A short social, economic and cultural history of the State of Israel and the rise of the high-tech industry.

The story of Israel is remarkable. What is equally remarkable is the story of the high-tech sector in Israel. The Start-up Nation, as it is now often known, can trace its economic roots back to 1990, but socially and culturally, its roots go back all the way to before the Israeli war of independence to the first Aliyahs (mass migrations).

To fully understand the dynamics of modern Israel, it’s high tech industry and the economic and political climate in which it operates it is helpful to have a high-level understanding of t he history of the area from 1882 onwards. Only with this understanding can we appreciate the fact that many of the companies presented to our delegation even exist, leave alone produce world-class innovation. From mass migrations to wars, from independence to embargos and stagflation to start-up nation. The story of Israel has it all.

Pre-independence

The First Aliyah began in 1882 and was the initial major wave of Zionist migration to Palestine. Subsequent waves of immigration followed, but it was these early Aliyahs where the Zionist values of manual labour evolved into a deeper ethos of innovation due to the harsh living conditions and the need to make the land agriculturally productive. As these early waves of immi-gration continued, the values of austerity, egalitarianism, argumentation and resistance to authority were formed. These values are widely attributed to being vital in shap-ing the modern State of Israel, the Israeli Defence Force (IDF), and the Israeli people.

Four hundred forty-seven thousand immigrants arrived in the period between 1882 and 1939 as part of the Aliyahs. Initially, these included Jews from Romania, Russia, Poland and Eastern Europe. After 1929, due to the rise of Nazism in Germany, 250,000 Jews fled from many, Austria and Czechoslovakia to Israel. Many of these later immigrants were professionals, doctors, lawyers and professors as well as architects and musicians. It was during the time of the Fifth Aliyah onwards that the economy diversified from being predominantly agricultural to having significant industry. This economic diversification was particularly marked after the completion of Port Haifa and it’s oil refineries in 1933.

To this day, the IDF operates mandatory military service for all Israeli citizens over the age of 18.

Under the British Mandate, immigration was made illegal; however, the Jewish Agency continued to promote immigration, displaying defiance for authority and recognising the need to survive once the British mandate expired. From 1933 to 1948, an additional 110,000 illegal immigrants arrived in British Palestine. By 1948 the population had grown to 806,000.

Independence & the formation of the IDF

On 14 May 1948, David Ben Gurion, Head of the Jewish Agency in British occupied Palestine declared independence to form the State of Israel. On the 15th May 1948, the day of the expiration of the British Mandate over Palestine, the newly declared State of Israel was invaded by the Arab states as a continuation of the ongoing civil war in Palestine. A war for control of former British Palestine continued until a ceasefire was declared on 10 March 1949. It was during the early part of the war for independence that the Israeli Defence Force (IDF) was officially founded, bringing together the various forces that had been operating under the Jewish parliament in Palestine. Ever since its formation on 26 May 1948, the IDF has been a conscript army. Since the 1948 war of independence, the IDF has been involved and continues to be involved in many major military operations making it one of the most battle-trained armed forces in the world despite its short history.

To this day, the IDF operates mandatory military service for all Israeli citizens over the age of 18. The exceptions to this are ultra-Orthodox Jews and Arabs. Men serve a minimum of 32 months and women 24 months. Up until the age of 45, former service personnel may be requested by their units to serve one month per year in the reserves.

Yom Kippur War

Learning from failure is a fundamental principle of the IDF. Arguably this has never been felt more acutely than during the Yom Kippur War of 1973. Israel was caught off-guard and when Egypt and Syria launched a surprise attack breaching Israeli defences along the Suez Canal on the holiest Jewish day of the year.

Israel went on to win the war but it crushed Israel’s previous attitude of invincibility which followed the Six-Day War of 1967 where on the brink of collapse, the Jewish state simultaneously defeated Egyptian, Jordanian and Syrian forces in six days and expanded its borders by taking the Golan Heights from Syria, the West Bank and East Jerusalem from Jordan and the Gaza Strip and the Sinai Peninsula from Egypt.

Israel went on to win the Yom Kippur War; however, this led to some national soul-searching. An all-out Arab attack was not expected due to the decisive defeat of the Arab forces in the Six-Day War. Israel was not prepared, as demonstrated by intelligence failures surrounding the Arab anti-tank capabilities. Israel was also heavily reliant the United States for technology, a risk it could no longer take. With the 1967 French embargo, Israel decided that it needed to be militarily independent. Unit 851 was renamed to Unit 8200 and became Israel’s R&D hub. The investment in R&D through the military, a decision driven by state security rather than market forces, also marked the beginning of 20 years of economic stagnation. It wouldn’t be before the 1990s that the economy would recover.

