US embassy cable - 05TELAVIV4979

C O N F I D E N T I A L SECTION 01 OF 02 TEL AVIV 004979 
 
SIPDIS 
 
E.O. 12958: DECL: 08/10/2015 
TAGS: ECON, EFIN, PGOV, EAIR, IS, ECONOMY AND FINANCE, GOI INTERNAL 
SUBJECT: BUDGET BATTLE BEGINS 
 
Classified By: Deputy Chief of Mission Gene A. Cretz for reasons 1.4 (b 
) and (d) 
 
1. (C) Summary: At approximately 0100 on August 10, the 
Israeli Cabinet approved the draft 2006 Budget by a vote of 
12-8.  Negotiations over budget cuts in the wake of former 
Finance Minister Binyamin Netanyahu's August 7 resignation 
took longer than expected.  The two main changes to 
expenditures were a reduction in the cuts from the defense 
budget and adjustments to the level of uniform cuts for other 
ministries.  In addition, the Cabinet made changes to the 
draft economic arrangements legislation (EAL) and introduced 
a policy that would partially liberalize the aviation sector. 
 The EAL has served as the main vehicle for structural reform 
of the economy in the last few years.  In light of a sobering 
poverty report, publicly released as the Cabinet met, Prime 
Minister Sharon promised to explore a negative income tax to 
help the poorest sectors in Israel.  The budget debate will 
now move to the Knesset, when it reconvenes after summer 
recess, before the October 31 deadline. End summary. 
 
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Monitoring the Market 
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2. (C) At the beginning of the Cabinet discussion of the 
budget at 1000 August 9, PM Sharon stated unequivocally that, 
"The Cabinet must pass the budget today."  While technically 
missing the deadline, the Cabinet's approval of the 2006 
budget sent a message of stability before the opening of the 
market.  The Tel Aviv Stock Exchange ended the trading day up 
one percent.  Standard & Poor's Rating Services maintained 
Israel's foreign currency rating on August 10 positing that 
they expect fiscal and economic reform in Israel to remain on 
track despite recent political turbulence.  President of the 
Bank of Israel, Stanley Fischer, stated to a local business 
newspaper (The Marker) that "It is very important that the 
government meet the deficit restrictions in its expenditures. 
 The government has the confidence of the markets and it is 
forbidden that it lose that." 
 
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The Vote 
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3. (C) The poverty report was heralded by Labor Party Cabinet 
members as evidence of the need for increased social spending 
for the "weakest sectors."  Media reports claim that Vice 
Premier Shimon Peres demanded NIS 1 billion (about 220 
million USD) for social spending in exchange for Labor's 
votes.  A rumor of a late afternoon offer from acting 
Minister of Finance Ehud Olmert for between NIS 500-600 
million (over 120 million USD) increases in social spending 
was apparently ultimately rejected by Labor.  According to 
media reports, the majority of the Cabinet voted along party 
lines (Likud in favor, Labor opposed), however Minister of 
Agriculture Yisrael Katz (Likud) voted against the budget, 
and Minister of the Environment Shalom Simhon (Labor) voted 
in favor.  Simhon explained his break with Labor's votes by 
commenting to the press "As my ministry is poor, and in light 
of the fact that I was not the decisive vote, I agreed to 
back the proposal."  Katz did not comment on his vote. 
(Note: This was Katz's second vote against the Likud in the 
Cabinet.  He also voted August 7 against implementation of 
the disengagement plan.  End note). 
 
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Changes to the Budget 
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4. (C) The primary changes in budget expenditures were a 
trade off between reducing cuts to the defense budget and 
increasing the budgets cuts of other ministries.  The cuts 
for the Ministry of Defense budget were slated to be 1.5 
billion NIS; however that figure fell to 650 million NIS 
after negotiations late in the evening of August 8.  The 
other ministries were facing a total of 1.1 billion NIS in 
cuts, but are now forecasted to lose 2 billion NIS from their 
budgets.  It is clear that the Minister of Health and 
Minister of Environment both expect to get more money in 
their 2006 budgets (both voted in favor of the budget). 
Haaretz reported on August 11 that Director of the Budget at 
the Ministry of Finance, Kobi Haber, planned to increase the 
across-the-board cuts in the budgets of ministries to seven 
percent (versus four and a half percent as proposed in the 
first draft of the budget).  In addition, press reporting 
claims that the MoF will cancel 500 million NIS in 
development assistance for the Negev. 
 
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Changes to the EAL 
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5. (C) The Cabinet also approved a clause in the Economic 
Arrangements Law that will call upon the Minister of 
Transportation to consult with the Ministry of Tourism, a 
representative of the PM's office, and the Ministry of 
Finance whenever a foreign air carrier wishes to alter their 
flight schedule.  Previously, when a foreign carrier 
submitted an application, the Minister of Transportation in 
conjunction with the Civil Aviation Authority, a department 
of the ministry, had the sole authority to make a decision. 
 
6. (C) In addition to aviation liberalization, a 
representative of the Prime Minister's office noted his 
intent to hold a meeting in September to discuss the 
introduction of a negative income tax to help deal with the 
income disparities highlighted in the newly released poverty 
report.  In the past, BOI Governor Fisher has publicly 
supported exploring a negative income tax.  The language 
regarding the negative income tax in the current EAL is vague. 
 
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Next Steps 
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7. (C) The Cabinet's approval of the budget is the first step 
in a long process.  The budget will be presented to the 
Knesset when it reconvenes after summer recess, before the 
deadline of October 31.  During the next few weeks Olmert 
will attempt to make changes that do not disturb the basic 
framework of the budget (deficit and expenditure targets), 
but that allocate additional money for "weaker sectors."  The 
budget and EAL must be approved before March 31, 2006, or 
elections must be held. 
 
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