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Presentation 6: Hi-Tech in Israel
Required reading: Start-up nation book
Yuval Heller, UCSD Fall 2022
ECON 168: The Israeli Economy (Sep. 19th )
• Israel has the most successful (per capita) hi-tech sector in the world
– The Hi-Tech success story has begun in the 1990s
– Greatest success: founding start-ups, and making them unicorns
($1B+ companies)
– Arguably, the main factor allowing Israel sustaining 2% annual economic
growth (GDP per capita) in the last two decades (higher than almost all
other high-income countries with 0-1%)
• We present various metrics for this success, and demonstrate some of
its unique properties
• Possible explanations why Israel has succeeded so much in hi-tech and
start ups (mostly based on “Start-Up Nation”)
• Prof. Ron Berman (Wharton) will give a special guest talk on Israel HiTech Sector on Nov. 8th
– Prof. Berman has both academic and applied expertise in Israel Hi-Tech
– Which topics you would like Prof. Berman to focus in his lecture?
Israeli Hi-Tech Sector
(Gilad Brand, 2018; Branstetter, Glennon & Jensen, 2019)
Number one in the
world in the share
of workers in the
hi-tech sector
Share of US Multinational Firms Foreign R&D
Expenditure (Bransetter, Glennon, Jensen, 2019)
More than 5%
of foreign R&D
expenditure is
allocated to
Israel (Recall,
that Israel
has 150 smaller
than China
# of Unicorns in Different Countries
( Data)
Unicorn: privately owned startup
that has a current valuation of
one billion U.S. dollars or over.
Israel has
the 7th highest
number of unicorns (Despite
being a small country)
# of Unicorns per Million People
( Data)
Unicorn: privately owned startup
that has a current valuation of
one billion U.S. dollars or over.
# of Nasdaq Listed Companies (
Small Israel has
the 3rd highest
number of (non-US)
Nasdaq Companies
Tax heavens
Why Israel Has Such a Successful HiTech Sector and so Many Start-Ups?
It is very difficult to infer definite causal relation from the data.
Leading conjectures:
• Economic Policy and Incentives:
– Large investment in R&D
– Governmental support to start-ups
• Highly-educated immigration wave from former Soviet Union
in the 1990s
• Comparative Advantage and Cultural Aspects:
– Chutzpah
– Approach to failure
– Culture of disagreement & debate
– Examples, mainly from Start-up Nation
• Israeli Army
Investment in R&D as % of GDP (OECD Data)
Israel invests
50% more than
US, and twice
more than
OECD average
on R&D.
Half of the
investment in
Civilian R&D
in recent years
comes from
Government Support and Incentives
• “We cannot match other nations in strength, wealth, size or
material, but we are also not inferior to any other nation in our
intellectual and moral ability. We must take scientific research,
be it basic or applied, to its highest peak” (David Ben-Gurion,
Israel founding father and 1st Prime Minister, 1948)
• Israel Innovation Authority:
– Generous grants for start-up companies (crucial in early years; declined
in recent years with more international investments)
– Government-funded venture capital funds in the early 1990s (jumpstarting the hi-tech sector)
• Investment in military R&D
• Excellent Higher Education System and Basic Research
Educated Immigration Wave in the 1990s
(Data from Cohen-Goldner & Paserman, 2011)
900,000 immigrants from former Soviet Union in the 1990s
(20% of the 1990 4.5 million population)
• Meaning (Hebrew → Yiddish → English):
– Bravery that borders on rudeness
– Nearly arrogant courage
– Gall, brazen nerve
• Outsiders see Chutzpah everywhere in Israel: how student talk to
professors, sergeants question the generals, employee challenge bosses
– In Israel it’s the normal mode of being
• Chutzpah is essential for a successful start-up
– Founders must believe they can change the world
• Example (Chapter 1): Fraud Sciences: a few Israelis in their early 20s,
apply simple algorithms inspired by how they looked for financial traces if
terrorists in the army, tell PayPal CEO that they can revolutionize how to
identify bad transactions
Approach to Failure
• The Israeli military tends to treat all performance (successful
or unsuccessful) in training and sometimes even in battle as
• In start-ups and entrepreneurs, failure are much more
frequent than successes, and they give important experience
– Data suggests that entrepreneurs that experiences failure in their 1st
start-up are substantially more likely to succeed in the 2nd start-up
(relative to inexperienced entrepreneurs)
• Other cultures’ have harsh approach to failures, which makes
it much more difficult to be an entrepreneur (and almost no
entrepreneurs try a 2nd start-up after a failure)
Culture of Disagreement & Debate
• Jewish main religious/law book (the Talmud) is largely
based on presenting debates on how to interpret the
bible and the Jewish rules
• Israelis are educated from age zero to challenge the
obvious’ ask questions and debate everything
• Quotes from Stat-Up Nation:
– “You rarely see people talk behind anybody’s back in Israeli
– “When we all emerged from our meeting, red faced after
shouting, the American colleague asked me what was wrong. I
told him, ‘Nothing. We reached some good conclusions.’
• Example (from Start-Up nation book): Israeli engineering
in Intel pushing in the early 2000s to develop a CPU with
lower clock rate (the only benchmark for CPU
performance back than) and better real performance
Israeli Army
• Israeli army is unique in:
– Conscripts, and large weight to the reserves
– Fewer senior officers → more individual imitative at
lower ranks
– Less hierarchical than other armies
– Bottom-up approach & Improvisation (e.g., soldiers
developing a way to fight Sagger missiles during the 1973 war:
red light → moving randomly & shooting in the red light’s
• Elite military units help creating ties between talented
young men of different backgrounds (8200, Talpiot,…)
– Similar role to elite universities in the US
(arguably, with better diversity and meritocracy)
Israeli Army and Hi-Tech
(Swed & Butler, 2015; data from ~2010)
• Share of army veterans:
General population
Jewish population
Hi-Tech workers
Start-up workers
• 35% of female among Israeli Hi-Tech workers
(>25% in the US in 2010)
• Share of veterans of combat units among male hi-tech workers is 50%
(25% in the general male population)
• 36% of start up workers served in military technological units
(5-10% in the general population)
• Low representation of Arabs and ultra-orthodox Jews in the hi-tech sector
Movie on Israeli Hi-Tech
(, 9 min.)
• Starting in the 1990s, Israel has developed the most successful (per
capita) hi-tech sector in the world
– The growth engine of the Israeli economy in the last 2 decades
• We have discussed various possible explanations for this great success:
– Israeli cultural traits (Chuzpah, debate culture,…)
– Israeli army
– Government policy (specially in the 1990s)
• Prof. Ron Berman (Wharton) will give a special guest talk on Israel Hi-Tech
Sector on Nov. 8th
– Prof. Berman has both academic and applied expertise in Israel Hi-Tech
– Which topics you would like Prof. Berman to focus in his lecture?
• In Presentation 7 we will discuss the challenges of the hi-tech sector to
continue be the Israeli economy growth rate in the following decades
The Princeton Economic History of the Western World
Joel Mokyr, Series Editor
A list of titles in this series appears in the back of the book.
The Israeli Economy
A Story of Success and Costs
Joseph Zeira
Copyright © 2021 by Princeton University Press
Princeton University Press is committed to the protection of copyright and the intellectual property our authors entrust to us.
Copyright promotes the progress and integrity of knowledge. Thank you for supporting free speech and the global exchange of
ideas by purchasing an authorized edition of this book. If you wish to reproduce or distribute any part of it in any form, please
obtain permission.
Requests for permission to reproduce material from this work should be sent to [email protected]
Published by Princeton University Press
41 William Street, Princeton, New Jersey 08540
6 Oxford Street, Woodstock, Oxfordshire OX20 1TR
All Rights Reserved
ISBN 978-0-691-19945-0
ISBN (e-book) 978-0-691-22970-6
Version 1.0
British Library Cataloging-in-Publication Data is available
Editorial: Joe Jackson and Josh Drake
Production Editorial: Jenny Wolkowicki
Jacket design: Pamela L. Schnitter
Production: Danielle Amatucci
Publicity: James Schneider and Kathryn Stevens
Copyeditor: Cyd Westmoreland
Jacket credit: Fruit and vegetable stalls at Mahane Yehuda market, Jerusalem, Israel / Yadid Levy / Alamy Stock Photo
To my wife Anat Zeira and to my daughters,
Noa and Yuli Zeira
With love and gratitude
Preface xiii
Historical Background 1
Jewish Immigration: Description 2
Jewish Immigration: Characteristics 8
The Israeli-Arab Conflict: The Beginning 11
The Main Eruptions of the Conflict 12
Changes in the Type and Intensity of the Conflict 17
Building a New Nation 19
Success and Its Costs 29
Catching Up: The Rapid Growth of 1922–1972 33
What Is Economic Growth and How Do We Measure It? 33
Global Economic Growth 36
Economic Growth in Israel over the Years 37
Comparing Economic Growth in Israel to Growth in Other Countries
Structural Changes 41
Growth of Factors of Production 43
Summary 51
Explaining Israeli Economic Growth 53
How Do We Explain Economic Growth? 53
Labor Growth and Capital Deepening 54
The Solow Residual 55
Total Factor Productivity and Its Effects 57
Human Capital 61
Adding the Kuznets Effect to Human Capital 65
Technical Progress 67
Summary: Productivity, Human Capital, and Technical Progress
High-Tech, High Fertility, and Missing Capital 74
Recent Developments 74
The High-Tech Sector: Progress and Scale 75
The High-Tech Sector: A Miracle or Public Education? 80
Discovering Gas in the Mediterranean 84
High Fertility in Israel 86
Why Is Labor Productivity in Israel So Low? 89
The Good News and the Bad News 94
Lessons from Part I 97
The Conflict and the Fiscal Roller Coaster 105
Direct Military Expenditures over the Years 105
The Fiscal Roller Coaster 108
The Fiscal Crisis and the Rise of Defense Costs 110
The Rise of Other Expenditures 111
It’s the Conflict … 115
Peace with Egypt and the End of the Fiscal Crisis 117
Summary: The Wide Conflict and Its Fiscal Cost 120
Additional Costs of the Conflict 123
The Conflict between Outbreaks 123
Conscription and Loss of Human Capital 124
Summary of Costs 128
Costs of the Conflict That Are Hard to Estimate 134
Are There Economic Benefits to the Conflict? 139
War and Peace: An Economic View 144
Lessons from Part II 147
Business Cycles in Israel 153
Business Cycles and Their Causes 153
First Identification by GDP Growth and Unemployment 156
A Closer Look at Each Recession 160
Idiosyncratic Business Cycles 168
Peace with Egypt and the Change in Business Cycles 170
The Dynamics of Unemployment 171
Fiscal Policy: Counter- or Pro-Cyclical? 174
Why Israel Had Fewer and Milder Recessions than Other Countries?
