How did Israel become a tech powerhouse?

Israel is a tiny country with a big reputation. For the first few decades of its existence, the word “Israel” was synonymous with three things: Jews, war, and… socialism?!  

It’s true: Israel’s founding fathers envisioned Israel as a socialist utopia. But reality has a troublesome habit of getting in the way of utopian visions. And I’m prepared to bet that you associate Israel with startups, not socialism. So what changed?

Photo taken from the top of Azrieli Center Circular Tower, once the tallest building in Israel, 2016. (Photo: Ted Eytan/Wikipedia Commons)

How did Israel go from a socialist country controlled by labor unions to a tech behemoth boasting more startups per capita than anywhere else in the world?

When it comes to talking about economics, when I hear terms like “equilibrium level of output” or “stagflation” or “human capital,” my eyes glaze over. I actually have no idea what I just said. So, let’s tell this story in simple terms.

Part one: Israel’s socialist roots

There have always been Jews in the country we now call Israel. Their population swelled hugely beginning in the late 19th century, as anti-Jewish violence — and the birth of modern Zionism — called thousands of Jews back to their homeland in five major waves.

It was the second wave of immigration that established Israel’s socialist character. Because the 40,000 young Jews who came to Israel between 1904 and 1914 were die-hard socialists. They gave Israel its first kibbutz, or socialist agrarian collective, and laid the foundation for Israel’s early economy.

What even is a socialist? You’ve probably noticed that we live in a world where resources and wealth are not evenly distributed. Early socialists believed that the best way to address this was to establish common ownership of anything that generates wealth. Whether it’s a flock of sheep, a textile mill, or a munitions factory, if it makes money, it should be publicly owned, either by the state or the workers.

The socialists who built Israel’s early economic institutions ran everything through a centralized body called the Histadrut or Federation. It sounds like something out of Star Trek, but the Histadrut was basically a massive labor union, made up of lots of little labor unions. After independence in 1948, the government got in on the action, setting up state-owned enterprises. Together, the Histadrut and the government controlled two-thirds of the economy. 

Part two: Conflict complicates everything

The day after Prime Minister David Ben Gurion declared independence, the tiny state was invaded by all its neighbors, plus a few more countries from down the block. Israel repelled the attack and won the war. But the tiny Jewish state paid a heavy price. 1% of the population was killed. And the economic consequences of war? Well, those are more complicated than you might think. Hang tight — I’ll explain why in a bit.

Part three: Rapid demographic change

In 1948, only 806,000 people lived in Israel. By 1952, that population had more than doubled. Israel was a really small country, surrounded by enemies, with zero infrastructure. And yet, year after year, hundreds of thousands of immigrants streamed in. Many had been pauperized by their previous governments. They arrived penniless in their new home, which now had to house and feed and educate them and even teach them Hebrew!

Is it any wonder that the fragile economy almost collapsed?

Seriously. In the early 1950s, Israel didn’t even have enough food. Unemployment was at 11%, which is way higher than ideal. Many new immigrants were shunted into absorption camps, where they lived in tents or crude shacks without running water. Things were so grim that the government imposed a decade of austerity, setting prices and rationing everything from food to furniture. 

Not exactly a utopia.

In 1952, the government passed an economic stabilization plan and super controversially accepted financial reparations from West Germany. But that’s a story for another time. Slowly, the economy inched back from imminent collapse. The state used its meager capital to invest in infrastructure and immigrant absorption, and for about thirty years, things ticked along. True, the country experienced a major recession in the mid-60s. And true, only the very wealthy could afford a car until the late 1970s. Folks lived modestly, but they got by.

Until everything came crashing down in the 80s. The 1973 Yom Kippur War, not to mention the Lebanon war in 1982, was economically ruinous. Everyone was losing money: state-owned companies. Histadrut companies. Kibbutzim. 

Taxes skyrocketed. Inflation soared. The average Israeli was bringing in six thousand dollars a year. If you carry the two, and add a three, basically not a lot of money. For comparison, the median family income in the United States at the time was $23,430. Yeah. Ouch. The Israeli government was spending, spending, spending to keep the country afloat. But when the banks collapsed in 1983, the ensuing bailout cost millions.

A couple of big things happened in the 90s. Let’s start with the collapse of the USSR, which had huge implications for Israel. Life in the former USSR was no cakewalk, and over a million Soviet Jews fled to Israel the moment they could. Despite the university and employment quotas they faced in the USSR, many Soviet immigrants were highly educated. Their skills and education helped to change Israel’s economic and technological landscape.

But absorbing immigrants has a lot of upfront costs. And the Histadrut’s control of, well, almost everything wasn’t doing the economy any favors. Seriously. Did you want a job? You had to be a Histadrut member. Health insurance? Histadrut. Pension? Histadrut. The Federation of labor unions had a stranglehold on almost every aspect of Israeli life. So the government did something that sounds boring, but had big consequences: It nationalized its health insurance. 

See, to get health insurance, you had to be a Histadrut member. Most people wanted health insurance, obviously, so the Histadrut was incredibly powerful. When the government nationalized health insurance, Histadrut membership plummeted. Seemingly overnight, this huge (and economically inefficient) federation of labor unions lost most of its power and started selling off its companies to private owners.

