Over half of Israeli publicly traded firms employ ex-officials, regulators – study

Bank of Israel research shows that over half of the nation’s publicly traded companies employ former officials and civil servants, including regulators who once oversaw the same companies they have now joined.

In two discussion papers published in December, author Noam Michelson maps out, for the first time, the “revolving door” trend in Israel, in which civil servants transition to work in the private sector.

The phenomenon presents a challenge for democracies and developed economies, as they need to strike a balance between conflicting needs: public interest versus employees’ rights.

On one hand, such transitions, if not properly regulated, can lead to abuse. They may give an unfair advantage to companies that employ former civil servants, who could use their knowledge and connections to influence future regulation. Moreover, the lure of the private sector could influence the decisions of current regulators who may try to avoid harming their chances of future employment in the private sector. This could erode public trust in government institutions, warned Michelson.

On the other hand, governments need to be able to attract top talent to the civil service, part of which requires that they refrain from curbing workers’ employment options once they leave and protect their right to freedom of occupation.

“At the heart of the debate… lies the question of the balance between public trust, market freedom and efficiency, and the individual’s freedom to engage in any occupation,” Michelson wrote in his paper.

A society could shore up trust in the public sector by banning all transitions of former civil servants to private sector jobs, he added, “but that would impose a heavy cost in terms of limitations on market freedom and efficiency, as the set of choices from which firms choose managers would be smaller.”

Illustrative image of a handshake (stnazkul; iStock by Getty Images)

Freedom to engage in any occupation would also be limited, he added, and beyond the moral question, “such a limitation might lead to a negative selection of civil servants, as higher-quality people would be demotivated to join the civil service because of the constrained career path ahead of them.”

The possible resulting deterioration of quality in the public sector would, paradoxically, “lead to an erosion of public trust in the civil service.”

“The crucial question is the balance between the different concerns,” Michelson said in an email interview. With no clear answer to these questions, public debate on this issue, alongside existing restrictions that require a cooling-off period between jobs, plays a monitoring role, he added.

From public to private

Using data on the largest publicly listed firms in Israel for the years 2007-2015 (two-thirds of the number of publicly listed firms, consisting 95% of total market value), Michelson identified all the board members and top executives who had experience in the public sector. He found that 60% of the firms in this time period had at least one board member or top executive with public sector experience, and 8% of all board members and top executives had public sector experience.

The analysis shows that the larger the company and the heavier its burden of regulation and supervision, the greater the probability that the firm will hire the services of a former public service employee to help navigate the regulatory policies. It also shows that companies tend to hire a person with experience in one of the regulating or supervisory bodies in the industry in which it operates.

The Bank of Israel office on a snowy Jerusalem morning, January 27, 2022. (Bank of Israel)

Businesses benefit from “being connected and close to the government, and thereby gain an advantage that will help them to perform better,” Michelson wrote in his report.

Government policies can have a direct effect on a firm’s bottom line by impacting the size of its markets through entry and exit barriers; imposing taxes or handing out subsidies; and enacting environmental, employment and safety legislation that could raise or lower costs.

Regulators who are appointed to protect the public often end up working for the industry they are supposed to oversee because they are “captive” by the industry, said Ariel Barzilay, an attorney who heads the economic wing at the Movement for Quality Government in Israel, an independent, grassroots nonprofit organization seeking to protect the public interest.

When a regulator takes office, especially in areas such as financial markets or the energy economy, they are required to study the market, Barzilay explained in an email interview. Those who volunteer to teach them are, however, the market players themselves, holders of expertise in these complex fields.

Often, what they teach the regulator suits their interests, Barzilay said.

The closer and longer regulators work with industry players, the more likely they are to develop a sort of Stockholm syndrome in which they identify with those they are supposed to oversee, said Barzilay.

“They become part of the same social milieu. They are hosted at the same conferences, they start speaking the same professional language,” he said. “This proximity affects the regulators, in that they adopt the perspective of the industry, forgetting that the public interest is not necessarily the interest of the industry.”

Sometimes, in fact, the regulators came from the industry they went on to oversee. Others, when they end their post as regulators, get lucrative employment offers from the industry, and the chance of this happening can affect their performance even while still in office, Barzilay said. “Would you like to anger whoever your employer will be once you complete your ‘mission’ in the civil service?”

According to data compiled by the Movement for Quality Government in Israel, seven out of 10 of the banking supervisors at the Bank of Israel in the period 1969-2020 worked in the banking industry before or after their appointment.

These include Galia Maor, a former supervisor of banks at the Bank of Israel who became the CEO of Bank Leumi Le-Israel; Zeev Abeles, also a banking supervisor who became the chairman of Union Bank of Israel; Rony Hizkiyahu, who started his career at Bank Hapoalim and was a VP at Israel Discount Bank before being appointed banking supervisor at the Bank of Israel, a post he filled in 2006-2010. He then served as chairman of the First International Bank in 2012-2016, and followed that up with a stint as accountant general at the Finance Ministry from January 2017 to October 2020.