The Balance of Payments: From Deficit to Surplus
International Trade and the Balance of Payments 177
The Balance of Payments in Israel over the Years 179
The Intertemporal Approach to the Balance of Payments 183
The Trade Deficit and Its Causes: Growth, War, Immigration, and Transfers
Some Comments on Applying the Theory to Israel 190
Immigration from the Ex-Soviet Union and the Trade Deficit 191
The Composition of International Trade 194
Reality and Economic Theory Can Match 197
High Inflation in Israel 199
Inflation as a Tax 199
The Rise and Decline of Inflation in Israel 201
The Theory of Inflation Tax 203
Explaining the First Step of Inflation 207
Explaining the Second Step of Inflation 210
Explaining the Third Step of Inflation 211
Stabilization in 1985 215
Summary 221
10 Monetary Policy and Its Costs
The Long Disinflation 223
The Phillips Curve 224
Two Episodes of Unemployment 226
Inflation Targeting in Israel 228
The Independence of the Central Bank 233
Commercial Banks and Financial Intermediation in Israel 236
The Role of Monetary Policy in Israel 240
Lessons from Part III 243
11 Between Intervention and Markets
Left and Right, Socialism and Capitalism 247
Public and Private Ownership in the 1950s 249
Public and Private Ownership after 1960 254
Privatizing Public Companies 257
Protection versus Openness 260
Israel’s Trade Policies 262
Liberalizing Other Markets 265
The Tragedy of the Labor Movement 268
12 The Public Sector since 1985
The Measure of Public Expenditures 271
The Global Rise of Public Sectors in the Twentieth Century 272
The Decline of Public Spending since 1980 277
The Decline of the Public Sector: The Policy and the Rule 280
The Reduction of Taxes 282
More on the Public Sector 285
The Diet of the Fat Man 288
Privatization of Public Services 291
Economists or Politicians? 294
13 Inequality
Inequality: Between the Labor Market and the Government 297
The Factor Distribution of Income 301
Why Has the Share of Labor Declined? 303
Income Gaps between Workers: Education 308
Women, Arabs, Mizrahi Jews, and the Ultra-Orthodox 310
Market and Disposable Income: The Effect of Government 316
The Two Hands of the Government 322
Lessons from Part IV 325
Conclusion: Four Decisions, Two Dilemmas, and One Pandemic 327
1. Labor-Augmenting Total Factor Productivity 333
2. Human Capital 336
3. Capital-Output Ratio and Labor Productivity 337
4. Dynamic Tests of Rates of Unemployment 340
5. Empirical Tests of the Balance of Payments in Israel 342
6. Inflation Tax 344
7. The Phillips Curve 345
8. The Dynamics of Public Debt-to-GDP Ratio 346
9. Wage Regressions 347
References 353
Index 365
This book tells the story of the economy of Israel. It is a small country of only 9 million people,
but I strongly believe that its story should be of interest to people from other countries as well.
One reason for this interest is that Israel has experienced large shocks during its short history,
such as large immigration waves, intense wars, the negotiation and implementation of peace
treaties, and more. These shocks hit the small economy strongly and thus enable us to isolate
their economic effects and to analyze them. In other words, Israel has been a unique laboratory,
with many natural experiments, which enable us to examine economic mechanisms in a
fascinating way.
A second reason the Israeli economy should be interesting to non-Israelis is that Israel is
located in the heart of the Middle East, an area of great importance to the world. First, it is
important geographically, as it connects three major continents, Asia, Africa, and Europe.
Second, it is rich with oil, which adds to its significance politically and economically. Third, it is
the birthplace of the three major monotheistic religions, of which two, Judaism and Christianity,
where born in the country of Israel. As a result of this importance, the country and the region
have always attracted foreign conquerors and rulers, like Egypt, Assyria, Babylon, Greece and
Rome in ancient times; the Arabs, Crusaders, and Ottomans in the Middle Ages; Britain and
France in the twentieth century; and now the United States.
Today, Israel plays an important role in the Middle East. Unlike other countries in the region,
its population is largely not indigenous but consists mostly of immigrants and their descendants.
Many came from Europe, but many others came from other areas of the region itself: these are
the Jews from the Middle East and North Africa. More importantly, the immigration to and
colonization of the country gained much support from the big powers, Britain first and the
United States later. To this day, many view Israel as alien to the Middle East.1 Today Israel is a
major power in the Middle East, militarily, economically, and politically, so it is impossible to
understand the region without understanding Israel and its phenomenal success.
The book has four main parts, which follow a historical background. History is highly
important for understanding any economy, because if we wish to apply economic theory to any
country, we cannot do so blindly. We need to thoroughly understand the specific circumstances
in which the economy develops and operates in order to use economic theory properly to
understand it.
Part I of the book analyzes the rapid economic growth of Israel. Within 100 years, Israel grew
from a small and poor country on the periphery of the Ottoman Empire to become one of the
thirty richest countries in the world. Many observers call it a miracle of economic growth. This
part consists of three chapters. Chapter 2 shows that the main period of fast economic growth
lasted 50 years, from the early 1920s to the early 1970s, and it was a period of “catching up”
with the global frontier. This chapter also shows that this economic growth was unique,
especially relative to the neighboring countries, which are much poorer. Chapter 3 shows that
Israeli economic growth was not a miracle and that standard economic theory, together with the
unique history of Israel, can fully account for it.
Chapter 4, the last chapter in this part, discusses additional aspects of economic growth in
Israel. It analyzes the huge success of the high-tech sector but raises some questions about how
much this sector has contributed to aggregate economic growth in the country. The chapter also
studies the rate of fertility in Israel, which is very high by international comparisons. The chapter
then raises the question of why Israel did not fully catch up with the frontier and why its labor
productivity is still significantly below that of the most economically advanced countries in the
world. It shows that a large part of this missing productivity is due to missing capital, caused by
the risks of the Israeli-Arab conflict.
Part II of the book focuses on the economic effects of the Israeli-Arab conflict. Israel is
unique in living in a conflict continuously, even prior to its establishment. Hence, we can learn
much about the effect of such a conflict on the economy. In 1948, the Israeli-Palestinian conflict
expanded to become a widespread conflict between Israel and the Arab states that surrounded it.
It became a conflict between conventional armies, which is very costly. Chapter 5 in this part
describes these costs and shows how they led to a severe fiscal crisis and almost to bankruptcy.
In 1979, Israel reached a peace agreement with Egypt, which ended de facto the wide conflict
between Israel and its neighboring Arab states. The conflict returned to its Israeli-Palestinian
stage. The narrow conflict has much lower direct costs, but it has many other indirect costs, as
described in chapter 6.
Part III of the book is of high interest to economists, as it uses the unique history of Israel, of
powerful external shocks, to test some important economic theories. Chapter 7 describes Israeli
business cycles and shows that due to the large shocks that hit Israel, we can identify the shock
that began each recession and the shock that ended it. Interestingly, except for one recession, all
reflect domestic shocks. Hence, business cycles of Israel did not correspond to global cycles. A
second lesson from this chapter is that all business cycles in Israel were demand driven. A third
lesson is that returning to the narrow Israeli-Palestinian conflict in the 1980s increased the
country’s vulnerability to business cycles.
Chapter 8 examines the balance of payments in Israel, which was in a deep deficit in the past
and is now balanced. The chapter shows that the trade deficit in Israel was high whenever people
expected gaps in income between the future and the present, as in periods of high growth,
immigration waves, wars, and temporary transfers from abroad. This finding fits very well the
predictions of the intertemporal approach to the balance of payments, the leading theory in the
area. Chapter 9 examines the period of high inflation in Israel, between 1973 and 1985, and
shows that it fits very well the monetary theory of inflation with rational expectations. Chapter
10 analyzes the long process of disinflation that followed the 1985 stabilization program. It
shows that this long process fits well the theory of the Phillips Curve.
Part IV of the book deals with socioeconomic policies and more specifically, with the Israeli
experiment in neoliberal economic policies. Chapter 11 examines the degree of public
intervention in the economy over the years. It shows that the private sector was always dominant,
even in the initial years of the state, when the labor movement led the country. This was a result
of the importance of the national goals in times of crisis, which were top goals for the labor
movement, which was the leader of the Zionist project. Chapter 12 describes how the
government reduced its expenditures drastically after the peace with Egypt and used this
reduction to lower the tax burden. Interestingly, economic growth did not change much during
this entire period and has remained quite stable since 1973. This stability of growth is therefore
strong empirical evidence against the claim that neoliberal policies encourage economic growth.
Chapter 13 examines the high level of inequality in Israel. It shows that the neoliberal policies,
especially the reduction of direct taxes and of welfare subsidies, increased inequality
Forty-two years ago, I switched from the study of mathematics to economics. One of the
reasons for this transition was my growing interest in social and political questions. I was hoping
that understanding economics could help me answer these questions better. Since then, I have
studied, taught, and done research in economics. Gradually I realized that the connection
between economic understanding and solving social and political problems is not so simple. On
one hand, understanding economics has enabled me to examine critically many political claims
and to tell when they are fact based, when they rely on illusions, and when they are based on
deception. On the other hand, I have learned that understanding economics does not always
provide clear answers to important political questions, as these questions also depend on
worldview and on social values, which can differ from one person to another, even if the
individuals share the same economic knowledge.
