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Vivian Bercovici: How Israel went from desert economy to Startup Nation

Israel at 75: It has been mythologized as a 'miracle' that just happened, but the reality is that the transformation was planned

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The National Post has been celebrating the modern state of Israel ahead of its 75th anniversary on April 26, telling the remarkable story of its rebirth and resilience against all odds. 

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TEL AVIV, Israel — Over the past 30 years, the Israeli economy has transformed dramatically. In the late 1980s, the country was considered to have an “emerging,” agrarian and service-based economy, weighed down by an unsustainable national system of personal financial entitlements. With deliberate, intense planning — and discipline — it has transformed, totally.

I had the good fortune to be present in March 2016, when former U.S. secretary of state George Shultz addressed a small gathering in Jerusalem of academics, diplomats and prime minister Benjamin Netanyahu. Secretary Shultz recalled the very dire straits of the Israeli economy in the mid to late ’80s, when inflation soared to 400 per cent at times. Economic reform was imperative but the challenge was sorting out what to do and how. Shultz and other senior American officials worked closely to help their Middle Eastern ally develop a strategy.

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Israel was an isolated country, far from markets that would facilitate traditional trading, and had virtually no natural resources of any value. But it did, of necessity, have a well-developed defence and security sector in which significant technological expertise was nurtured and developed.

Intellectual capital, Shultz and leading Israeli officials determined, was the country’s main asset, and they set about planning how to leverage and monetize it.

Intellectual capital … was the country’s main asset

Shultz lauded the discipline and determination that played out in Israel in the ensuing years. The development of a thriving tech innovation business culture was the outcome of deliberate policy planning and financial incentives. Initially, the army was the petri dish for so much early tech innovation but over time the “startup nation” came to be; a vibrant sector of small entrepreneurs raising seed capital from friends and family to bring their brilliant ideas to the market.

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Israelis being Israeli — they’re more action- than administration-oriented — the earlier startups tended to “exit” the ecosystem quite early. Embedded in the national DNA is a strong “seize the moment” mentality; because you really never know in this volatile neighbourhood what tomorrow may bring. So, there was a tendency, early on, to cash out at the first opportunity and forego the risk of taking the enterprise to the next level.

But in 1998, when Mirabilis — the Israeli startup that developed ICQ instant messaging — was acquired by America Online (AOL) for $400 million (a stratospheric sum in those days) entrepreneurs saw the value in their innovation in a different way. Their eyes popped.

Policy incentives were also modified to encourage bilateral partnerships between Israeli startups and foreign investors in order to facilitate more expeditious access to varied sources of capital. As every aspect of global life and commerce became increasingly digitized in the past two decades, the stature of Israel’s tech prominence grew. In cyber security in particular, PM Benjamin Netanyahu has quipped often in recent years that this tiny country punches way above its weight in the global market, reflecting the quality of products developed here.

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Of course, this is also a direct outcome of the extreme security challenges with which Israel has always contended. The defence sector has long been the crucible for Israel’s impressive tech innovation. Dominating and staying ahead of enemies made tech superiority an existential priority.

Today, technology and innovation constitute approximately 15 per cent of Israel’s GDP and half of its exports. Israeli management culture has matured, and as a result, many founders are retaining control through to the unicorn stage. This is a source of intense national pride and on a pragmatic level also stimulates economic growth in ancillary sectors that service the tech engine. The impact on daily life has been significant.

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Many families have become accustomed to a standard of living that was unimaginable even two decades ago in Israel, similar to what their peers might enjoy in other western countries.

In fact, in 2022, Israel edged out even Canada slightly in terms of per capita GDP; with Israel at US$ 55,963 and Canada US$ 54,919. In 2010, as the innovation economy was gathering momentum, Canada was at $47,500 with Israel trailing at $31,200. The closing of the gap in such a short time is due almost entirely to the innovation economy.

Expectations with respect to quality of life and income potential have jumped significantly among Israelis since the tech innovation market really took off in the early 1990s. It has been somewhat mythologized as this “miracle” that just happened, spontaneously, but the reality is more mundane. Extensive government planning, in close co-ordination with key academic institutions and private sector interests collaborated to create optimal conditions for the tech ecosystem to become more entrenched and thrive.

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Quality of life and income potential have jumped significantly

The fairy tale story of unicorns and rainbows, however, faces a fresh challenge.

Since the November election, the new government — with a hard-right ideological agenda — has set out its legislative priorities, with justice reform being the most urgent. The merits of revisiting certain aspects of the justice system are widely accepted, but the manner in which this government has decided to go about this extremely sensitive task is creating the kind of political uncertainty that imperils investment.

Financial capital prefers to deploy and invest in stable, predictable environments. With these sweeping legislative changes — should they pass — and the resultant social unrest they have sparked, Israel risks rendering itself a less desirable environment in which to invest.

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One long-time academic who has participated in the policy development supporting the tech miracle remarked to me recently: “What took 50 years to build — this miracle — could be destroyed in a matter of months.”

A tiny country with pitiable natural resources, far from global markets and dealing with a harsh security environment, Israel might be the last place on Earth one would have expected to transform into a leading innovation jurisdiction. But it did just that in a few decades.

The immediate and very real challenge is to maintain the edge and continue to stay a step ahead of the competition.

National Post

Vivian Bercovici was the Canadian Ambassador to Israel in 2014-16 and is the founder of stateoftelaviv.com, an independent digital platform and podcast covering Israel and the Middle East. She resides in Tel Aviv.

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