ECONOMIC MINISTRIES

The economic ministries - Industry and Trade, Tourism, Agriculture and Science, work to promote durable growth in the various branches of the economy, in two main ways:

1. Promoting and advancing structural and sectoral reforms, in order to strengthen the market and increase competition, mainly by removal of administrative barriers and eliminating bottlenecks.
2. Managing the business sector subsidy budget, earmarked in particular for participation in specific risks imposed on the business companies.

In 1998 the budget will focus on the following:

3. Conversion of the grants accorded in pursuance of the Encouragement of Capital Investments Law to alternative projects, most of which focus on development areas.
4. Budgetary cutback pursuant to government decisions to reduce the budget deficit.

Trends

The 1998 budget was prepared in the context of the continuing economic recession which manifests itself in slow growth, increased unemployment, relative reduction of imports, stabilization of private consumption and decrease in investments. At the same time, the slump brought about considerable improvement in the commercial deficit, principally due to the reduction of imports, but also because of increased exports.

Investments in the economic sectors decreased in 1998, due to the influences of the recession and the sizable investments made in previous years. These investments reduced the need for further investments, since the economy adapted the capital inputs to the large growth in the labor force.

The 1998 budget incorporates cutbacks required for meeting the deficit reduction target, ands steps for increased efficiency and intelligent use of the government resources allocated to the economic sectors.

Industry

The main trends in industry are a slower growth rate and transition from traditional industry to advanced industry, mainly as a result of the process of exposure.

Economic growth in high-tech technology, the leader in industrial growth and exports, is held back by lack of manpower. In 1997, a certain improvement was registered in manpower supply for this sector, but there is still a dearth.

The draft 1998 budget shows a change in allocation of resources to industry: less is allocated to encouragement of capital resources and more to encouragement of marketing, manpower training, support of development areas and development of industrial zone infrastructures. This change is a result of the decrease in the number of grants in the Encouragement of Capital Investments Law, and of government decisions to allocate some of the resources freed to the areas cited above.

The draft budget is accompanied by a government decision to continue eliminating import barriers which exist in the field of standards, both by changing the objects of official standardization and through changing the processes of obligatory inspection of imports.

Tourism

After several years of growth in incoming tourism and increased economic activity in this sector, the trend was reversed from mid-1996.

In consequence, investments in tourism decreased, profitability declined and the demand for government support through the Encouragement of Capital Investment Law fell.

The 1998 tourism budget shows a certain cutback in relation to 1997, when the budget was not reduced at all. However, with efficient allocation of resources, it allows deployment towards the year 2000: opening of bottlenecks in tourist infrastructures and a solution for demands for capital investment subsidies.

The draft budget is accompanied by a government decision to abolish licensing barriers in some of the occupations related to the sector.

Agriculture

Structural change is constantly required in the agricultural sector, mainly increase in production units and reduction of the number of persons engaged in the activity, given the high productivity and the increased competition in the sector.

The policy expressed in the 1998 budget is one of less government intervention, and recognition of the unique importance of this sector, through placing of budgetary tools at the disposal of the agricultural producers, which do not exist in other economic sectors.

In 1998 greater exposure to imports is expected, principally to processed food products. Notwithstanding, the protection of the agricultural sector from competitive imports is the highest in the economy.

The budget for agriculture includes the "Complementary Kibbutz Debt Settlement", which comes into its second year in 1998. Over half the kibbutzim which it serves have joined the arrangement.

INFRASTRUCTURES AND BUILDING

Introduction

Increased infrastructure investment is one of the major tools of economic policy, particularly during recessions. Its aim is to remove obstructions to economic development and to move the wheels of the Israeli economy in order to exploit its growth potential.

Most of the infrastructure investments are carried out by agencies which are not governmentally budgeted, and which will continue to engage in major development activities along with the Government. The share of infrastructure investments in the State budget has remained almost unchanged despite the budgetary cuts required by law.