An important and wise economist, Frank Hahn, once said that economics does not solve the
major disputes between us, but it helps us understand better our differences. I believe that this is
a great truth. The way I understand it is that economics should open options instead of closing
them. Namely, there is no such animal as “the right economic policy.” There are many possible
economic policies, and economists can study the costs and benefits of each policy to different
groups in society. However, the choice among different economic policies is a political decision.
Hence, this book is not trying to prescribe what economic policies Israel should follow, as many
books in the past have done, but rather to better understand the different options and their
However, this book is not only about economic policies, but mostly about the unique story of
the Israeli economy and what can we learn from it. One of the main lessons from this book is
how well economic theory can explain many of the developments of the Israeli economy. The
book shows that the rapid economic growth in the 1950s and 1960s, the high inflation in the
1970s and 1980s, the current account deficit in the early years and its decline to zero in later
years, and much more, fit very well neoclassical economic theories. To do this, the book needs to
remind us of these theories. I describe them intuitively in the main text, to make it accessible to
nonprofessional readers, while I defer the technical presentations to appendixes at the end of the
Naturally, this book contains large amounts of economic data, in tables, graphs, and in the
text itself. Data play a major role in the book for many reasons, but perhaps the most important
one is that data help us demolish many “accepted truths” and show that they are actually myths.
For example, many in Israel believe that our tax burden is high, while the data show otherwise.
Many believe that the fiscal crisis of the 1970s and 1980s was a result of wasteful welfare
policies, while the data show that the main reason was the intensification of the Israeli-Arab
conflict after 1967. The data are therefore the factual basis for the book.
Where do the data come from? Mostly from two sources. One is the Israeli Central Bureau of
Statistics, especially the Statistical Abstracts it publishes annually. The other source of data are
the Statistical Appendixes of the annual Bank of Israel Reports. Both of these institutions, the
Central Bureau of Statistics and the Bank of Israel, helped me significantly and provided data in
addition to their publications. However, most of the data are from the open publications of these
two institutes and are fully available on the Internet. As with all such institutions, they revise the
data every year. Hence, some of the data in the book may not fully fit future publications of these
two institutions. However, such revisions are relatively small and do not affect the overall picture
that emerges from them. The book also uses data from other sources, like the research center of
the Knesset, the Israeli Parliament, and even publications of the US Congress.
No single book can fully cover all the issues of a broad topic like the Israeli economy, and
this book leaves out many such issues as well. It reflects my intention to focus on some
important issues and deepen their analysis, rather than covering too many details. Some issues,
like the black economy, are missing for lack of satisfactory data. I should also admit that the
book reflects my own specialization in macroeconomics, the area that studies general economic
phenomena, such as economic growth, business cycles, inflation, balance of payments, and
inequality. Therefore, although the book deals extensively with the Israeli economy, it has an
emphasis on Israeli macroeconomics. This is not only due to my own expertise, but also because
the unique and interesting aspects of the Israeli economy are macroeconomic.
The book gains much from my own research on the Israeli economy. My main work in this
area, three papers written jointly with Michel Strawczynski from the Bank of Israel, is on fiscal
policy in Israel over time. Another research project that influenced this book is my joint paper
with Thomas Sargent on the jump in inflation in Israel in October 1983, described extensively in
chapter 9. We published this paper in 2011, which shows how often we understand things quite
late. Time lets the dust settle, allows us to think more clearly about the issues, and enables a
broader outlook. This is why understanding economics and economic history are so strongly
Hence, this book is about the Israeli economy and about the economic history of Israel at the
same time. Economics is not just a description of the current situation, but an understanding of
processes and economic mechanisms. Such an understanding requires a detailed historical
analysis, for three main reasons. First, the roots of current economic issues lie in the near and
sometimes even the far past. Second, economic mechanisms operate over time, so the only way
to study them properly is by using a historical perspective. Third, gathering data over long
periods enables us to improve the tests of many economic theories. The time this book covers
begins with 1950, when most Israeli statistics began, although some issues that the book
addresses use data from the Mandatory period as well. The book ends with 2018, which is the
last year with available data at the time of writing.
I finished writing the first draft of the book in January 2020. There was some early news on a
new mysterious virus in China, but it seemed far away and irrelevant. Within a short time, we
were in the midst of the coronavirus global pandemic and in a deep economic recession. I did not
include this development in the main analysis of the book. First, it is too early to analyze it
properly, as the events keep unfolding. Second, this event is global and similar in many
countries, so it might not add much to include it in a book that analyzes special lessons from the
Israeli experience. However, in various places in the book, I have added references to this current
dramatic development.
The book deals at length with the Israeli-Arab conflict and its economic effects. It shows that
the conflict has a huge impact on the Israeli economy—on its output, budget, business cycles,
inflation, balance of payments, and much more. This is not surprising, as the conflict has been
central to life in Israel for more than 100 years. What is sometimes surprising is how little
attention most Israeli economists have given to the conflict. However, despite the wide
discussion of the economic costs of the conflict, we should always remember that the main cost
is lost human life. While I do not emphasize it enough in the book, I wish to stress this point
here. It is important to me personally, as I participated in both the Yom Kippur War and the
Lebanon War and lost friends in these wars.
This book is an English version of a book in Hebrew, with a similar title, published in
February 2018. The two books have much in common, but there are also big differences in
structure and in topics covered. The main difference between them is the audience that each
version of the book targets. The Hebrew book tries to explain to Israelis the economy they live
in. The English book tries to inform those readers who live far from Israel what they can learn
from the experience of this country. I believe that they can learn quite a lot.
1. Even many Israelis share this view. One of Israel’s prime ministers, Ehud Barak, described it once as “a Villa in the
I thank many people who helped me and contributed to this book. First are coauthors of my
studies on the Israeli economy, Olivier Blanchard, Thomas Sargent, Michel Strawczynski, and
Tal Wolfson. I also thank my coauthors on inequality, Michele Battisti and Oded Galor. My
research on the economics of the conflict gained much from my work in the Aix Group, and I
thank all its members and especially Arie Arnon, Saeb Bamya, Gilbert Benhayoun, Samir
Hazboun, and the late Ron Pundak.
The book gained much from my course on the Israeli economy, and I thank all my students at
the Hebrew University and at Northwestern University. Special thanks go to Avishai BenSasson, Matti Israel, and Michael Wiesen. I am especially grateful to those research assistants
who helped me collect data and process it, Michael Ritov, Sarit Weisburd, Anna Zaposechini,
and especially Dina Dizengof, who assisted me in the main stage of writing the book. Many
people helped by reading parts of the book, among them Gadi Barlevy, Yaron Ben-Naeh, Hillel
Ben-Sasson, Arik Ben-Shachar, Michal Corcos, Momi Dahan, Moshe Efrati, Hagai Forschner,
Oren Heller, Frank Hespeller, Yagil Levy, Jacob Metzer, Uzi Rebhun, Adi Shani, Shmuel
Shtrauss, and David Weil.
The book received financial support from the Israel Science Foundation and from the Falk
Institute for Economic Research in Israel. I received much help from the Bank of Israel and the
Central Bureau of Statistics. The publisher, Princeton University Press, has been very helpful. I
thank Joe Jackson, who led the project steadily, Josh Drake, Cyd Westmoreland, Jenny
Wolkowicki, three anonymous reviewers and especially the scientific editor of the series, Joel
Mokyr, for his invaluable comments. I also thank my academic home, the Department of
Economics in the Hebrew University, which gave me time to research, make contacts with
students, and facilitated significant scientific interaction.
On a more personal note, I am grateful to my late parents, Asher and Yocheved Frieda Zeira,
who nurtured my interest in learning and in science, to whom I dedicated the Hebrew version of
the book. Finally, I am extremely grateful to my wife, Anat Zeira, who supported me throughout
this project, and my daughters Noa and Yuli, who accompanied the writing of the book with
much love and enthusiasm. I dedicate this book to them.
Map of Israel
Historical Background
This chapter describes the historical background to the economy of Israel. Clearly, this is not a
full history of Israel, as it focuses only on the main historical processes that are crucial for
understanding the Israeli economy. These processes are the Jewish-Zionist immigration to the
country, the Israeli-Arab conflict, and nation building. These three processes intertwine strongly
with one another. The Israeli-Arab conflict would not have erupted without the waves of Jewish
immigration that posed a growing threat to the local Arab community. Similarly, the Jewish
immigration was not an act of individuals, as most immigrations are. It was part of a political
project, Zionism, whose goal was to renew Jewish nationalism in the country. This strongly
linked the building of national institutions to Jewish immigration.
The history of Israel reflects a country that has changed dramatically over the years. In the
nineteenth century, it was a collection of districts in the Ottoman Empire. During World War I,
the British Army conquered it and the rest of the Middle East. Following their victory over the
Ottomans, Britain and France divided the Middle East between them according to the SykesPicot Agreement.1 Palestine became a British Mandate in 1922.2 In 1947, the United Nations
reached a resolution on the partition of Palestine into two states, one Jewish and one Arab.3
Following the rejection of the resolution by the Arab states and the Palestinians, a war broke out.
In the middle of that war, on May 15, 1948, the British Mandate ended, and the State of Israel
was established. After the 1949 Armistice Agreements between Israel and the Arab countries,
which ended its War of Independence, the State of Israel controlled 78 percent of the territory of
the country. This changed again in June 1967, when Israel occupied all of Western Palestine, the
Golan Heights, and the Sinai Peninsula. Israel withdrew from Sinai in the Peace Agreement of
1979 with Egypt, but the remaining territories (the West Bank, the Gaza Strip, and the Golan
Heights) are still under occupation, and their permanent status has yet to be determined.4
Jewish Immigration: Description
The main process behind the development of Israel has been the rapid growth of the Jewish
population in the country since 1882 by means of immigration. Prior to that year, Jewish
immigration was relatively small. In 1881, on the eve of the Zionist immigration, the Jewish
population, called the “Old Yishuv,” numbered only 24,000.5 These Jews lived mainly in the
four holy cities of Jerusalem, Hebron, Safed, and Tiberias, where Jewish communities had
existed for hundreds of years. In the nineteenth century, Jews began to settle also in Jaffa, Akko,
and Haifa.6 Many of them lived on religious donations, but some, mainly Sephardim, lived by
engaging in retail, trade, and crafts. There were some early attempts at modernization in the Old
Yishuv, in production, education, and even the foundation of an agricultural settlement (Petah
Tikva, established in 1878). However, these attempts were minor and did not significantly
change the Jewish community.7
Change began in 1882, after the pogroms in Russia in 1881, which were triggered by the
murder of Tsar Alexander II. These pogroms, together with the dire economic conditions of
Jewish life in Russia and Poland, led to a massive emigration from Eastern Europe. Most of the
Jews went to the United States, numbering 3.7 million Jews between 1880 and 1929.8 Some
emigrated to Europe, and only a handful of idealists went to Palestine. They belonged to a
movement called Hovevei Zion (Lovers of Zion), and they formed the first wave of immigration.