By the turn of the century, Israel officially had a market economy. “Market economy” is one of those terms you hear a lot, but I would bet money most people can’t actually explain it. But I got someone smart to explain it to me, so watch out, Paul Krugman, ’cause I’m comin’ for ya!

In a market economy, economic decisions — like what gets produced and how much things cost – are governed by private businesses that compete with each other. As Israel’s economy transitioned, Prime Minister Bibi Netanyahu slashed taxes, changed labor laws, privatized industries, and simplified the government’s bureaucracy. 

So that’s how Israel shucked off its socialist roots and became capitalist. But that’s only part of the story. I promised to tell you how Israel became a tech powerhouse with like, a million millionaires. (Okay, technically 131,000 millionaires and 71 billionaires. Still a lot!) So I’m gonna do it in my favorite way: with a dad joke.

OK, you ready? Here it is. World leaders get the memo that a big disaster is coming. Soon, the whole world is going to be underwater. The Americans, Russians, and Chinese started thinking about how to set up life on the moon. The Canadians are running around apologizing to everyone. Everyone in Vatican City is praying. Meanwhile, the Israelis look at each other and shrug. I guess we’ll have to find a way to live underwater. 

Dumb joke, real sentiment. For most of its existence, Israel faced a stark choice: win or die. Israelis learned to live cheek-by-jowl with neighbors who called for their destruction because they had no other choice. True, war costs a lot of money. But when you’ll do anything to survive, you come up with some pretty innovative solutions. 

Got an enemy next door whose ranks you can’t infiltrate with ordinary spies? Develop a drone that can eavesdrop. 

Got a couple of terrorist organizations bombarding you with missiles and rockets? Create an all-weather air-defense system to neutralize the threat (thanks, Iron Dome!). 

Got a country hell-bent on nuking you? Invest in cyber-warfare so you can take down its uranium-enrichment plants from afar.

These technological advances spill out to every sphere of life. Drones, or sophisticated radar, or state-of-the-art cameras may have started in the IDF, but they have a wide range of applications, improving life both within and beyond Israel. In fact, Israel has the second-largest number of VC-backed startups per capita in the world. That’s a fancy way of saying that investors — from both inside and outside the country — have poured money into Israeli startups.

So Israeli startups, and the so-called Silicon Wadi, are swimming in money. And Tel Aviv is at the center of it all. That’s right: a city built by socialists is now home to more than 42,000 millionaires and 12 billionaires. Let’s put that another way: nearly one in ten Tel Avivians are millionaires. 

But that’s just one side of the story. Because — as in so many wealthy nations — the bounty isn’t distributed evenly. The country has become a prime example of the very thing that Israel’s socialist founders most feared: income inequality and social stratification, exacerbated by an exorbitantly high cost of living.

In July of 2011, ordinary Israelis decided they’d had enough. As the Arab Spring protests ripped through the Middle East and North Africa, Israel convulsed with its own mini-revolution.

It all started with cottage cheese. For some reason, Israelis love the stuff. So much so that it became a symbol for Israel’s high cost of living and the “squeezing” of its middle class. That’s a real term, by the way — middle-class squeeze. And it’s got horrible consequences. As of 2021, roughly a fifth of Israelis live under the poverty line.

Israeli cottage cheese

Back in 2011, 25-year-old Itzik Elrov wasn’t necessarily thinking about ending poverty. He was more concerned about making ends meet. But it was growing increasingly hard to do so in a country where food prices were soaring. The price of cottage cheese — which is inexplicably considered a staple in the Israeli diet — had risen by 75% in a single year, according to some estimates. Let me put that another way: in 2011, 250 grams of cottage cheese was nearly as expensive as a liter of gasoline. (Israel uses the metric system, in case you couldn’t tell.)

So when Itzik got home from the grocery store, he took to Facebook, urging consumers to boycott cottage cheese priced above 5 shekels. His plea went viral. 100,000 Israelis pledged to boycott cottage cheese and even other dairy products. The protest swelled to include other social ills: the high cost of living, the housing shortage, the growing poverty rates and the ever-widening gap between different sectors of Israeli society. For a summer, Israelis camped out in public squares and city spaces — their own version of Occupy Wall Street.

The government responded with a wave of reforms. Cellphone rates plummeted. Wages rose. Unemployment rates fell.

And all of that is progress. But it isn’t enough. In fact, according to the Israel Democracy Institute, nearly half of Israelis decide who to vote for based on their economic platforms. A staggering 85% of Israelis believe that the cost of living in Israel is higher than in most Western countries. And the top offender in a long list of overpriced goods and services? That would be food. Yup, many ordinary Israeli folks are struggling to put food on the table.

None of that is good news. Still, if there’s anything we can learn from Israel’s economic past, it’s this: Israel is really good at finding creative answers to difficult questions. So there’s a solution to income inequality and the high cost of living. I’m no economist, but I know this: if there is one country or one people to figure it out, my money is on the Israelis.

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