Israel, a country built on ideology, has experienced rapid economic changes since the reforms and initiatives of the mid-1990s. Israel has had an unusual combination of high economic growth indicators and a stable economic infrastructure. Israel was the first nation in the world to have free trade agreements with the European Union, the US, and Canada. Foreign investment has recently been soaring. However, the state has traditionally done relatively little to encourage small business; instead, private funds have promoted entrepreneurship.

Israel, a country built on ideology, has experienced rapid economic changes since the reforms and peace initiatives of the mid-1990s. Israel has had an unusual combination of high economic growth indicators and a stable economic infrastructure. Per capita GDP is at par with Western European countries, while its growth has surpassed that of Asia's tigers. Israel was the first nation in the world to have free trade agreements with the European Union, the United States, and Canada. Foreign investment has recently been soaring. However, the state has traditionally done relatively little to encourage small business; instead, private funds have promoted entrepreneurship.

Israel since Statehood

In 1947, the United Nations' Resolution 181 proposed a partition of British Palestine. As a result, the territory originally known as British Palestine was carved up into three legal entities: the eastern part, called Jordan; a second Arab country, known as Arab Palestine; and Israel, 80 percent of which was already populated or owned by Jews. Israel's declaration of independence, on May 14, 1948, was met by an Arab military invasion. During this war, Jordan succeeded in occupying East Jerusalem and the West Bank (of the Jordan River), and the map of Palestine was re-drawn. In the decades following, a series of short wars between Israel and its neighboring Arab nations continued this pattern of shifting political boundaries and uneasy truces.

This turbulent recent history has certainly had an impact on Israel's economy. During its early years, the Israeli government played a paternalistic role, protecting its people-defense expenditures were high and two out of three people worked for the state. In the Six Day War, Israel reunited Jerusalem and occupied the West Bank, the Golan Heights, and the Gaza Strip. All these areas were integrated into the Israeli economy, but this meant higher prices and political discontent. During these turbulent times, taxes were high in order to pay for a high national defense budget. The Labor Party was in power, and the government was intervening heavily in the economy, through heavy regulation, high taxes, empowered unions, and a welfare state. The socialist policies of the Labor-led government were not conducive to the development of the small business sector.

In 1977, the conservative Likud Party was elected into power, led by Prime Minister Menachem Begin. Begin abolished foreign exchange controls, import licenses, and the notorious travel tax. Further, Israelis were allowed to open foreign bank accounts. Despite these reforms, the Israeli economy was stagnant and inflation reached as high as 112 percents in 1979. The economy was still over-protected and in need of massive restructuring. In response to this situation, the coalition government launched a comprehensive economic stabilization program in July 1985. This emergency measure included a wage freeze, cuts in public spending, and a pegging of the national currency to the United States dollar. On September 4, 1985, a new currency was introduced. One thousand sheqels became one new sheqel. in spite of opposition from labor unions and public officials, a privatization program was launched in 1987.

In 1989, the Soviet Union allowed mass immigration to Israel, and the latter's population grew significantly with the arrival of 500,000 immigrants seeking to improve their standard of living. Although most were well educated, these immigrants lacked expertise in entrepreneurship. Israel also absorbed 30,000 immigrants from Ethiopia during the early 1990s. Housing starts for new immigrants resulted in frenetic construction activity. Continuing immigration and increasing privatization marked the 1990s as the government realized its role had changed. The 1990s also brought inflation under control. The annual rate of inflation had risen from 10 percent in 1970 to 445 percent in 1984, before dropping to 9 percent in 1992 and leveling off at 10 percent in 1996.2

The Impact of Government on Small Business

The role of the government in the Israeli economy has gradually shifted from one of regulator to that of facilitator. With the goal of promoting industrial development, the state established the Industrial Development Bank of Israel Limited in 1957. Small businesses, however, were neglected and hindered by punitive tax rates, bureaucratic red tape in income tax procedures, a value-added tax, and the Bituah Leumi (national insurance).

In 1959, the government passed the Law for the Encouragement of Capital Investments. This was followed in 1969 with the Free Port Zone Law and the Law for Encouragement of Industry. These laws did little if anything for small business and the private sector was still dominated by government-sanctioned monopolies. This system needed to be opened up, allowing market forces to encourage competitiveness.

