery—quickly dissipated after the 1973 Yom Kippur War and was replaced with a renewed sense of insecurity, isolation, and, perhaps worst of all, tragic blunder. The mighty Israeli army had been utterly surprised and badly bloodied. It was scarce consolation that, in military terms, Israel had won the war. Israelis felt that their political and military leadership had badly failed them.
A public commission of inquiry was appointed; this led to the removal of the IDF’s chief of staff, its chief of intelligence, and other senior security officials. Though the commission exonerated her, Prime Minister Golda Meir took responsibility for what was seen as a fiasco and resigned a month after the release of the commission’s report. But her successor, Yitzhak Rabin, was forced to resign from his first stint as prime minister when, in 1977, it was revealed that his wife had a foreign bank account.
As late as the early 1980s, Israel also suffered from hyperinflation: going to the supermarket meant spending thousands of almost worthless shekels. Inflation rose from 13 percent in 1971 to 111 percent in 1979. Some of this was due to rising oil prices at this time. But Israeli inflation continued to skyrocket beyond other countries’, rising to 133 percent in 1980 and to 445 percent in 1984, and appeared to be on its way to a four-digit figure within a year or two.17
People would hoard phone tokens, since their value didn’t change as their price rose sharply, and would rush to buy basic items in advance of expected price hikes. According to a joke of that time, it was better to take a taxi from Tel Aviv to Jerusalem than a bus, since you could pay the taxi at the end of the ride, when the shekel would be worth less.
A main reason for the hyperinflation was, ironically, one of the measures the government had taken for years to cope with inflation: indexing. Most of the economy—wages, prices, rents—were linked to the Consumer Price Index, a measure of inflation. Indexing seemed to protect the public from feeling the effects of inflation, since their incomes rose with their expenses. But indexing ultimately fed an inflationary spiral.
Path to Recovery?
In this context, it is especially striking that Intel set up shop in Israel in the 1970s. An even greater mystery, however, is how Israel transformed itself from this somewhat provincial and isolated state to a thriving and technologically sophisticated country three decades later. Today, visitors to Israel arrive in an airport that is often far more slickly modern than the one they departed from. Unlimited numbers of new phone lines can be set up with only a few hours’ notice, BlackBerrys never lose reception, and wireless Internet is as close as the nearest coffee shop. Wireless access is so abundant that during the 2006 Lebanon war, Israelis were busy comparing what kind of Internet service worked best in their bomb shelters. Israelis have more cell phones per capita than anywhere else in the world. Most kids above the age of ten have a cell phone, as well as a computer in their bedroom. The streets are full of late-model cars, ranging from Hummers to European Smart cars that take up less than half of a scarce parking spot.
“Looking for a few good programmers?” CNNMoney.com recently asked in a feature listing Tel Aviv among the “best places to do business in the wired world.” “So are IBM, Intel, Texas Instruments, and other tech giants, which have flocked to Israel for its tech savvy. . . . The best place to close a deal is at Yoezer Wine Bar, with its extensive selection of varietals and deliciously doused beef bourguignon.”18 In 1990, though, there wasn’t a single chain of coffee shops, and probably not a single wine bar, decent sushi restaurant, McDonald’s, Ikea, or major foreign fashion outlet in all of Israel. The first Israeli McDonald’s opened in 1993, three years after the chain’s largest restaurant opened in Moscow, and twenty-two years after the first McDonald’s in Sydney, Australia. Now McDonald’s has approximately 150 restaurants in Israel, about twice as many per capita as there are in Spain, Italy, or South Korea.19
The second-phase turnaround began after 1990. Up to that point, the economy had a limited capacity to capitalize on the entrepreneurial talent that the culture and the military had inculcated. And further stifling the private sector was the extended period of hyperinflation, which was not addressed until 1985, when then finance minister Shimon Peres led a stabilization plan developed by U.S. Secretary of State George Shultz and IMF economist Stanley Fischer. The plan dramatically cut public debt, limited spending, began privatizations, and reformed the government’s role in the capital markets. But this didn’t yet generate for Israel a private and dynamic entrepreneurial economy.