This movement soon became part of a wider national movement, Zionism, founded by Theodor
Herzl in 1897. From then on, Jewish immigration to the country was the result not only of the
terrible hardships of Jewish life in Eastern Europe but also of strong national aspirations,
influenced by the general rise of national movements in Europe at the time and supported by the
Zionist movement.9
Over the years, more waves of Jewish immigration to Palestine followed, becoming larger
over time, and within a few decades, they changed the country beyond recognition
demographically, geographically, politically, and economically.
Table 1.1 shows how the country’s demography changed dramatically over the years. While
at the beginning of the period, in 1880, Jews constituted less than 5 percent of the population, in
1947, toward the end of the British Mandate, they were already close to a third of the population.
This enabled them to declare independence and to win the war of 1947–1949.10 In the following
three years, 1948–1950, the Jewish population doubled with the large immigration of the
Holocaust survivors from Europe and entire Jewish communities from Syria, Yemen, and Iraq.
At the same time, the Arab population declined drastically, both because Israel did not include
the West Bank and Gaza, and because most Palestinians who had previously lived in the Israeli
area became refugees.11 After 1950, Jewish immigration to Israel continued, and the population
grew quickly. From 1950 to 2018, total population grew 6.5-fold, and the Jewish population
grew 5.5-fold.
Like all migrations, the Jewish immigration was driven by both push and pull forces. The
push factors in the countries of origin were persecutions, wars, and economic hardship. The pull
factors were religious; strong sentiments for the Jewish homeland; national aspirations; security;
and more recently, Israel’s economic prosperity. The push forces explain why immigrations
usually come in waves, when troubles hit countries of origin, and it was true for the Jewish
immigration to Israel as well. This is important for the economic analysis in this book, because
the variation in immigration over time helps us identify the economic effects of immigration. I
next describe briefly the immigration waves since 1882.12
TABLE 1.1. Population in Palestine and in Israel, selected years, 1890–2018 (thousands at end of year)
First British census
Only in the State of Israel
Eve of ex-Soviet Union immigration
225 thousands non-Jews and non-Arabs
320 thousands non-Jews and non-Arabs
425 thousands non-Jews and non-Arabs
Arabs of East Jerusalem added in 1967
Source: Data for the Ottoman period are from Gorny (1987); for the British Mandate from Metzer (1998, table A.1). Data after 1948 to the present
are from Central Bureau of Statistics (2019, table 2.1).
The first immigration wave was mainly from Russia, but it coincided with the arrival of a small
group of Jews from Yemen as well.13 This first wave of 20,000–30,000 immigrants was already
part of the great Jewish migration from Eastern Europe. While previous Jewish immigrants to the
Holy Land settled among the Arab population in existing towns and communities, the new
immigrants established separate Jewish settlements. These were the early moshavot.14 Among
them were Rishon LeZion, Zikhron Ya’akov, Rosh Pinna, Ekron, Yesud HaMa’ala, Ness Ziona,
Gedera, Rehovot, and Hadera. The establishment of separate settlements was the beginning of a
geographic separation between Jews and Arabs, which remains a dominant pattern in Israel
This immigration followed the failed Russian Revolution of 1903, and most immigrants were
young Zionist-Socialists from Russia who belonged to the movements Poalei Zion and Hapo’el
Hatza’ir. Between 30,000 to 40,000 immigrants arrived, although many left, especially during
the difficult years of World War I. This immigration put the labor movement in a leadership
position in the Zionist movement. Its most prominent leaders were David Ben-Gurion, A. D.
Gordon, Berl Katzenelson, Yitzhak Ben-Zvi, and Levi Eshkol. This immigration continued to
establish separate Jewish settlements. They built the first kibbutzim (agricultural collective
settlements), but they also laid the foundations for the first Jewish city, Tel Aviv (1909).
These 35,000 immigrants had two main motives. The pushing motive was the Russian
Revolution of 1917, and the pulling motive was the new British rule in Palestine and its promise,
expressed in the Balfour Declaration, to promote a “national home” for the Jewish people in
Palestine.15 Despite the high hopes that followed this declaration, this immigration was still small
and consisted mainly of young idealists from Eastern and Central Europe. The Jewish masses
continued to go to the United States. The immigration to Palestine continued to establish separate
Jewish settlements, mainly kibbutzim and moshavim.16
This was the first Jewish mass immigration to Palestine, of 82,000 immigrants, mainly from
Poland. They escaped its dire economic conditions and the growing anti-Semitism in the country,
also reflected in the policies of the Minister of Finance Wladislaw Grabski. It was mass
immigration not only by number but also by composition, as entire families arrived, whereas
previous immigrations had many young idealist pioneers.
The beginning of mass immigration of Jews to Palestine in 1924 was not incidental. That year
the United States passed the Johnson-Reed Act, which greatly reduced immigration quotas of
ethnic groups from outside the Western Hemisphere. Among these groups were East European
Jews, and the act greatly reduced their ability to enter the United States.17 Thus, many Jews in
Poland, at the time the largest Jewish community with 3.5 million, chose Palestine instead. This
had a dramatic effect on the Zionist project. After three small immigration waves came the first
mass immigration, which has since become the main type of Jewish immigration to the country.
Actually, in 1925 the number of Jewish immigrants to Palestine exceeded the number of Jewish
immigrants to the United States.18
The Fourth Aliyah continued the pattern of separate Jewish settlements, this time mainly
urban. Many came to Tel Aviv, which more than doubled in population during these years. The
newcomers also built other towns, such as Herzliya, Bnei Brak, Kiryat Ata, Bat Yam, and
Netanya. The professional skills of the immigrants and the money they brought with them made
them pioneers in industry, trade, and crafts.
Mass immigration resumed in 1933, after the rise of the Nazis to power in Germany. It spread
fear in central and Eastern Europe, and 197,000 Jews arrived mainly from Germany and Poland.
The immigrants from Germany were highly educated, which contributed much to building the
education system in the country. The Fifth Aliyah expanded the map of Jewish settlements to
new towns like Holon and Nahariya, and also to many kibbutzim and moshavim.
During World War II, Jewish immigration to Palestine declined, as Jews were trapped in Europe
under German occupation, and the Mediterranean was almost closed to seafaring. In addition, the
British “White Paper” of 1939 imposed restrictions on Jewish immigration, as a reaction to the
Arab Revolt of 1936–1939. Still, 138,000 immigrants arrived during this period, a fifth of them
from Arab and Muslim countries, a larger share than before. After World War II, in 1945–1948,
many immigrants arrived illegally to challenge the British restrictions. They were mainly
Holocaust survivors, who were desperate to leave the refugee camps in Europe and go to
Following the establishment of the State of Israel on May 15, 1948, a wave of 688,000
immigrants arrived, doubling the population of the country in 3 years. Half were Holocaust
survivors from the refugee camps in Europe, who could now come freely. The other half were
Jews from Arab countries, who found themselves in a dangerous situation with their countries
fighting their own people and facing growing animosity from their Arab neighbors. Many such
communities chose to immigrate to Israel, initially from Syria, Iraq, and Yemen.19 This large
immigration created desperate needs for housing and jobs in the young state. Most immigrants
landed in temporary camps of tents and sheds, called “maabarot,” where living conditions were
harsh. Some camps were in the center, but many immigrants had to settle in the periphery, to
solidify the new borders of Israel.20
Following Gamal Abdel Nasser’s rise to power in Egypt and the Sinai (Suez) Campaign of 1956,
the Jews left Egypt, followed by Jewish migration from other North African countries.21 The
main drivers of this migration were the Israeli-Arab conflict and the end of French colonial rule
in North Africa. Some 465,000 Jews arrived during these years, of which 209,000 were from
North Africa. The others came from East European Communist countries, mainly Romania and
The victorious war triggered high enthusiasm in the Jewish world, and a new wave of
immigration came to Israel, mainly from developed countries. The total number of immigrants
was 228,000, of which 184,000 came from Europe and America. Some came from affluent
countries; others came from the Soviet Union, being able to leave it for the first time, although in
small numbers. Still others were young Latin Americans who were fleeing totalitarian regimes.
In 1989–1990, the Soviet Union collapsed. One of the results of this dramatic event was the
opening of its gates to allow Jewish emigration. Some went to Germany, the United States, and
Canada, but most immigrated to Israel.22 During the 1990s, about 1 million Jews immigrated to
Israel, of which 376,000 came in 1990–1991. The immigration continued, though at a lower rate,
until 2000. In addition to the former Soviet Union immigrants, 47,000 came from Ethiopia
during these years.
Jewish Immigration: Characteristics
Figure 1.1 gives further support to the claim that Jewish immigration to the country was not a
smooth process but took place in waves. The figure shows the numbers of immigrants in each
year relative to the existing population at the beginning of the year (which is the Jewish
population during the British Mandate and total population of Israel during the State years).
Figure 1.1 is informative on how large the effect of immigration was and on the difficulty of
absorbing it. In relative size, the largest wave was the Fourth Aliyah. In 1924, immigrants
increased the Jewish population by more than 35 percent. The Fifth Aliyah also stands out: In
each of the years 1935–1939, immigrants increased the Jewish population by 20 percent. A third
large wave is the Great Aliyah in 1948–1951, when immigrants increased the population by an
annual average of 18 percent. The fourth significant wave is the immigration from the ex-Soviet
countries in the 1990s. Its annual relative size was lower, since in 1989 Israeli population was
already large, at 4.5 million. However, the million immigrants increased the population of Israel
by 20 percent over 10 years.