Trade agreements were a step in the right direction. In 1975, the E.E.C.-Israel Free Trade Area Agreement was signed, eliminating import tariffs on industrial products, but not until 1989. Meanwhile, the U.S.A.-Israel Free Trade Agreement came into effect in 1985. This made Israel the only country having free trade agreements with both the European Union and the United States. Also in 1985, the Flat Free Trade Zone was established on the Red Sea. In 1987, tax reforms were passed that helped small businesses. Maximum corporate tax rates were reduced from 61 percent to 45 percent, and the top personal income tax bracket was reduced from 60 percent to 48 percent.

Still, a problem for small business in Israel is that its labor laws protect more the interests of employees rather than those of owner-managers. The Minimum Wage Law of 1987 stipulates that any full-time worker must receive at least 45 percent of the average wage in Israel (for that occupation). Employees who produce the same work must be paid equally, regardless of gender, education, or experience.

After the Israel-P.L.O. accord was signed in 1993, it was agreed to allow free movement of goods and services between Israel, the West Bank, and the Gaza Strip. The 1994 Israel-Jordan peace agreement crumbled the Arab boycott of Israel, and fast-growing markets opened up to Israel while foreign investment increased. In 1995, Israel was among the best-performing emerging markets, with a 17 percent rise in dollar value. In 1996, the Canada-Israel free trade pact was announced. Real GDP growth during 1996 was 4.3 percent in Israel, compared with 2.8 percent in the United States.

Communal Small Business

Parallel to mainstream small business, communal form of enterprise has flourfished in Israel. Known as the kibbutz, this institution involves a community that shares work, profit, child rearing, and leisure time. Meals and child-care are provided by the group. Although the kibbutz economy was originally based on agriculture, these rural establishments now also produce industrial wares and even computer components.

A spin-off of the kibbutz is the moshav shitufi. Members of these groups collectively own and work land or industry, but live a more traditional family life. An even more capitalist orientation is the basis of another type of group-the moshav prati, in which each family owns and works privately owned land but markets the goods cooperatively.

Women and Enterprise

The kibbutz movement invited men and women to participate equally in various jobs on a rotational basis. As this work included the community's childcare, women were relieved of the sole responsibility for child raising. This precipitated the emancipation of women in Israel. Defense considerations had the same effect-both young men and women were drafted into the army and both came back with a variety of skills easily converted to assets to be used in the non-military economy.

This is not true for all women in Israel, however. Although members of the Druze and Jewish communities are drafted into the army, Israeli Arabs are exempt from military service. This has helped the Bedouins of the Negev Desert to preserve some of their economic traditions. Among these people, one still finds a marked division of labor along gender lines. Bedouin men still expect their women to spin and dye wool and goat hair and to weave cloth for their tents and rugs. Women cook and clean and are expected to bear many children, to care for them, and even to arrange their marriages. Many women in Bedouin society still find intrinsic satisfaction from their assigned duties. It is socially desirable to spend one's life among the extended family; wage labor is considered dishonorable. According to tradition, only men accept occupations dealing with people outside the extended family. Thus, though Arab women in Israel obtained the right to vote before those other Arab countrie! s, Druze religious law bans Druze women from driving.

The American Jewish Joint Distribution Committee, Inc. (JDC)

In an attempt to increase small business ventures among minorities in Israel, a special entrepreneurship and small business program was initiated by the American Jewish Joint Distribution Committee, Inc. (JDC). In 1993, its first entrepreneurship course for the Arab sector was launched, followed soon by a similar course for single mothers. In addition, Professor Amiram Gonen (of the Florsheimer Institute) and Mr. Benny Shiloh (Director of Minorities at the Prime Minister's Office) joined forces to focus special efforts on developing entrepreneurship among Israel's Arab population.

The JDC has existed since Henry Morgenthau, Sr. (the American Ambassador to the Ottoman Empire in 1914) sent a cable to New York philanthropist Jacob Schiff asking for financial assistance. Jointly, the American Jewish Relief Committee, the Orthodox Central Committee for the Relief of Jews, and the People's Relief Committee contributed to the creation of the JDC. Today, the JDC also receives funds from the CBF World Jewish Relief in England. The organization continues to provide non-sectarian assistance in Africa, Asia, Europe, and South America. It also assists immigrants to Israel. Among the immigrants to Israel are Jews from Arab lands. Many have identified themselves as Jewish Arabs rather than as Israelis, and, perceiving a lack of social mobility in mainstream Israeli society, establish new ventures, usually with members of their extended family.

