Article Library / 2016

2016 Annual Assessment

News stories regarding Israel’s newly discovered energy wealth have mainly been of two types. The first have been entirely accurate descriptions of Israel’s off-shore finds of natural gas (NG) as being among the world’s largest over the past decade. The second cover the domestic controversy over the use and policy regarding these same finds. For those outside of Israel (and for many within it) it may be difficult reconciling these two news streams. We will briefly describe the nature of the current status of the disputes. It is worthwhile reviewing this recent history also because of the light it sheds on some of the most fundamental domestic economic and social policy disagreements in Israel.

When the 21st century began, Israel was taking its first tentative steps toward NG and away from coal as a primary fuel for electricity (with reliance on coal itself representing a shift from prior dependence on imported petroleum fuels before the 1973 oil embargoes.) Controversially, the source of the first natural gas was planned in the late 1990s to be via pipeline from Egypt, up to a potential 6.5 billion cubic meters (BCM) per year, a figure governed by pipeline capacity and Egyptian operating protocols.1 Between signing the contracts and the beginning of Egyptian NG’s flow, Israel discovered deposits of its own in shallow waters not far off shore. This deposit, of about 33 BCM, while welcome was not sufficient to relieve the need for further imports. It did, however, prove to be crucial and timely (but now depleted) in meeting the shortfall caused by the cutoff of NG deliveries from post-Mubarak Egypt. But beginning in 2009, two further major deposits of proven reserves have dwarfed the original find and each successive find has been of greater magnitude than the one before.2 Located in relatively deeper water and much further off-shore, but still within Israel’s exclusive economic zone as defined by international law, this NG, if recovered, would be sufficient to meet Israel’s needs well toward the end of the century.3

As has been the case in other suddenly resource-wealthy countries, Israel has faced a number of challenges along with the blessings. In fact, the negative consequences for economic development due to over-reliance on this source of income, government integrity, and even national political stability stemming from mineral wealth have caused some to refer to this as the “resource curse.” This is even true to some extent in developed countries such as the Netherlands whose North Sea oil finds in the 1960s and 70s led to the so-called “Dutch disease” with the sudden increase in export wealth causing rapid appreciation of the currency and negative effects on other sectors. Much of Israel’s policy conversation has involved framing a course to avoid social, economic, financial, and political dislocations in exploiting the NG resource.

As might be expected with such a potential game changer, the different proposals for policy cut across already sensitive fault-line issues: economic equity across social classes and generations, national priorities, concentration of capital and monopolization, law and, of course, energy security. An entirely new legal framework needed to be erected because the 1952 Oil Law was clearly inadequate to the sudden need (and clearly had been designed to encourage exploration under circumstances in which large returns were highly improbable.) A natural gas authority was established and a government natural gas pipeline company was set up to provide main-line distribution services with private companies envisioned to supply individual businesses and homes.4

The Israeli partner in all three of the major NG reserves proven so far has been the Delek Group. In each case, though, it has been a minority shareholder in the drilling consortiums formed and led by Noble Energy of Houston because of the great need for up-front investment and technical expertise. Thus, from the beginning the NG discoveries raised questions about domestic monopoly and, if not outright ownership, then certainly how all the parties – foreign, domestic and public – were to benefit and their different interests reconciled.5

Several decisions were made before 2015, none of them without dispute, but now generally resolved to the satisfaction of most Israelis. The need to protect a small and very open economy from ill financial effects was recognized early on and the National Economic Council within the Prime Minister’s Office led efforts to create a sovereign wealth fund to limit the potential effect of sudden excess liquidity.6 Israel’s sovereign wealth fund is scheduled to come into being in 2016 under the aegis of the Bank of Israel.

But what would be the public’s share from the NG once it began to flow? How quickly would NG be extracted and to what uses would it be put? The consortium partners (and to some extent the Ministry of Finance) were interested in high volume flows from the reserves with the allocation between domestic or export markets determined by business considerations. Environmentalists, groups motivated by concerns for social and inter-generational equity, and those focused on long-term energy security for Israel wished for a more measured rate of exploitation and greater government control and public benefit.