Figure 1.1 also reinforces the importance of 1924, when mass immigration began. From 1882
to 1923, 40 years and three immigration waves increased the Jewish population from 24,000 to
only 90,000. However, in the 23 years from 1924 to 1947, 428,000 immigrants came and
significantly changed the demographic balance in Palestine. This further highlights the
contribution of the Johnson-Reed Act of 1924 in the United States to the success of Zionism in
the twentieth century. What the Zionist movement could not achieve until then, despite all its
efforts, became possible once the American gates closed for Jewish immigration. The Jews of
Eastern Europe, who felt the ground shaking under their feet, came in growing numbers to
Palestine. The immigration of pioneers and idealists finally became mass immigration.
FIGURE 1.1 Annual immigration relative to beginning-of-year population, 1920–2018 (percent).
Data from Mandatory period are from Metzer (1998, table A.3) and after 1948 from Central Bureau of Statistics (2019, table
The Jewish immigration changed the country beyond recognition in several respects:
Demography: Jewish immigration increased the Jewish presence in the country from a
negligible minority in the beginning of the British Mandate to one-third toward its end. After
1948, immigration increased the Jewish population of Israel by ten times and made the Jewish
State a solid fact.
Geography: Most Jewish immigrants did not settle among Arabs but established separate
Jewish settlements. They settled mainly in the coastal plain and in the valleys, but some also
settled in the Galilee and in the Negev. Some of these settlements became large cities. Hence,
immigration significantly changed the physical map of the country.
Politics: The Jewish immigration led to a violent conflict with the Palestinians, which
expanded in 1948 to a wider conflict with the entire Arab world. The immigration also increased
Jewish population to a point of being able to demand self-determination and to establish the State
of Israel, significantly changing the political map of the Middle East.23
Economics: The Jewish immigrants built a thriving economy based on agriculture (in which
they had no previous experience), industry, high-quality education, and services. The economic
development of the Yishuv, and later of Israel, transformed within 50 years a poor country into
one of the thirty most developed countries in the world.
Institutions: The Jewish immigration was not only an act of individuals but also part of a
political project, Zionism. The Zionist movement encouraged immigration and created the
necessary conditions for successful absorption of the immigrants. It did so by promoting
economic growth, which provided housing, jobs, and institutions that improved the lives of
Finally, it is useful to compare the Jewish immigration to Palestine and Israel to other
migrations in modern history. One similarity is that all migrations are not continuous, but come
in waves, since they respond to bad conditions in the countries of origin, like the great Irish
famine in the mid-nineteenth century. The immigration waves to Palestine and Israel followed a
similar pattern. The waves of immigration followed the terrible conditions in Poland between the
two World Wars; the rise of Nazism; the Holocaust; the wars between Israel and the Arab
countries; and more recently, the collapse of the Soviet Union.
Another similarity between the Jewish immigration to Israel and other migrations is that good
economic conditions in the receiving country are required for immigration. This has been the
case for the United States almost throughout its history, and in Europe in this century. Similarly,
Jewish immigration to Palestine and Israel declined during the economic crisis of 1927–1928,
during the recessions of 1952–1953 and 1966–1967, and during fiscal crisis and high inflation in
1973–1985. Ben-Porath (1986a) also confirms that good economic conditions in Israel
encouraged immigration.
However, the Jewish immigration to Palestine and Israel differed from most other migrations
in two main aspects. First, most of the immigrants had middle-class backgrounds, education, and
moderate financial means far above those of immigrants in other modern episodes. The reason is
that while most immigrants leave due to economic hardships, Jewish immigrants left mainly for
national and religious reasons. Part I in this book shows that this was relevant to Israel’s
economic success. A second difference from other immigrations is that the Jewish immigration
was part of a national movement. Zionism, the political movement that encouraged and
supported this immigration, was instrumental to its success.
The Israeli-Arab Conflict: The Beginning
As shown above, Jewish immigration to Palestine increased Jewish presence in the country
beginning in 1882 and especially since 1924. The immigrants, who came under the umbrella of
Zionism, built villages and towns and established institutions like schools, journals, universities,
companies, and even defense organizations. The indigenous Arab population soon understood
the significance of this development and viewed it as a serious threat.
This was the background to the Jewish-Arab conflict. However, it took time to brew. Some
local clashes between Jews and Arabs took place at the beginning of the Zionist settlement, but
these were rather random and rare. The clashes evolved into a national conflict only after the
British occupation in 1917.24 The Ottomans, who had ruled the country before, established a
stable regime that lasted more than 400 years, under which many ethnic and religious groups
lived in mostly peaceful coexistence. As many believed that this situation would last forever,
they viewed local national aspirations as unrealistic and hesitated to follow them. Only toward
the end of the nineteenth century did a general Arab national consciousness begin to develop.
The British occupation of Palestine ended this status quo for several reasons. First, the sudden
disappearance of the Ottomans made national aspirations seem more realistic. Second, the British
arrived with two conflicting national promises. On one hand, they promised the Arabs
independence, in return for their help in winning the war in the Middle East.25 The promise was
vague, and it did not refer directly to Palestine; nevertheless, it encouraged the Palestinians to
exert pressure on the new British government in their favor. On the other hand, the British
delivered to the Zionists the Balfour Declaration in 1917, which promised support of a Jewish
national home in Palestine. With Palestine under their rule, they could fulfill the promise. These
two conflicting promises caused both sides to hope that with enough political pressure, they
could tilt the scales in their favor. This explains the first major outbreak of the conflict in 1921.26
Despite the importance of the British promises to both sides, the main motivation behind the
escalation of the conflict was Jewish immigration, as shown by the correlation between
outbreaks of the conflict and waves of immigration. The events of 1921 happened after the
arrival of the Third Aliyah in 1919, and the events of 1929 erupted after the Fourth Aliyah.
Interestingly, H. Cohen (2015) describes the events of 1929 as the true beginning of the JewishArab conflict and indeed, the fighting broke out after the beginning of mass immigration in 1924.
The Arabs realized that the Jewish presence in the country was no longer negligible but
significant and growing fast, due to large influxes of Jews. Similarly, the Arab Revolt of 1936–
1939 broke out at the peak of the Fifth Aliyah.
From early on, the Palestinians focused on one main demand from the British: to stop the
flow of Jewish immigration. For a long time, the British refused to comply with this demand,
which contradicted the Balfour Declaration and the mandate by the League of Nations. However,
under Palestinian pressure, mainly due to the Arab Revolt, eventually the British changed their
position. The famous White Paper of 1939 imposed severe restrictions on Jewish immigration.
Jewish immigration contributed to the conflict not only by raising Palestinian resentment but
also by increasing Jewish self-confidence. As their number increased to a third of the population
in the 1940s, and being much better organized than the Arabs, their willingness to fight for
independence increased, and their demands became more daring. In the 1940s, the Biltmore Plan
already demanded a Jewish state. The Zionists also put significant pressure on the British
Mandate by increasing the illegal immigration of ships that arrived by night on the beaches.
These developments helped bring the Mandate to its end and expedited the onset of the war of
The Main Eruptions of the Conflict
The history of the Israeli-Arab conflict reveals two patterns, which are of great importance to the
economic analysis of the conflict. One is that violence is not continuous over time but erupts
every few years. The second is that the conflict has changed its scope and character several times
over the years. Recognizing these two types of variation in the conflict can help researchers
study and identify the effects of the conflict on the economy.
The following list of eruptions demonstrates the first phenomenon that violence breaks out
only once in a few years, while between these eruptions, the conflict is contained.28
The events29 broke out in Jerusalem following the Nebi Musa celebrations but expanded to other
areas, such as Jaffa (among those murdered was the famous writer Y. H. Brenner).
These events followed clashes over the prayer arrangements at the Western Wall in Jerusalem,
and quickly spread to other places. The most deadly attack was in Hebron, where Arabs killed
dozens of Jews, and Jewish life ceased to exist there afterward.
THE EVENTS OF 1936–1939
These were more intense and longer than earlier events, and indeed, the Palestinians call it “the
Arab Revolt.” The Palestinians fought not only against the Jews but also against the British,
demanding that Jewish immigration be stopped. The British brutally suppressed the revolt, but
the publication of the British “White Paper” in 1939 shows, that despite its military failure, the
revolt achieved its main political goal.
The war began immediately after the UN resolution on the partition of Palestine in November
1947. Its first stage was limited to a war between the Jewish and Arab communities. In April
1948, it became clear that the Jews were winning, and most Palestinians from the area intended
for the Jewish state left their homes or were expelled by force. That started the problem of
Palestinian refugees, and it is why the Palestinians call this war “Nakba” (“disaster”). As the
British left and the Yishuv declared the State of Israel in May 1948, Arab armies from Egypt,
Jordan, Syria, Iraq, and Lebanon invaded the country and joined the war. At its end in 1949,
Israel controlled 78 percent of the territory of Palestine, more than it got under the UN plan. The
Armistice Agreements with the neighboring Arab countries set the temporary border of this
territory, the “Green Line,” which survived for 19 years. The number of Israelis who died in the
war was about 6,000, close to 1 percent of the population.
In this war, also called the Suez Campaign, Israel attacked Egypt after a long period of border
clashes due to infiltration of Palestinians into Israel and to Israeli retaliations. The attack was
coordinated with Britain and France, who planned to conquer the Suez Canal and return it to
their control after Egypt had nationalized it. Israel conquered the Sinai Peninsula within a week,
but it had to withdraw back to its previous borders within a few months, due to joint pressure by
the United States and the Soviet Union. Israel lost 172 soldiers in the war.
In May 1967, Egypt sent army forces to Sinai in violation of the demilitarization agreements,
removed the UN forces from the border, and closed the Red Sea to Israeli ships. These moves
created great tension between the sides; after a few weeks, Israel attacked Egypt and conquered
the Gaza Strip and the Sinai Peninsula up to the Suez Canal. As Jordan and Syria joined the
fighting, Israel captured the West Bank from Jordan and the Golan Heights from Syria as well.