In a period when such cuts are required, the Government must create conditions for increased infrastructure investments from non-budgetary sources. Major activities traditionally funded from State budgets, are being transferred increasingly to the private sector around the world. In the next few years this trend will extend to the fields of transport infrastructure (trains, toll roads), natural gas, water and sewage infrastructures, etc., thus creating new infrastructure funding sources and more efficient operation, as a result of transfer of management to the private sector.

The Ministries of Construction and Housing, of Transport, of National Infrastructures, and of Communications have deployed to handle the areas under their responsibility in two main ways:

Firstly, through structural reforms to streamline activities by creating new rules of the game, by removing various administrative restraints and by eliminating bottlenecks.

Secondly, through budget management. In 1998 the budget will continue to focus on direct investments in roads and railways, drainage works, assistance in funding sewage works in the local authorities, continued intensive planning work in general, and planning of residential construction in particular, continued development of sites for residential building and a substantial increase of the budgets for public buildings at these sites.

Transport

In 1997 the Government continued to invest in road infrastructure and directly in railway infrastructure. Through the transport authorities it furthered the Ben-Gurion Airport development plans, drew up blueprints for development of the ports and continued its activities for encouraging use of public transport in order to ease traffic conditions.

Investment in urban and interurban roads will total NIS 2.3 billion. Particular emphasis will be placed on building interchanges at problematic junctions in the center of Israel.

Cross-Israel Highway - the concessionaire for execution of the project will be selected in late 1997, and the final contract will be signed in the first half of 1998.

The railways - In pursuance of government policy and by a decision of December 1996, the railways will be separated from the Trains and Ports Authority and a national rail company will be created. Railway development investment is funded from the State Budget. In 1998 the Government earmarked NIS 195 million for this item. In 1998 the possibility of incorporating private agencies in funding and operation of the railways will be examined.

Ports - The Trains and Ports Authority submitted a NIS 3 billion master plan in 1995 for development of the ports of Haifa and Ashdod (NIS 1.5 billion for each port). The plan includes: extension of breakwaters, construction and enlargement of piers, construction of new storage space, and purchase of additional cranes.

The competent authorities have not yet approved the components of the development plan, and completion of these processes is anticipated in 1998.

Airports - the Government approved a development budget and funding plan for the "Ben Gurion Airport 2000 Passenger Terminal". A total budget of NIS 1.68 billion was approved for the first stage. Of this sum NIS 270 million were allocated for 1997 and NIS 370 million for 1998. The centerpiece of this project is a new passenger terminal at Ben Gurion Airport, which in its final structure will be able to handle 16 million passengers yearly. At the end of its first stage it will be able to handle 12 million passengers yearly.

Communications

In general the communications sector continues to expand, through three types of communications:

Cellular phones - in the last year the number of cellular phone users doubled. Currently there are 1.6 million subscribers.

Regular phones - moderate growth in the number of "Bezeq" telephone lines, deriving principally from the existing alternative between a regular line ("Bezeq") and a cellular line, and particularly in cases of a second and third telephone line.

International - opening of international services to competition led in a very short time to an increase in phone calls and in the average length of a call. Notwithstanding, because of the substantial decrease in telephone tariffs (about 80%), the revenues in this field did not grow.

In the next year the activities required for opening the communications sector to competition will be completed. In the framework of the overall policy for removal of the monopoly, as decided by the Government, international communications and cellular telephony were opened to competition until now. Next year local communications will also be opened to competition.

Energy

In recent years many changes were effected in the energy field with a view to increasing competition in the entire chain of production. The two main focuses in this process next year will be: the electricity system and natural gas.

Electricity - in 1998 emphasis will be placed on incorporation of private producers into the electricity system, within a quota of 20% of the electricity production capacity. This will be effected though tenders of the Ministry of National Infrastructures.

Natural gas - in 1998 the Government will advance legislation of the Regulation of the Natural Gas System Law, with preparation of a tender for selection of the gas company which will develop and operate the natural gas economy infrastructures, and completion of the statutory planning required for laying of natural gas infrastructures (national land planning program 37). These activities will be carried out on a parallel to supervision of the negotiations for purchase of gas commenced by the Electrical Corporation.

