The Minister of Finance (MoF) seems set on taking Israel down the disastrous path of austerity. Yesterday, the Minister announced his intentions to cut public sector wages by 10 percent to “free up funds to tackle the coronavirus recession”, and threatened to go on a "struggle on all fronts" if the unions refuse to cooperate with the plan. But Katz should be aware that the path he is trying to take the Israeli economy down has severe repercussions.
What is particularly striking is how isolated MoF Israel Katz is in planning to cut public sector wages. Out of all member countries in the OECD, Poland has been the only one to implement wage cuts. No other developed country has even considered cutting or freezing public sector wages. On the contrary, the UK and France have even raised wages for some public sector workers in light of the crisis.
In May, the British Chancellor Rishi Sunak announced a pay raise for over 900,000 public sector workers, despite the fact that public debt in the UK is considerably higher than that of the Israeli government. Public debt in the UK has crossed 100 percent GDP for the first time, while Israel is still in a relatively good position at 70 percent. So how come the British government has decided to raise public sector wages despite high levels of debt?
The reason is that the UK, and many other developed countries, have learnt their lesson from the disastrous effects of austerity policies from the last recession. In 2009, in the aftermath of the Great Financial Crisis, the British government announced a series of cuts known as Austerity Measures, which were intended to free up government funds to pay for the bailing out of the banks and rising unemployment benefits. In 2011 the government introduced a two year wage freeze, and later capped wage increases at 1 percent annually.
The effects of this policy, coupled with a wide range of cuts to public spending, proved a disaster for the British economy. In the UK, as in the rest of the developed world, where similar policies were implemented, the recession was the deepest in a century, and the economic recovery from it was the weakest and longest in recorded history. In the US for instance, unemployment only returned to pre-crisis levels in 2017- almost a decade after the crisis.
California as a case study
According to Sara Hinkley, a researcher at UC Berkley, public sector cuts played a major role in prolonging the recession in the aftermath of the financial crisis. Studying the effects of austerity measures on the Californian economy, Hinkley found that the laying off of 163,500 public sector workers in the state contributed considerably to rising levels of unemployment and lower demands – prolonging the recession.
The reason for this is rather self-evident: a strong and safeguarded public sector is an asset for any government trying to combat rising levels of unemployment. The fact that in most countries public sector workers are protected from the fluctuations in the market, usually by relatively strong unions, means that they play a vital role in keeping the economy from collapsing. The fact that they can keep their jobs, and not suffer from wage cuts, means that they are able to continue spending at the same level as before, helping to push the economy out of recession.
What Hinkley found was that those Californian public sector workers who were laid off either remained unemployed or found new employment with considerably lower compensation, meaning that their spending power decreased dramatically, dragging the Californian into an even deeper recession.
Global Financial Institutions repent
Even the World Bank and the International Monetary Fund, who spearheaded the efforts to cut public spending during the last recession are now taking a very different position. Zahid Hasnain from the World Bank has recently argued against public sector cuts, claiming that “the public sector is a large employer, and protecting all jobs, public and private, is a priority right now,” and that ”a reduced public-sector workforce during the crisis might impede the recovery process after the health crisis passes.”
The experience of the Great Recession should act as a warning for Israel: By pushing for draconian cuts, Katz is taking Israel down a path that has been proved to fail.