The Economic Consequences of Democratic Backsliding: Israel's Judicial Overhaul

In early January 2023, Israel’s new governing coalition announced a plan for a judicial overhaul that would fundamentally weaken the power of the judiciary, the only meaningful check to the power of the executive branch in Israel. This paper describes the potential economic consequences of the judicial overhaul. We first discuss the extensive economic literature on institutions and their importance to economic development. Next, we use a large panel of countries to estimate the relationship between measures of institutional quality and four measures of economic development (GDP per capita, investment, innovation, and corruption). We use these estimates and the degradation of institutional quality in Hungary and Poland, two countries that experienced democratic backsliding, to forecast the potential long-run damage to the Israeli economy. Our calculations suggest that the judicial overhaul would have a dramatic negative impact on the Israeli economy. The estimated decline ranges from 9 percent in the most optimistic case to 45 percent in the most pessimistic one, both relative to an alternative scenario in which the judicial overhaul is abandoned. Finally, we describe the short-run negative effects of the judicial overhaul, particularly to the value of Israel’s currency, financial assets and to the hi-tech sector.