Water and Sewage

Israel's freshwater potential of about 1.8 billion cubic meters is utilized today almost in its entirety. Large-scale expansion of the water potential requires extremely expensive desalination works. Before making such investments, the economy must exploit its water resources properly. To these ends changes are required in the water system, to improve allocation of water and to ensure efficient and responsible management of the aquifers.

In recent years Mekorot expanded to additional fields of activity, such as purification of effluent and water and sewage services in the local authorities, raising the question of monopolies and related problems. In the course of 1998 Mekorot will become a holding company with clear separation between the different companies and no possibility of cross-subsidies between them. This is a further step in regularization of Mekorot's activity and will allow organizational and legal separation of the different fields of activity.

In the next few years, investments in sewage works will continue, particularly establishment of effluent purification plants. Given Israel's continued population growth and the increasingly stringent quality of the environment standards, the increased development in the field of sewage will be sustained.

However, it is very doubtful whether various local authorities will be able to manage and operate the state-of-the-art water and sewage systems and to bear the financial burden inherent in the relevant investments. In 1997 preparation of a water and sewage corporations bill was completed, and legislative processes have commenced. These are scheduled for conclusion in early 1998. With completion of the legislation, the main emphasis will be placed on implementation of the law and creation of water and sewage corporations in the local authorities. In 1998 attention will be paid to creation of effluent purification works by the B.O.T. system (building, funding, operation and transfer), a step which will allow funding of the project by the private sector, which will also be responsible for operation.

Housing

From 1992, when the Government decided to suspend public funding of building, activity in the private market began to expand, with construction reaching a peak in 1995. In 1995 and to a slightly lesser extent in 1996, the extensive building apparently satisfied the surplus demand, which led to price rises in the early 1990's.

According to estimates based on the data of the first half of the year, a further decline in activity in residential building was registered in 1997, due to reduction of the cumulative demand surplus and to the lower rate of immigration. However, activity this year was carried out to a great extent at the expense of a reduction in the inventory of available lands and plans, and it is to be feared that the branch may be unable to provide an immediate solution for future demands, particularly if immigration increases.

In 1998 it will be necessary to maintain the level of activity which characterized the first half of 1997 in order to satisfy the housing needs deriving from natural population growth and continued immigration. This will call for a return to marketing at 1994-1995 levels. A very high level of activity will be required in 1997 in order to renew the inventory of planned and available lands.

In 1995, 1996 steps were taken and tools were introduced which allowed a considerable injection of land to the market at various levels of planning and development. In the same years extensive activity commenced through management companies and tenders for marketing of land, for which the planning stages were not complete. In 1997 little use was made of these tools, and at the same time the scope of actual marketing was considerably reduced.

Following the recommendations of the Ronen Commission, which examined the roles of the Israel Lands Administration and the land policy, intensive use will be made of the aforesaid tools in 1998. On a parallel, attention will be paid to obstacles and to structural changes in various links of the building sector production chain.

Another attempt will be made to arrive at full regularization of the activity of the housing companies, and primarily Amidar, in order to allow orderly work in handling tenant welfare and maintenance of the apartments managed by the companies, and in order to regularize the funding sources for their activities.

DEBT REPAYMENT AND CREDIT SUBSIDIES

In the 1998 budget year, NIS 278 million will be budgeted for credit subsidies.

This budget is earmarked for subsidizing of unindexed loans issued in the past. Because no new loans of this type have been accorded in the past few years, the allocation decreases with each passing year, at regular periods according to the repayment schedule.

The amount set aside for debt repayment in the 1998 budget is NIS 68.7 billion, which is 33% of the net budget. About 79% of this sum, NIS 54.6 billion, is for repayment of domestic debts. The remainder, NIS 14.1 billion, is for repayment of foreign debts.

In 1997, as a result of the success of the privatization process, which is expected to yield NIS 8 billion, less of the debt will be used to fund the deficit, and thus the national debt will grow at a slower rate than forecast in last year's budget.

In 1998, a sum of NIS 54.6 billion is earmarked for repayment of domestic debts. This sum is made up of NIS 37 billion in repayment of principal and NIS 17.6 billion in interest payments.

