Israel – Reopening Less Rosy Than It Looks

Summary

• Mobility and service sector activity are bouncing back in Israel as the high vaccination rate allows rapid reopening.
• Output is expected to exceed pre-pandemic levels by the end of this year, and the above-potential growth over coming years will allow the output gap to close gradually.
• Yet double-digit unemployment could prove sticky, particularly with a relatively low share of jobs in the high-tech sector.
• Combined with the absence of a state budget since 2018 and the resulting dearth in infrastructure/public investment spending, Israel’s post-COVID economic recovery may be more uneven than others.

Countries worldwide are watching Israel’s re-opening as a potential template. After three lockdowns, the rapid vaccination rollout has allowed mobility to normalize ahead of elsewhere and its service sector to show a vibrancy that remains far off for many. But past the immediate bounce, a political stalemate and an absence of fiscal planning combined with existing labour market rigidities could well mean Israel’s recovery is decidedly uneven.

Service Sector Spending Is Bouncing Back

BoI rapid indicators present a case for optimism. Weekly credit card data shows spending on restaurants up sharply over the past month and now 20% above pre-pandemic levels. Spending on both tourism and education & leisure is also up sharply in recent weeks but remains below January 2020 levels (Chart 1). Electricity consumption has recovered from the lockdown lows, and mobility data via Google and Apple show improved activity, albeit with the recent Passover holiday skewing data on workplace mobility (Chart 2).

Israel also announced this week that inbound tourism would slowly resume from 23 May. It will allow tour groups where individuals are already vaccinated and will test for COVID both prearrival and on entry to the country.

But Israel’s Labour Market Has Fared Worse Than Others

Israel’s 2020 GDP contraction of 2.5% was less severe than the major economies and broadly in line with South Korea. High-tech services exports were a key offset to the slump in consumer spending and, alongside substantial fiscal and monetary support, helped the economy weather the crisis.

But the spike in broad unemployment to an average of 15.7% last year, and decline in per capita GDP by 4.2%, reflects the deeper impact. The unemployment gain is far above South Korea’s despite a larger fiscal response and stronger growth momentum entering the pandemic. The BoI notes that ‘almost all’ the unemployment spike was due to furlough. But with more favourable unemployment benefits extended through June, it will be several quarters before the longer-term impact is evident. And even if we stick with the regular definition of unemployment (rather than the broad unemployment measure which includes furlough), joblessness has risen to 4.6% of the working-age population as of February, versus 3.1% a year earlier (Chart 3). In South Korea, the unemployment rate is up by a smaller 0.5pp.

Former BoI Governor Karnit Flug said that Israel had ‘done somewhat worse than many other countries’ in terms of its labour market. Broad unemployment dropped back once lockdowns eased, but it remained in double digits. And with the high-tech sector employment accounting for just 11.1% of the total, Israel’s headline GDP performance masks the wider labour market impact.

The recent BoI annual report cites structural economic changes from the pandemic, streamlining of businesses and long-term unemployment as reasons why headline unemployment could remain ‘much higher’ than pre-crisis levels. These factors exist, at least partially, in all countries, but Israel’s long-term unemployment rate of 5.7% is significantly higher than the 0.9% for South Korea. Israel’s pre-pandemic NEET indicator (share of young people not in employment, education or training) was also one of the worst in the OECD at 12.9% (Chart 4).

Bottom line

Consensus projections for a 5.1% GDP expansion in Israel this year point to output climbing back above pre-pandemic levels through 2021. And with potential growth of 3.3-3.4%, the output gap should begin to close over coming years. But does that mean that the Israeli economy has avoided economic scarring? Israel’s low-skilled and young workers could face a tough time reentering the labour market, leaving a lasting impact on longer-term growth.

Israel’s current, post-vaccine economic bounce and structural strength such as high-tech exports may be the envy of others. But labour market dynamics over coming quarters will show the true success in the country’s handling of COVID.