Israel lost 776 soldiers in the war. Unlike the Sinai Campaign, Israel remained in the occupied
territories without much pressure to withdraw, partly due to growing US support. This led to two
important results. First, Israel now controlled, for the first time, all of Palestine and the
Palestinians who lived there, which changed dramatically their role in the Israeli-Arab conflict.
Second, remaining in the territories after the war increased the tension between Israel and its
neighbors, which led to an escalation in the Israeli-Arab conflict.
As the Arab world did not accept the results of the 1967 war, the War of Attrition began soon
after. This was a static war, mainly with Egypt along the Suez Canal, but also with Syria on the
Golan Heights and along the Jordan River against the new Palestinian organization, Fatah, which
was part of the Palestinian Liberation Organization (PLO). In the War of Attrition, Israel
suffered 1,424 fatalities, twice as many as in the Six-Day War.
This war, also called the “October War” or the “Ramadan War,” began when Egypt and Syria
attacked the Suez Canal and the Golan Heights, respectively. The attack was part of the Arab
effort to force Israel to withdraw from the territories occupied in 1967. The war was fierce. It
lasted three weeks, and Israel suffered a great loss of life, 2,297 soldiers. It also lost much
equipment and ammunition, so the economic cost of the war was heavy as well. In retrospect, we
can say that this war paved the way to the 1979 Peace Agreement with Egypt, where Israel
withdrew from Sinai in return for full peace, mutual recognition, and diplomatic relations.
Israel began the war with two main goals. The explicit goal was to push the PLO forces from
southern Lebanon, from which they could fire rockets on Israeli towns and villages in the north.
The PLO forces settled in Lebanon, after they escaped Jordan in the “Black September” of 1970.
An additional implicit goal of the war was to intervene in the Lebanese civil war, which began in
1975, in support of the Maronite Christians. Israel achieved the explicit goal within a few
months, when the PLO forces left Beirut and Lebanon, mainly to Tunisia. The other goal of the
war failed completely. Not only did Israel fail to impose the Maronite militias on Lebanon, but it
also created a new enemy. The Shiites in southern Lebanon formed a strong militia, Hezbollah,
which began a guerrilla war against Israeli forces in Lebanon. In 2000, 18 years after it invaded,
Israel withdrew completely from Lebanon, after suffering 1,216 fatalities in this war.
This was the first widespread Palestinian uprising since the Israeli occupation of the Palestinian
territory in 1967, and in fact the first direct Palestinian-Israeli confrontation since 1948. The
Intifada began with demonstrations, stone throwing, strikes, and boycotts of Israeli goods, but
later deteriorated to the use of arms. The PLO directed the Intifada from abroad, but soon a new
force emerged, Hamas, the Palestinian branch of the Islamic Brotherhood. Some 200 Israelis and
1,200 Palestinians died in the First Intifada. In 1988, the PLO agreed to partition into two states,
thus paving the way for peace talks with Israel. The negotiations between Israel and the PLO
began after the election of Yitzhak Rabin to be the Israeli prime minister in 1992 and led to the
Oslo Agreements in 1993. The agreements included mutual recognition, establishment of
temporary Palestinian Autonomy in the territories, and promised to reach a Final Status
Agreement within five years. The Oslo agreement also enabled the peace agreement between
Israel and Jordan in 1994.
Following the occupation of Kuwait by Iraq, the United States led a large coalition of countries
to fight Iraq in “Operation Desert Storm.” Israel was not part of the coalition, but Iraq fired many
conventional missiles at Israel. Israel held back and did not respond, so its part in the war was
passive, and it suffered very few casualties.
In July 2000, negotiations on the Final Status Agreement between Israel and the PLO at Camp
David failed. Tensions between the sides increased, and in September, the intifada began (the
Palestinians call it the “Al Aksa Intifada”). The Second Intifada was more intense than the first,
with greater use of firearms, and hence it caused more fatalities: 1,100 on the Israeli side and
close to 5,000 on the Palestinian side. Israel suppressed the intifada by the use of large military
campaigns. The Second Intifada ended in 2005 with the Disengagement from the Gaza Strip.
This was a unilateral withdrawal from the Gaza Strip, including demolition of the settlements
This was a relatively minor war between Israel and Hezbollah. It erupted mainly due to unsettled
issues from the previous war in Lebanon, such as the status of the remaining Lebanese prisoners
in Israel and border issues. Israel suffered 170 fatalities in this war.
Israel left the Gaza Strip in 2005 but continued to control its borders by land, sea, and air. In fact,
Israel put Gaza under a siege, which intensified after Hamas’ victory in the Palestinian Authority
elections in 2006, and further after Hamas took over the security forces in Gaza in 2007. The
Gazan answer to the siege was the development of “Qassam” rockets that enabled Hamas to
harm routine life in Israel around the Gaza Strip. The tension along the border between Israel and
Gaza is high and has led to several eruptions in 2006, 2008, 2012, and 2014. The heaviest
fighting took place in 2014, killing 73 Israelis and more than 2,000 Palestinians.
Figure 1.2 presents the annual number of Israeli military fatalities. It demonstrates the pattern of
eruptions in the Israeli-Arab conflict and between them years of relative calm. Note that figure
1.2 also shows a trend of rising fatalities over time in calm periods, as the number of fatalities
includes not only soldiers killed in action but also in accidents. This leads to an upward trend, as
the population and the size of army grow. Figure 1.2 also shows a marked rise in the number of
fatalities in the years 1967–1977, when the Israeli-Arab conflict intensified significantly.
Changes in the Type and Intensity of the Conflict
Until 1948, the conflict was between two ethnic communities in the same country. Militarily, it
was a conflict between militias, because neither side could build a real army, as it was illegal
under the British rule. Thus, until 1948, it was a narrow conflict, only between Israelis and
Palestinians, with low costs, in terms both of human life and of arms and ammunition. In 1948,
with the invasion of Arab armies, the conflict expanded from a narrow to a wide conflict between
Israel and all Arab countries.
It is hard to explain this expansion of the conflict. The Arab countries claimed that they
invaded Palestine to help the Palestinians, but they may also have hoped to grab some Palestinian
territories, as Jordan captured the West Bank and Egypt the Gaza Strip. Another explanation is
that the establishment of Israel, in its exceptional location, divided the Arab world into two
separate areas, thus harming it significantly. A fourth explanation is that Palestine was holy and
had been important to Islam for more than 1,300 years. Whatever the explanation, the change in
the conflict in 1948 was not only political but also military and economic. From a militia
conflict, it upgraded to a conventional military conflict. Thus, it became much more costly in
human life, arms, and ammunition, as fighting involved not only infantry, but also tanks,
artillery, air forces, and navies.
FIGURE 1.2. Annual military fatalities, 1910–2018.
Data are from the Ministry of Defense. See Freedom of Information (2018).
The Israeli-Arab conflict remained wide for more than 30 years, until the 1979 peace with
Egypt. This was peace with one country only, but it was with the strongest Arab country
militarily. Since forming an Arab fighting coalition against Israel became impossible without
Egypt, the wide Israeli-Arab conflict ended de facto. Chapter 5 supplies additional evidence that
the wide conflict indeed ended in the 1980s.30
The Palestinians were early to recognize that the wide conflict with the Arab countries ended
and that no one would fight for them any more. This realization triggered the First Intifada in
1987. Since then, the conflict has returned to its pre-1948 shape, as a narrow Israeli-Palestinian
conflict. The type of fighting changed as well, from conventional warfare to militia fighting.
Although it is the army that fights on the Israeli side, it uses mainly infantry, which is similar to
using a militia. On the Palestinian side, there are two major militias since the First Intifada, Fatah
and Hamas. A conflict between militias is much less costly than the conventional wars of the
The list of eruptions together with figure 1.2 show that even during the period of the wide
conflict, there were large variations in military activity. The 10 years after 1967 were years of a
significant rise in the intensity of the conflict. Instead of one eruption in a decade, as before
1967, this decade saw three wars: the Six-Day War, the War of Attrition, and the Yom Kippur
War, and all three were costly. A plausible cause for the rise in intensity of the conflict after
1967 is that Israel did not withdraw from the territories it had conquered in the war, unlike after
the 1956 Sinai campaign. As a result, Egypt, Jordan, and Syria continued to apply military
pressure on Israel to withdraw from these territories. The high intensity of the conflict after 1967
had many economic consequences, as shown in chapter 5.
Building a New Nation
The new nation of Israel built many institutions: economic, governmental, social, and cultural.
Over the past 100 years, Israelis have invested a huge creative effort in these institutions to
support the Zionist goal of absorption of the immigrants and their integration into a nation. The
history of these institutions is important not only in itself but also helps to understand the present
as well, since institutions have strong inertia and change slowly over time. Thus, understanding
many current Israeli institutions, like the Histadrut (General Union of Workers in Israel), the
Labor Party, or the Jewish Agency, requires knowledge of how these institutions began and what
their original purposes were. The conditions in which these institutions were born have long
changed, but the institutions themselves have changed too little and too slowly since then. In
general, institutions are of great importance for the functioning of the economy.31
The brief discussion in this chapter cannot cover all aspects of Israeli institutions, so it
focuses on four issues only. The first is that the institutions established by the Zionist movement
were for Jews only. The second is the great role of the political parties in Israel. The third issue is
how the labor movement dealt with the tension between its two ideologies, Zionism and
Socialism. The fourth issue is the gaps between European Jews and Jews from Arab and Muslim
The Zionist movement made great efforts to absorb the immigrants successfully, hoping that it
would encourage immigration of more Jews. To achieve this goal, it built institutions that were
by nature for Jews only. An example of such institutions were the Zionist political parties, which
helped absorb new members on arrival in the country. These were clearly Jewish parties. After
the establishment of the State of Israel, these parties remained the leading political parties, and
they kept their Zionist character. As a result, only few Israeli Arabs could join these parties,
which remains the situation today.32
Another example of institutions for Jews only is the Jewish Agency and its related
institutions. The Jewish Agency was the representative of the Yishuv before the British
authorities, and it actually functioned as a government of the Yishuv. After the establishment of
the State of Israel, the Jewish Agency remained active, with two main goals. One was to promote
Jewish immigration to Israel, and the second was to build new settlements. Naturally, these
settlements were for Jews only. A related institution was the Jewish National Fund, which
purchased land for Jewish settlement during the Mandatory period. After 1948, this institution
controlled a large share of the land in Israel. As such, it contributed to discrimination against
Israeli Arabs in land use.33
The discrimination was much worse in the early years of Israel, especially due to the military
rule imposed on Arab towns and villages, which lasted until 1966. Discrimination declined over
time, but it has never fully ended. One channel is through labor markets, as described in chapter
13, where Arabs find it hard to find jobs in firms that work with the defense establishment.