A government expert panel led by economics professor emeritus Eytan Sheshinski of Hebrew University was formed in 2010 to consider some of the questions. The committee’s report, after a contentious process replete with allegations of intimidation,7 was eventually approved and accepted by the government in early 2011. A second sitting of the panel looking beyond NG more broadly at natural resources in general later amplified the original recommendations. The principal finding was to increase gradually the tax on oil and gas profits from 33 percent to a level of around 60 percent in keeping with typical practice in other countries (not including the U.S.) This was judged to be a reasonable trade-off between the public interest and maintaining incentives spurring further exploration and exploitation.8

But in 2015, the NG issue became a divisive roller coaster. Further exploitation of the NG, if desired, depends upon large-scale investment. Noble Energy as the principal foreign investor, and in its view an injured party because of uncertainty over government policy, stated a need for regulatory stability and sufficiently rapid NG recovery to make its investment worthwhile. This means, in effect, exporting much of Israel’s NG beyond the small domestic market. But this would also be very much to the benefit of Delek Group companies. A framework for moving forward9 was vetoed by Israel’s anti-trust commissioner for this reason, thus creating a political firestorm that saw the commissioner step down after ruling, an interim commissioner refusing to rule further on the issue, and Minister for Economy Arye Deri also stepping down rather than overruling the commissioner’s finding without Knesset approval – a path rendered perilous when two MKs from the ruling 61-seat (one-vote majority) coalition recused themselves because of personal involvement.

Critics of the gas framework object both to the concentration of financial gains and the large-scale export of Israel’s resource. These critics were not mollified when Prime Minister Netanyahu assumed the mantle of minister of economy thus clearing the way for an override of the anti-trust ruling.10 Complicating factors were the recent discovery of additional large NG reserves in Egypt and falling global energy prices (thus creating more immediate commercial pressure), as well as the geopolitical considerations of just where Israel’s NG would go, how it would get there, and who else might now be locking in contracts with the same buyer.11 These considerations suggested the need for speed in moving forward to proponents who focused on the potential impact of lower energy costs on Israel’s manufacturing, economic growth, and cost of living. Critics, however, argued that because NG was already flowing from Tamar to the domestic market there was both time and need to assess the best public policy for exploiting the much larger Leviathan field in the future.

The matter appeared to be resolved politically in December 2015 with the successful override of the anti-trust finding and approval by the Knesset of the NG deal – but not necessarily either legally or in the court of public opinion. But it was not to be. Opponents mounted a successful legal challenge. As of this writing, Israel’s Supreme Court has ruled against the policy on the grounds that its terms unduly bind the government to making no changes in the terms governing the exploitation, sale, regulation ,and taxation of the NG for an excessive period (10 years) without having received legislative approval from the Knesset. As of this writing, the government has agreed to once more redraft the proposed terms in light of the court’s objections.

Not for the first time, the politics of Israel resembled the fulminations of the blind men of Hindustan each of whom thought he alone inferred the true essence of the entire elephant from the part he was closest to. Opponents and critics of the Netanyahu government view the NG deal through lenses attuned to what they perceive as consistent bias in favor of the few. This specific debate also plays out against the wider background debate on the changing nature of an Israel that was once comfortable with a more egalitarian perception of itself (whatever the reality) than current circumstances permit. Israel is now skewed toward the less egalitarian end of the OECD countries’ spectrum of income and wealth shares in company with the United States and Turkey.12

But the claims regarding geopolitical considerations of the NG deal are not specious; neither do the realities of the global capital markets and recent Eastern Mediterranean energy developments suggest that excessive delay in exploiting this resource would be beneficial to Israel as a whole. Nothing is possible without further investment and technology, neither of which may be found exclusively in Israel in the amounts and types required. Developing this market will require adherence to market terms and conditions.
Nevertheless, it is true that the net result from how the NG resource has been developed and how its flow of benefits are allocated will add further not only to the reality but perhaps more strongly to the perception of a rapidly bifurcating Israeli economy and society. Obviously, JPPI has neither standing nor expertise to make recommendations on the substantive merits of Israel’s resource and NG policies. But it behooves the government and the larger Jewish world to recognize that during the economic transition Israel has been forcefully undergoing over the past two decades, no single matter of such importance may be considered solely in its own narrow terms. In a small, open, but highly dynamic economy the decisions made regarding NG will have profound effects on the nature of the Israel of the future.