No country for businessmen
Corinne Sauer, Haaretz, February 28th, 2008
Israel's economic growth is being hampered by its lack of property-rights protection.
Property rights, which refer to an exclusive claim to ownership and transferability, are a necessary condition for a working economy and economic development. Noted Peruvian economist Hernando de Soto has demonstrated that protection of those rights is an essential condition for raising the poor out of poverty.
Yet according to a recent study by the Jerusalem Institute for Market Studies and the Property Rights Alliance, Israel ranks 29th out of 115 states surveyed in property-rights protection - behind North America and most of Western Europe. (These states represent 96 percent of the world's GDP, and all of those for which data was available.) On the 2008 International Property Rights Index (IPRI), Israel scored 6.5 points out of 10, with 10 being a theoretical perfect score. The best score, 8.6, went to Finland, while Bangladesh came in at the bottom with 2.9.
The 2008 IPRI focuses on three areas: Legal and Political Environment, Physical Property Rights and Intellectual Property Rights.
The Legal and Political Environment index measures judicial independence, confidence in the courts, political stability, and corruption. It is in this area that Israel received its worst ranking, 39th place, although its score did improve from 5.9 to 6 in the past year.
Israel ranked 26th out of 115 on the Physical Property Rights index. This index contains three variables. The first relates to the quality of judicial protection of private property, including financial assets - a measure of the likelihood the goverment will expropriate private property. The other two variables look at the ease with which businesses can register and transfer property, and the accessibility of bank loans.
The Intellectual Property Rights index, in which Israel was ranked 29th, measures protection of intellectual property rights, patents and trademarks, and copyright piracy. Israel's ranking in this category is quite troubling, considering its global leadership in technology and medicine. The Federation of Israeli Chambers of Commerce noted in a 2006 report that piracy and counterfeit rates remain high, accounting for 33 percent of traded software, 32 percent of traded music products and 40 percent of traded film industry products. Trading partners like the EU and the U.S. have complained to Israel many times about its IP-rights regime, not only with regard to counterfeits but also on patent term extensions and data exclusivity. If Israel does not improve its IP protection, some Silicon Valley or Silicon Fen (Cambridge, England) firms may prefer to partner with Ireland (17th place), which affords stronger protection to inventors.
Interestingly, IPRI scores tend to have a high correlation to per-capita GDP. Countries with scores ranging from 8.6 to 7.4 on the index have an average GDP per capita of $35,638. Those in the bottom quintile, with scores below 4, average only $3,817 in per-capita GDP. These results suggest that a one-point increase in a nation's IPRI score will raise GDP per capita by $7,616. If Israel had attained a score of 7.5, the score of the United States, Israelis would enjoy an increase of 24 percent in their GDP per capita, bringing its level close to $36,000, in line with the states of the top quintile.
Although raising Israel's score by even one point could take some time, there are a few policies that could help speed the process. In terms of physical property rights, Israel needs to become more "business friendly," especially for small- to medium-size firms. In 2007, the World Bank Group ranked Israel 152 out of 178 on the ease of registering property when a business sells or buys physical properties, and 109 out of 178 when it comes to licensing. It takes an average of 254 days for a business to get all the certifications it needs, such as building permits, electric connection and sanitation inspection, to name just a few.
This business "unfriendliness" hurts small firms the most, since they often lack the resources to navigate the governmental bureaucracy. They also have a harder time borrowing money. According to a report by the Milken Institute, 1 percent of Israel's largest companies receive 71 percent of available credit. This is unfortunate, since small businesses are also a major engine of economic growth and job creation.
In terms of intellectual property, there are additional policies that Israel can adopt that would improve its score. Israel remained on the 2007 U.S. Trade Representative's Priority Watch List for not adequately protecting against "unfair commercial use of data generated to obtain marketing approval" (mainly the use of the extremely costly test data of clinical trials filed by rival generic-pharmaceutical companies to obtain commercial approval of their new medicine, also called data exclusivity). If Israel were to comply with international intellectual property rights standards, there is no doubt that it would draw additional foreign funds beyond the NIS 750 million pharmaceutical firms have invested here so far.
Finally, Israel's poor ranking in the legal protections component is mainly explained by the country's lack of political stability and a perceived high level of corruption. According to the annual survey by the Berlin-based organization Transparency International, Israel ranked 30 in the corruption index, with a score of 6.1 out of 10, well behind other developed countries.
Without improving its protection of property rights, Israel will not be able to realize the full potential of its market economy and resources. The lack of strong property rights dampens individual confidence in institutions and reduces long-term investment and individual incentives to innovate. Well-defined and enforced property rights create an element of clarity in ownership that facilitates trade and investment.
Corinne Sauer is the executive director of the Jerusalem Institute for Market Studies.