However, the toughest discrimination is in the area of land development and housing, as
described above.
The Yishuv also established educational institutions: primary schools, high schools, and even
two institutions of higher learning (the Hebrew University of Jerusalem and the Technion, a
technology institute in Haifa). All schools taught in Hebrew and were open to Jews only during
the Mandatory period. With the establishment of the state, these schools became a public
education system that consists of three separate systems: state, state-religious, and Arab, while
only universities are open to all. Hence, to understand why Israel has separate educational
systems for Jews and Arabs, it is necessary to keep in mind the Mandatory period and the
separate settlements of Jews that began very early.
The Zionist movement established many more institutions. A major one was the general labor
union, the Histadrut, which also created additional institutes that supplied jobs; housing; pension
funds; and health care, such as Kupat Holim and its hospitals.34 The Histadrut organized only
Jewish workers during the Mandatory years. After 1948, it accepted Arabs in a separate “Arab
department.” Only after 1966 did Arab workers become full members of the Histadrut. The
Zionist movement created additional health-care and housing institutes outside the Histadrut as
well, like the housing company Rassco (Rural and Suburban Settlement Company), the Hadassah
hospitals and other health funds. It also created institutes to promote science, such as the
Weizmann Institute, the Academy of the Hebrew Language, and the National Library. Other
institutions, like publishing houses, newspapers, and theaters, promoted culture and the arts.
Most of these institutions continued to operate after 1948, and many remain exclusively for Jews
to this day.
Hence, the story of how separate institutions for Jews began is not just history but is part of
the explanation of how Israel operates today. The separation was understandable under the
British Mandate, in a period of immigration absorption and national consolidation. As
institutions are highly inertial, many still remain separate. Nevertheless, the separation is also a
longstanding policy of the Israeli government and not only a result of the inertia of institutions.
There are many examples of this policy, like the widespread land confiscations in 1976 and the
recent attempts to evacuate Bedouin settlements from their land. These policies reflect how the
continuing conflict between Israel and the Arab world affects the relations between Jews and
Arabs in Israel. Part of this policy operates by keeping the separating institutions active.
Among the institutions built in Palestine, the Zionist parties were uniquely strong, far more so
than political parties in other countries. These parties used to own and operate school systems,
health funds, newspapers, publishing houses, banks, and even militias.35 How did the Zionist
parties acquire such organizational and economic power? One explanation is that since Zionism
was a national-political project, parties played an important role in it. The Zionist movement
formed in 1897 and soon became a coalition of Zionist parties, which covered the full political
spectrum: left, center, right, and religious.
To understand better the strength of the Zionist parties, it is important to consider their mode
of operation. Each of them functioned on a dual basis, in Palestine and in the Diaspora. This
enabled them to encourage and organize their supporters abroad to immigrate to Palestine. Even
the British Mandate officially recognized this role of the Zionist parties as recruiters of
immigrants. The British, who issued immigration permits (called “Certificates”), granted these to
the Jewish Agency, which divided them among the various parties.
Hence, the parties acted as importers of the two main factors of production in every modern
economy: labor and capital. Most of the immigrants became workers in Palestine, and they came
mainly through the parties of the labor movement. However, many immigrants brought with
them some wealth, though mostly modest. They arrived mainly from Poland and Germany and
belonged to the centrist Zionist parties. These immigrants invested in domestic projects and thus
imported capital. They invested in industry, commerce, citrus growing, and other economic
areas. During the Mandatory period, immigrants’ money funded these investments. In
agriculture, the labor movement built the settlements, kibbutzim, and moshavim, and supplied
the labor, but the financing came from Zionist donations, organized by all Zionist parties. Hence,
being importers of labor and capital to the growing economy gave these parties a lot of strength.
Of all the Zionist parties, the most powerful and energetic were the Zionist-Socialist parties,
which formed the labor movement. In their center was Mapai (the Party of Workers of the Land
of Israel), led by David Ben-Gurion. To their left was mainly Hashomer Hatzair, which later
became Mapam. From the early 1920s, the labor movement became the leader of the Yishuv and
of the Zionist movement in general. They led the process of nation building, all the way to the
establishment of the state in 1948, and then through shaping the young country, until 1977. The
leadership of the labor movement was widely supported, and they presided over a broad coalition
of parties. This coalition included the two liberal parties, the General Zionists at the center-right
and the Progressives at the center-left. The coalition also included the religious-Zionist party,
Hamizrahi and even a Zionist-Socialist branch of the Ultra-Orthodox party, Poalei Agudat
Yisrael. The main opposition to the labor movement during the Mandatory period was the
Revisionist party of Ze’ev Jabotinsky on the far right, which even left the World Zionist
Organization. After the establishment of the state, the revisionist party became Herut, under
Menachem Begin. Later, it joined forces with the General Zionists, who left the coalition with
the labor movement, to form the Likud Party. In 1977, they won the elections, formed a
government, and ended 60 years of leadership of the labor movement.36
What explains the rise to power of the labor movement? What enabled it to reach leadership so
quickly, even though the movement was far from the center? Without pretending to give a full
answer to this question, I would like to offer one explanation, which also connects to later
economic policies of the labor movement. It focuses on the movement’s flexibility and its ability
to adapt to the changing conditions in Palestine.
Workers’ movements elsewhere responded mostly to the distress of workers in their
workplaces, and hence, struggled mainly for better labor conditions, shorter workdays, and
unionization. However, the situation in Palestine was very different. The main problem of
workers was not how to cope with the employer in the workplace but rather to find a job. This
difference is due to two main reasons. The first was the rapid flow of immigrants, which required
a rapid buildup of new jobs. The second was competition for the few existing jobs with the
domestic Arab workers, who were willing to work for less and were more experienced,
especially in agriculture, which was a large sector at the time. The labor movement developed
two main ways to cope with the lack of jobs, which drew a sharp difference between it and
typical Socialist parties. The first was to create jobs by itself, by becoming an employer, and the
second was to launch a campaign against hiring Arabs, termed “Avoda Ivrit” (Hebrew Labor).
In agriculture, the labor movement created jobs by establishing cooperative settlements,
known as kibbutzim and moshavim. This was the preferred solution for Jewish agricultural
workers, because once they owned the settlement, they could ensure that only Jews worked
there, while the older moshavot, which were privately managed, often employed Arabs. Hence,
the cooperative settlements were not only the outcome of labor ideology but also of the desperate
need to create jobs for immigrants. However, building settlements required funding for purchase
of land and for construction. The funding came from donations, which arrived mainly from
centrist Zionists. This cooperation between Socialists and centrists led the labor movement to
inevitably compromise on its socialist principles, since it had to convince its partners that the
cooperative settlements were not part of a socialist revolution but rather of a national revolution
The labor movement created jobs not only in agriculture but also in other sectors. The
Histadrut, the general labor union of Jewish workers in Palestine, founded in 1920, built a
network of companies called “Chevrat Haovdim,” namely, the “company of workers.” It
included construction companies like “Shikun Ovdim,” an infrastructure company “Solel
Boneh,” a financial institute “Bank Hapoalim,” a produce distribution company “Tnuva,” and
many more. By willing to build jobs and by becoming an employer, the labor movement
demonstrated its flexibility in adapting to the conditions in the new country. This brought it
broad support, not only of the workers but also of others, who realized that the labor movement
was working for national rather than for class interests, as it gave Zionism top priority.
The labor movement not only created new jobs but also struggled against hiring Arabs in
Jewish workplaces, under the slogan of “Avoda Ivrit.” They demanded that Jewish employers
should not employ Arabs but Jews, even if it harmed their profits. The wide Jewish public
viewed this struggle as support of Zionism and not as an act of narrow class interests. It thus
gave the labor movement further popularity, despite its cruelty. In 1929, David Ben-Gurion, then
secretary general of the Histadrut, wrote the following, insisting on 100 percent of Jewish labor
not only in Tel Aviv but in the moshavot as well:
The situation of the Jewish worker who immigrates to the country is the opposite of that of
any migrant worker in other countries, such as North America, Canada, Australia and more.
In these countries, the local worker is at a higher stage of development than the immigrant is.
