Excerpt from the Bank of Israel Annual Report to be published at the end of the month: The Human Capital Intensity of Israeli Export

15.03.2012

Excerpt from the Bank of Israel Annual Report to be published at the end of the month:

The Human Capital Intensity of Israeli Exports

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	Israel's economy is characterized by high human capital intensity of its export industries, as emerges from an index based on US import data from all countries. The index shows that Israel's export composition is similar to that of very developed countries whose per capita GDP is greater than Israel's.
	In the past decade, the market share of Israeli exports in the American market has grown, parallel to a sharp increase in the technological intensity of the exports, which attests to the success of Israel's high tech industries.
	Israel's exports are very similar to those of Western European countries, which also specialize in technology intensive and human capital intensive exports. The current crisis in Europe is expected to lead to a reduction in manufacturing costs of European exporters and to depreciation of the euro; Israeli exporters will thus face greater competition.
The composition of Israel's exports is similar to that of highly developed countries, and is also similar to that of countries whose per capita GDP is far greater than Israel's. In order to quantify this, we have examined United States import data, from which we created an index which characterizes the various industries by level of development of the exporting countries. The index reflects the human capital and technological intensity of each industry. In terms of the technological intensity of its exports, Israel ranks fifth among all the countries exporting to the United States. This is because Israel specializes in pharmaceuticals, medical and scientific equipment, and military equipment—all of which are particularly human-capital and technology intensive. Israel is ahead of large countries that are far more developed, such as Germany, Japan and Sweden—countries that are characterized by high-tech-intensive exports, but that also export goods from industries that are typical of developing countries. Thus, a country's high rating according to this index (higher than its rank from the point of view of its general per capita GDP) could indicate the difficulty of competing with developing countries in low technology industries, and of the abandonment of these industries because of the increasing competition from the developing countries. We choose to interpret Israel's high ranking on the index mainly as a sign of the robustness of its exporting industries. This is because the weight of exports in Israel's GDP is high by international comparison, and Israel has a surplus on its current account, while countries that are experiencing difficulties in competing in world markets are characterized in the main by a relatively small export sector and a current account deficit. Moreover, in the past decade Israel's market share of United States imports has grown significantly, parallel to a sharp increase in the technological intensity of the exports, while the average index of all the other countries did not increase.

The composition by industry of Israel's exports is particularly similar to that of Western European countries. The eurozone's current economic crisis is expected to lead to a reduction in the manufacturing costs of European exporters, which also specialize in technology and human capital intensive exports, and to depreciation of the euro, which will enhance those exporters' ability to compete with Israeli exporters. United States import data show that the weighting of the 27 European Union countries together with the EFTA countries (Switzerland, Norway and Iceland) in US imports is only 21 percent. However, the weighting of these countries in Israel's major export industries is far higher, reaching 75 percent in the industry of Israel's major export to the United States, pharmaceuticals and medical equipment, and reaching around 50 percent in Israel's two other leading export industries—medical and scientific equipment, and military equipment. When Europe's share of the various industries is weighted by the weights of those industries in Israel's exports to the United States (and not by United States imports)[1], the market share of EU countries plus EFTA in United States imports increases from 21 percent to 44 percent—a figure that reflects Europe's specific weight as a competitor for Israeli exports. The specific weight of other countries in US imports, such as China, Canada and Japan, is far lower than their share of US imports, the implication being that the competitiveness of their exports with those of Israel in the American market is low relative to their market share of the American market. For example, China's market share in American imports is 22 percent, but the share weighted by Israel's export industries is only 13 percent. The EU countries are the major competitors for Israeli exporters, not only in the American market, which is Israel's most important target market, but also in other parts of the world, because the similarity between Israel's export industries to those of the European countries far exceeds its similarity with the other countries.

^{[1] According to United States import data, which include details of 138 import industries.}

The fact that Israel's export composition is similar to that of more developed countries points to the existence of what is known as a "dual economy": a technology intensive sector that contributes most of the added value of Israeli exports (and about 45 percent of volume), alongside a traditional sector that finds it difficult to compete in international markets (the main non-technological export industries are mining and processing of mineral resources, tourism and shipping). The high-tech sector is characterized by very high productivity, and employees who are paid twice as much or more than the average business sector salary, but whose share of employment is relatively small—10 percent of business sector employees. This sector includes R&D centers of leading foreign companies, innovative startups, sophisticated software services, pharmaceuticals and medical equipment, large parts of the security industry, and the electronics industry. The rest of the business sector (non-technological) employs most of the employees in the economy, but invests little in R&D. Most of its output is intended for the domestic market, and the educational and salary levels of its employees are relatively low.