Investors and analysts warn that the Israeli economy may face a downgrade in its credit rating, a reduction in foreign investment, and weaker performance in the technology sector if the disruptions caused by the controversial judicial reforms proposed by the government continue. On Monday, the Israeli government expedited the passage of the first law in a series of laws aimed at reducing the powers of the Israeli Supreme Court in favor of the executive authority of Prime Minister Benjamin Netanyahu. This move has sparked widespread protests, with many workers, from doctors to employees in tech companies, stopping work and taking to the streets to demonstrate.
The shekel fell more than two percent against the dollar in the days following the protests, with losses exceeding nine percent since the judicial reform plans were first introduced in January. Hamish Kinear, a senior Middle East and North Africa analyst at First Tech Maplecroft, stated, “What most concerns foreign investors currently monitoring the situation in Israel is uncertainty. There is no clear endpoint. As long as this continues, there will be questions regarding the Israeli economy.”
* Economic Growth Decline? *
The Israeli stock market is experiencing poor performance amid this uncertainty, with the Israeli index in the MSCI lagging behind major global stock indices, such as the MSCI All Country World Index, by about 14 percent due to local investors’ reluctance to trade in the market. Data from Copley Fund Research indicates that foreign investment in Israeli stocks remained strong until the end of June due to Israel's compelling economic image.
The percentage of global funds with exposure to the country reached 35.5 percent, the highest since 2017, while the number of funds with investments in Israel rose by about 3.44 percent, the largest increase this year. Kinear added that relatively low inflation compared to similar countries has helped boost investment, but increasing disruptions could impact liquidity flowing into the country. Morgan Stanley expects Israel's GDP to grow by about 2.5 percent this year and three percent next year, but warned that these figures could shrink to 1.0 percent and 1.6 percent, respectively, if solutions to the country’s disruptions are not reached.
Netanyahu's allies claim that the Supreme Court has increased its interventions over recent years and that its powers need to be curtailed. The Supreme Court is set to consider an appeal against the judicial reform law in September, which may put the court in direct conflict with the government. Kinear noted, "In the short term, there is a risk of an immediate constitutional crisis."
* Issues in the Technology Sector *
The greatest concern lies in the possibility that these disruptions may affect investment in the Israeli technology sector, which represents about one-fifth of the GDP, more than half of exports, and a quarter of income tax revenues. The high-tech sector has been the fastest-growing in Israel for more than a decade, with Israeli innovations in cybersecurity, artificial intelligence, and other fields gaining global traction.
According to a recent survey conducted by the Israeli Innovation Authority, the uncertain business environment has caused up to 80 percent of new Israeli startups to register outside of Israel as of March this year, up from 20 percent last year. Additionally, investment in technology companies decreased by about 65 percent in the second quarter. Nicholas Var, an emerging markets expert at Capital Economics, wrote in a note that the judicial reforms "threaten to push the economy onto a path of permanently low growth."
* Credit Rating Under Scrutiny *
The country's credit rating is also under scrutiny, as the three major rating agencies—Standard & Poor's Global, Moody's, and Fitch—have already expressed concerns regarding the government's policy direction. Moody’s downgraded Israel's sovereign credit rating, while Standard & Poor’s stated on Thursday that the unprecedented protests will reduce economic growth this year.