The latter’s level of life is lower, and he makes do with little and appears from this as a
competitor that harms the local worker and lowers his wage. In this country, the situation is
reverse. The immigrant’s standard of living, needs and culture are immeasurably higher than
those of the local worker. The Jewish worker cannot and does not want to work in the inferior
conditions of the Arab worker, and if the Jewish economy does not guarantee jobs to Jewish
labor, Jews have nothing to do in this country.37
Clearly, such policies of creating jobs, to the extent of becoming a big employer and
discrimination on a national-ethnic basis, were very different from the long tradition of socialist
movements and trade unions in Europe, where the labor movement originated. This departure
reflected the very different conditions of Jewish workers in Palestine and the leading role of the
Zionist-Socialist parties in the Zionist movement. The Jewish workers in Palestine, who were
new immigrants, accepted and embraced these policies. They understood that such policies
helped them obtain jobs. They also agreed with the priority of national over socialist goals, since
they understood the importance of the great national project in which they took part.38
However, the policies of the labor movement created an inevitable tension between Zionism,
which won precedence, and Socialism, which remained behind. Zeev Sternhell (1998) wrote
about this tension: “Socialism was soon a tool for achieving national goals and not a means of
creating a new social order.” Sternhell is more critical than I am and claims that “the inability of
the labor movement and its failure to build an egalitarian society stemmed not from objective
constraints but from a conscious ideological decision.” The departure of the labor movement
from the Socialist tradition began early in the 1920s, when the Histadrut was established, but it
deepened over time. When the labor movement gained control over the Jewish Agency in 1931
and solidified its leadership of the Zionist movement, David Ben-Gurion published a book titled
From Class to Nation, which says it all.39 After 1948, the process deepened when Ben-Gurion
formed a new ideology, “Statism” (Mamlachtiut).40 It called to grant superiority to the new
institutions of the state, over sectoral loyalties. This ideology weakened the labor movement
significantly. At the Eighth Conference of the Histadrut in 1956, David Ben-Gurion said: “The
State is a more efficient, powerful and comprehensive instrument than the Histadrut.”41
As argued above, the choice of the labor movement to give priority to the national interest
was unavoidable. It was necessary for the success of the Zionist project and for the absorption of
immigrants, especially workers. However, the labor movement paid a dear price for this choice
later. Already in the 1960s, Viggo Kampmann, former prime minister of Denmark, noticed after
a visit to Israel:
What the Histadrut does and what the State does is not Socialism. This is capitalism of the
government and capitalism of the trade unions. You created socialist societies in agriculture,
but not in industry. It does not matter if the employer is the state, the Histadrut, or a private
employer. The relations between the worker and the employer are similar in all cases, and the
wage is similar. There is no ideological content in enterprises of the state or of the trade
unions, because they have to compete with the private industry.42
The price that the labor movement paid later was much harsher. It led the national revolution
and built the state, but once this mission was accomplished, it found itself empty. It could not
become a regular Social Democrat party, not only because it abandoned much of this ideology
long ago but also because of the profound social changes in the country. The mass immigration
in the first years of the state pushed up much of the previous regular members of the labor
movement to positions of managers, directors, and professionals. Their previous working
positions were taken by the new immigrants, who came mainly from Arab countries. These new
immigrants accepted initially the hegemony of the labor movement, but soon realized that its
Socialist rhetoric was empty. The Histadrut marched annually on May Day, but it was one of the
largest employers in the country. Thus, the ideological tension became a socioeconomic tension
between the labor movement and the new working class. Furthermore, the tension was also
partly ethnic, between the veteran East Europeans and the immigrants from Arab countries.43
These tensions between the Socialist rhetoric and the capitalist practice, and between the new
working class and a party that consisted increasingly of a new elite of managers and executives,
together with the tension between East Europeans and new immigrants from Arab countries,
gradually eroded the support of the labor party. Not only the new working class abandoned it, but
later the managers and the executives also abandoned it, as they no longer needed the socialist
rhetoric. They preferred to support centrist neoliberal parties directly. That led to a long process
of decline, until recently, when the leading party of the past won only three to seven seats out of
120 in recent election rounds and almost faded away.
Of the 483,000 immigrants who arrived in Palestine during the Mandatory period, only 45,000
came from Asia and Africa, while 90 percent emigrated from Europe. After 1948, the picture
reversed. In the first 20 years of the State of Israel, 1948–1968, 53 percent of the immigrants
came from Asia and Africa, namely, from Muslim countries, like the Arab countries, Iran and
Turkey.44 This had significant effects not only on Israeli demography but also on its economy
and society. Immigration led to significant gaps between European (or Ashkenazi) immigrants
and Mizrahi immigrants from Muslim countries. Some gaps carried over to subsequent
generations as well. Many have claimed that some of these gaps were due to discrimination
against Mizrahi Jews, and this is a major issue in Israeli discourse. While we discuss these gaps
economically later in the book, here we describe some of their institutional and cultural aspects.
One possible explanation for these gaps is that the institutions from the Mandatory period
created automatic preference for Ashkenazi over Mizrahi immigrants. The people who operated
these institutions were mainly East Europeans, and it is possible that when the great immigration
arrived in the early years of the state, they treated the European immigrants preferentially, since
they shared with them memories, acquaintances, language, and culture.
The issue of ethnic discrimination is always high on Israel’s public agenda. Nonetheless,
there are not many historical studies on it. Recently, a film on the history of Development Towns
in Israel has made public some documents of the Jewish Agency from the 1950s and 1960s,
which were previously confidential.45 The documents reveal that the Jewish Agency sent
immigrants from North Africa directly to the new Development Towns in the periphery, while it
sent immigrants who arrived from Poland at the same time to the center. Another indication for
institutional discrimination is from the 1970s, when the Likud began to accumulate political
power, first in local and then in the central government. Many Mizrahi Jews reached positions of
power and influence through the Likud party, which indicates that they have previously faced
serious barriers to social and political upward mobility.
The immigrants from the Arab countries not only faced institutions run by people who were
alien to them and even discriminated against them, but they also confronted harsh cultural
barriers. The Jews in Arab countries, especially those who lived in large coastal cities, were
exposed to Western culture, French in North Africa, Italian in Libya, English in Iraq, and more.
However, they were closely connected to the Arab culture in their home countries as well. In
general, Jews fared better overall in Islamic than in Christian countries. While the Jews in the
latter suffered from severe persecutions, Jews were safer in Muslim countries, although life was
far from perfect for them. They were subject to various legal restrictions, some of which were
abolished during the nineteenth century, but they enjoyed basic security and were much more
integrated in society in general than they were in Christian countries.46
The establishment of the State of Israel in 1948 put the Jews in Arab countries in a terrible
dilemma between their people and their neighbors. Most chose their Jewish brothers and sisters
and immigrated to Israel.47 When these immigrants arrived in Israel in its early years, a
significant part of their culture was Arab, as they spoke Arabic, read Arabic, and listened to Arab
music. They came to a country that had just finished a bloody war with the Arab world, in which
Arabs were the enemy across the border. Furthermore, following the victory in the war of
Independence, Israelis developed contempt toward Arabs. Some of it spilled over to Jews from
the Arab countries, whom they viewed as primitive and of low culture. In the first decades, Arab
culture was taboo in Israel. To integrate into the new country, Jews from Arab countries had to
give up large part of their culture. This is always difficult, and when it comes with the general
difficulties of adapting to a new country, especially for immigrants who face condescension, the
absorption process becomes much harder.
Overall, the process of integration of the Jews from the Islamic countries to Israel has been a
great success story. The immigrants and their children occupy many important positions in the
country, and the economic gaps between them and the Jews of European origin have declined
significantly.48 However, the gaps have not yet fully disappeared, not even at the second
generation, born in Israel, as chapter 13 of this book shows. Furthermore, the feelings of
exclusion and discrimination still linger and have a large effect on the discourse in Israel, both in
standard and in social media.
Success and Its Costs
The historical background in this chapter is actually one of the great success stories of the
twentieth century: Zionism. The Jewish national movement was a reaction to the great Jewish
distress in Eastern Europe, and it succeeded in directing a large part of the Jewish immigration to
Palestine, a poor and dangerous country at the time. This movement built flourishing agriculture
by immigrants who had no previous farming experience in their countries of origin. This enabled
the movement to get control over vast areas of the country, which was vital to its success. The
movement built a rich system of political, social, and economic institutions that amplified the
power of the small community. Without prior military experience, it succeeded in coping with
the Arab military threat and in establishing a state during a bloody war, and later even became a
regional power. Another important move was bringing in the Jews from the Arab countries in a
short period. This move increased the population of the young state and helped solidify its
existence in the Middle East. The Peace Agreement with Egypt also contributed significantly to
the security and the economy of Israel.
It is impossible to understand the Israeli economy without considering the background of the
Zionist project. As Don Patinkin, the founder of academic economics in Israel, wrote in the
introduction to his book on the first decade of the Israeli economy: “The ingathering of the
exiles. This is the policy and the reality that has left its deepest mark on every aspect of Israeli
This book shows that just as Zionism has been a unique success story, so is the Israeli
economy. However, the success of Zionism exacted a heavy price from many, primarily the
Palestinian people, who left a large part of their country and did not reach independence until
this day. The Jews from the Arab countries also paid a price during the process. These costs keep
hurting the progress of Israel to this day. The Israeli-Arab conflict has not yet been resolved, and
the inner ethnic gaps are still hurting. This book shows that the same issues for which Zionism
failed—the Israeli-Arab conflict and the large gaps within Israeli society—challenge the Israeli
economy as well.
1. See Fromkin (1989).
2. The British authorities called the country Palestine in English, while using the term “Palestine Eretz Yisrael” in Hebrew.
Jews always called the country “Eretz-Yisrael,” meaning the land of Israel.
3. Resolution 181. See
4. See Sela (2002).
5. “Yishuv” is the Hebrew name for the Jewish community in the country before the establishment of Israel. The “Old
Yishuv” were those who had lived in the country before 1882, while the “New Yishuv” were the new immigrants, who came
after 1882.
6. Much of the information on immigration in this chapter is from Bein (1976).
7. See Gat (1963).
8. See Dashefsky and Sheskin (2019), p. 9.
9. See Bein (1976).
10. See Pa’il (1979).
11. See Morris (1987) for a thorough analysis of the refugee problem.
12. The description of waves of immigrations is from Bein (1976), while the numbers of immigrants in each wave are from
Central Bureau of Statistics (2019), table 2.53.
13. Aliyah means “ascent” in Hebrew, a common term for Jewish immigration to Israel. Before the establishment of Israel,
each such immigration wave, or Aliya, had a “serial number.”
14. Moshavot were settlements of farmers, who worked the land on a private basis.
15. See Cleveland and Bunton (2016).
16. A moshav is an agricultural settlement, which is partly collective.
17. See United States Holocaust Memorial Museum (2020).
18. See Alroey (2014), p. 17, for this observation.
19. See Trigano (2018) for descriptions of these migrations.
20. For more on this immigration, see Lissak (1999).
21. See Trigano (2018).
22. Actually, Israel reached an agreement with the United States that the latter would limit entry of ex-Soviet Jews, to
encourage them to go to Israel. Indeed, in 1989 the United States stopped granting Soviet Jews unconditional refugee status. See
Y. Cohen, Haberfeld, and Kogan (2011).
23. See Cleveland and Bunton (2016).
24. See Morris (1999).
25. In the famous McMahon-Hussein correspondence. See Kedouri (2014) for its effect on the conf…
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