The JDC promotes self-employment as a means to create opportunities for immigrants and refugees. These efforts were accelerated as a result of the great influx of Russian and Ethiopian immigrants to Israel in 1990. During that year, the JDC helped establish Israel's first Center for Small Business Development in Tel Aviv. Co-sponsors included the Ministry of Absorption, the Tel Aviv Chamber of Commerce, and the Tel Aviv Municipality.

Further progress was made when a network was established in 1990 with the creation of the Jerusalem Business Development Center (JBDC). The United Jewish Appeal/Federation of New York and the Industrial Development Bank of Israel contributed toward the establishment of a $10 million United States loan fund to assist entrepreneurs. Soon, a network of small business development centers and incubators expanded to Acre, Ashdod, Beer Sheva, Bet Shean, Haifa, Karmiel, Kiryat Shmona, Misgav, Nazareth, Netanya, Ra'anana, Rishon Le Zion, and Rosh Pina.

Each center is a non-profit organization, concentrating on recently arrived potential entrepreneurs. Ethiopians, for example, have received assistance in their attempts to form cooperatives. The centers provide assistance and guidance for new ventures and for business expansions. Courses are offered in Russian as well as in Hebrew. Participants learn how to prepare a business plan, obtain capital, market products/services, and manage a small business. They also learn about accounting, computers, economics, law, licensing, and regulations. A special workshop in inter-personal and inter-cultural communications helps alleviate misunderstandings in the cross-cultural market place of this multi-cultural society.

If a potential small business owner has suitable qualifications and presents a promising business plan, a center will also assist in obtaining capital. Often loans are conditional upon accepting ongoing consultation with a mentor. The small business centers provide an opportunity for networking among small business owners, consultants, venture capitalists, employees, service-suppliers, and government. Some centers also have business clubs allowing entrepreneurs to socialize while listening to speakers lecture in Russian about banking, business protocol, dress-styles, employee management, and registration.

Financing Entrepreneurs

Katzenstein (1991) and Katzenstein and Rabi (1991) emphasized the lack of a venture capitalist network in Israel. They also noted a lack of loan funds for small enterprises. This situation changed in 1993 when Prime Minister Rabin announced the establishment of the Small Business Authority for Israel (initiated by the JDC's small business program). That same year, the National Small Business Loan Fund was established, with a capital of 300 million (new) sheqels. Today, there are several loan funds in Israel, involving $150 million (U.S.). These include government loans, philanthropic loan funds, and private loan funds. Government loan funds exist in two types: (1) those directly funded from a ministerial budget (such as the Fund for Self-Employed New Immigrants, funded by the Ministry of Immigrant Absorption); and (2) those available from banks but backed by the state (such as the Small Business Loan Fund, which is a joint project of the Mizrahi Bank, the Israel Discount Ba! nk, the Otzar Hahayal Bank, and the Ministry of Finance). Philanthropic loan funds are established with commercial banks, in partnership with organizations such as the JDC. The Galilee Entrepreneurship Development Fund, with a capital of $4 million (U.S.), is a project of the Jewish Agency and the Otzar Hahayal Bank, Similarly, the Jerusalem Small Business Loan Fund, with a capital of US$10 million, is a product of the United Jewish Appeal of New York and the Industry Development Bank. Private loan funds, such as the Private Initiatives Fund, are privately funded. In the case of the Private Initiatives Fund, applications are made to a small business development center, and business mentoring is a requisite to obtaining a loan. Table 1 summarizes these three types of loan funds.

Israel Today

In recent years, the socialist tendency to over-protect the economy has given way to free trade agreements, privatization, and reduced taxation. This has been coupled with peace accords and an increased emphasis on exporting. Although Israel is still considered an emerging market, it exhibits several features of an advanced economy. Service industries contribute more than half of Israel's GDP, only five percent of which involves agriculture. As mentioned earlier, even kibbutzim-communal farms--have become technology-oriented, producing chips and software. And while Israel's per capita GDP is on a par with Ireland and Spain, its growth keeps pace with Asia's tiger economies. This translates into unprecedented opportunities for small business in Israel.