Most of the sum earmarked for repayment of domestic debts is paid directly to the public through the redemption of bank deposits and of special negotiable bonds held by provident funds, pension funds, insurance companies, study funds, banks, corporations and private individuals. NIS 7.9 billion will be paid this year to the National Insurance Institute. Without the payment to the NII, the amounts will be NIS 32.5 billion and NIS 14.2 billion respectively.

In 1998 a domestic deficit of NIS 9.2 billion is planned. Part of this deficit will be funded by raising net capital from the public, a step which will increase the domestic debt.

As stated, repayment of foreign debts totals NIS 14.1 billion - 43% in interest and 57% in principal. Payments to overseas creditors are composed of redemption of loans from banks in Israel and abroad, intergovernmental loans, Israel Bonds, loans from international institutions and loans guaranteed by the United States Government.

Since 1995 the Israeli Government began to raise capital through negotiable bonds with its own guarantee. Until end 1997 this capital will total 620 million dollars. From 1998 we are expected to pay interest on these bonds.

In 1993-1997 the Israeli Government borrowed 7.8 billion dollars through the American loan guarantees. In 1998 the repayment of interest on these loans will total NIS 700 million.

The estimated subsidy in the interest payments and grants to the pension funds and the insurance companies in 1998 on the total debt, correct for June 1997, is NIS 1.44 billion. This estimate is composed of subsidies of the interest payments on designated bonds, bearing 5.5% preferential interest, which were issued to the pension funds and the insurance companies, and of a 0.5% grant yearly (supplement to the preferential interest on the designated bonds) paid to the pension funds in order to reinforce their actuarial status.

In order to estimate the subsidy in these interest payments, it was assumed that the alternative return in long-term bonds is 4%. Calculation of the amount of this subsidy was effected only from 1986, since in previous years the share of all the negotiable bonds in the market was very low and did not actually reflect the real price of capital in the economy. For purposes of examination a comparison was made between the average return for a stock exchange deposit of "Galil" bonds (which have a lifetime of 15 years) and the return guaranteed to the pension funds in each of the relevant years. Had the subsidy been calculated not only for 11 years (since 1986) but for 20 years (as should be the case for "Meron" type bonds), the subsidy would of course have been even higher.

The estimated subsidy in the interest payments in 1998, on account of issues to the pension funds from 1986 to 1997, is NIS 943 million. The estimated future subsidy (capitalized to today) for issue of designated bonds to the pension funds in 1998 is NIS 1.343 billion.

In 1995 the Government began to issue designated bonds of a new kind ("Arad") bearing 5.05% interest yearly in effective terms, to new pension funds established from January 1995.

The estimated subsidy in the interest payments in 1998, on account of issues to the insurance companies from 1986 to 1997, is NIS 300 million. The future estimated subsidy on account of issue of designated bonds to the insurance companies in 1998 is NIS 360 million.

From 1992 designated bonds ("Hetz" bonds) were no longer issued for new insurance policies. The State is in fact obligated to continue to issue Hetz bonds for investment of the premiums paid for life insurance policies (combined with savings) signed until end 1990 (and a small part of the premiums paid on policies signed in 1991).

Funds managed by the Bank of Israel for the insurance companies under "Hetz" agreements, which yield less than 4%, were not taken into account in the estimate, since they are not subsidized.

Government Grants to Saving Tracks

This program is composed of a 0.5% grant yearly which the Treasury pays to the pension funds to strengthen their actuarial status, as a supplement to the 5.5% preferential interest, stated in designated bonds purchased by the pension funds until May 1991.

The estimated cost of this 0.5% grant in 1998 is NIS 200 million.

In January 1994, the Government decided that the grant to the pension funds would not be paid in cash but credited to a special account of the Accountant General, in which an actuarial reserve is held, to be distributed to the pension funds in the framework of recovery plans.

Repayment of debts to the Bank of Israel in 1998 will be NIS 1.5 billion, NIS 775 million in repayment of principal and NIS 725 million in interest.

The debts to the Bank of Israel derive from advances taken from the Bank of Israel in previous years to cover budget deficits. Payment of this debt is official only and affects neither the deficit in the State Budget nor monetary injections.