Rony Hizkiyahu, then the Ministry of Finance’s accountant general at a conference in Jerusalem, on November 12, 2018. (Yonatan Sindel/Flash90)

For supervisors of the insurance and capital markets industry, the situation is even worse, the data shows. All 10 of the most recent capital markets supervisors since 1977 went on to work in the sector they supervised, some of them as external directors. Four out of eight antitrust commissioners from 1969 to 2016 came from or went to the business sector, the data shows.

Last summer, The Times of Israel reported that former securities regulator Shmuel Hauser had become an advisory board member at one of Israel’s fastest-growing online trading companies, eToro, which also appointed Hedva Ber, former supervisor of banks at the Bank of Israel, as its deputy CEO and global COO.

A conflict of interest

This revolving-door phenomenon creates a conflict of interest in which the public good becomes secondary, said Barzilay.

“The commissioner effectively becomes an ‘industry shield,’ instead of the protector of the public interest vis-à-vis the industry,” said Barzilay. This can lead to lower competition and more centralization, with regulators using their powers to “protect” the industry and prevent the entry of competitors.

“Many times, regulators even become lobbyists in government offices and Knesset corridors for the industry,” Barzilay said. “Thus, competition is harmed and market concentration increases. In terms of the bigger picture, this phenomenon threatens the democratic structure, with the interests of capitalists outweighing the interests of the public.”

Michelson found that a firm’s value increases following the appointment of a former civil servant, regardless of whether the appointee had been high- or low-ranked. The firm’s credit spread, however, decreases only with the appointment of a high-ranking former civil servant. Credit spreads are seen as a measure of economic health; a widening of spread indicates bad economic health and a narrowing signals good health.

The Tel Aviv Stock Exchange, in the center of Tel Aviv, December 25, 2018. (Adam Shuldman/Flash90)

Both the value and the credit spread effects are most marked when the appointee is the first former civil servant to join the firm, and decrease the more time has passed between the appointee’s departure from their last position in the public sector and their joining the firm’s board of directors or management.

“Such transitions may – although not necessarily – lead to an unfair advantage” for companies that employ former public administration officials, wrote Michelson.

In the interview, Michelson gave some international context, saying that it is not clear whether in Israel, a country with some nine million people and a small and concentrated economy, the revolving door trend is worse than in other nations.

The data at hand “is hard to compare,” he said. However, using partial definitions, he said he found that Israel’s figures “are not substantially different from those of other developed countries.”

Two percent of board members in the UK were high-ranking former civil servants, compared to 6% in Israel, he said. In France, 11% of CEOs were high-ranking former civil servants, compared to 6% in Israel; in the US, 43% of a large sample of US publicly listed firms have at least one former civil servant director, compared to 54% in Israel; in South Korea, 30% of outside directors are high-ranking former civil servants, compared to 16% to 18% in Israel.

A cooldown that stays hot

Israel requires a one-year cooling-off period for civil servants who want to work for people or firms that were formerly under their authority while they were in their job. A special committee headed by a district court judge has the power to shorten the cooling-off period if both parties can show that contact between them will not create a conflict of interest.

But violations of that legislation are widespread. In 2007, the State Comptroller’s annual report found that in some – if not all – important civil service institutions not only is the law disregarded, there is even an organizational culture of ignoring it. Civil servants who left the service often did not comply with the law, and their managers – when they were aware of such violations – did not intervene.

The comptroller’s report also emphasized that while senior civil servants mostly act in accordance with the law, in middle and lower levels compliance was less common, perhaps due to a lower level of scrutiny.

The revolving door is “highly discussed only when there is a case of a high-ranked former civil servant that is hired by a private firm. But most of the time it is ignored,” said Michelson in the interview. “I think that part of the explanation for this is the lack of sound understanding of the extent of the phenomena, and hopefully my work will help in this aspect.”

In addition, a 2019 study by Dr. Roy Shapira from the Reichman University revealed that the district court had accepted 258 requests to shorten the cooling-off period for former civil servants, out of 268 cases surveyed. The main reason for accepting the request was that the court did not want to leave the petitioner without an income for the whole cooling-off period, while little weight was given to considerations of possible erosion of public trust in the civil service, said Michelson.

The cooling-off period law in Israel has “many loopholes,” said the Quality of Government’s Barzilay. For example, it does not prohibit a transition to all industry roles, just to certain roles, not does it bar regulators from moving to fields that are tangential to the position held.

But the legislation’s main weakness, said Barzilay, is the option of shortening the cooling-off period. “This is already short,” said Barzilay. “And almost immediately a request is made to the court to shorten the timeframe, which is almost always and automatically approved. So, the cooling-off periods are actually very short, and the revolving door turns way too fast.”

If these kinds of transitions can’t be completely banned, Barzilay said, because it would disincentivize talent from working as regulators, then the first step must be to lengthen the cooling-off period to two to three years, depending on seniority. Then, he said, shortening this cooling-off period should be “the exception, and not the norm.”

This, however, would come at a cost as the government would have to finance the worker for the whole of the cooling-off period, whereas today former regulators take unpaid leave for that time.

Barzilay outlined another route to greater fairness and transparency. He said civil society organizations and media outlets should step up and seek to “counterbalance” industry players, by presenting regulators and the public with alternative sources of information and “de-biasing” the data, as well as exerting constant supervisory pressure on regulators.