Stagnation & hyperinflation

From 1950 to 1970 the standard of living in Israel doubled. In sharp contrast, the period from 1970 to 1990 was a period of economic stagnation. Immigration declined and infrastructure was inadequate. The 1970s began with periods of inflation and unemployment. In 1971 inflation was at 13%. A change in the exchange rate policy caused inflation to jump to 133% in 1980 and 445% in 1984. It wasn’t until 1985 that a stabilisation policy was imposed.

Due to insufficient opportunities at home as a result of the economic conditions, many Israeli’s left for Silicon Valley to join the emerging start-up and venture capital scene. Later in the 1990s when the Israeli economy began to recover, this diaspora of Israelis was fundamental to providing the critical links between the Silicon Valley and Israel. The typical Israeli start-up of the 1990s would have their R&D operations in Israel and their sales functions in the United States.

As immigration was so low during this period, the Israeli Government initiated a number of mass immigration, for example, Operation Moses in 1984 brought 8,000 Ethiopian Jews to Israel. However, this additional human capital was not matched with the availability of domestic opportunities.

By 1986 it was Jerusalem, Intel’s only foreign manufacturing plant, that was producing the 386 chip operating at 33 megahertz.

It was during this period of stagnation that Intel opened their first R&D centre in 1974, founded from Intel’s desire to tap into the talent it saw in the Israelis who had emigrated to the US. By 1980 Intel’s Haifa team had designed the 8088 chip, operating at 4.77 megahertz. These chips and were small enough to bring computing out of the computer room to the office and home. IBM chose Israel’s 8088 chip for their first personal computers. By 1986 it was Jerusalem, Intel’s only foreign manufacturing plant, that was producing the 386 chip operating at 33 megahertz.

In 1980, the Israeli government commissioned the Lavi fighter jet, a joint programme with the United States, although this programme was cancelled in 1987 due to increased political pressure. Its cancellation was due to a combination of the F-16 being regarded as an equivalent and readily available, the US investment causing political opposition in the US with it being seen as a competitor to the F-16 and political debate in Israel due to the investment on the Lavi drawing expertise away from electronics, communications and computers. Ultimately, in 1987 the Lavi programme was cancelled, driving engineers into the civilian sector.

The turning point

Israel entered in the 1990s on a stable footing and the economy that is recognisable today was born. In 1985, a stabilisation plan was developed for Israel by the US to address the hyperinflation. The stabilisation policy successfully brought down inflation and provided a more attractive environment for Israelis to remain and work in the country. This led to the first generation of Israeli based start-ups in the 1990s. Many Israelis returned from the US to form new companies, establish R&D centres for their American employers or invest in companies in Israel.

During the 1990s industrial exports rose from $7.7 billion to $20.9 billion. High and medium-high technology grew from 51% at the beginning of the decade 86% of the total by 1999. As the peace process evolved, security expenditure also dropped. In the 1970s security expenditure accounted for 25% of GDP mainly due to the need to re-arm after the Yom Kippur War. By the end of the 1980s the rate dropped to 15%, and during the 1990s the rate fell further to 7-9% where it has remained. Today Israel’s main threats come from non-state actors (Hamas and Hezbollah). These are limited to short hostilities with low impact on the economy. Israel’s main existential threat comes from Iran.

The ongoing peace process combined with the end of the cold war has undermined the Arab boycott against Israel. The early 1990s also saw an increase in immigration from the former Soviet Union, many of which held academic or managerial positions before arriving in Isra-el. The industry ran a massive retraining programme involving 20,00 people to turn civil and agricultural engineers into hardware and software specialists.

The influence of the IDF on the high- tech sector

On its formation, the IDF inherited very little from other armed forces regarding traditions, protocols or doctrines, nor did it import anything from the British military. Shaping the lives of those whose serve, three critical attributes of the IDF have influenced many who have subsequently gone on to work in the high-tech sector:

  1. The debrief – In the elite military units, each day ends with a debrief that lasts up to 90 minutes. In these debriefs everything and everyone is examined and challenged with the goal of learning and improving from the mistakes that were made. The debrief is often felt to be almost as hard as the preceding exercise. Nothing is off limits, it’s up close and personal and crosses all hierarchical boundaries.
  2. The re-org – Building on the daily debrief, after every significant engagement, the IDF examines the way it operates as a whole, looking for opportunities to improve.
  3. Flat hierarchy – The IDF is narrow at the top with fewer senior officers than other equivalently sized or larger militaries. This is largely in part to the constraints that the IDF is working under regarding available resources.

From the first day of enlistment, recruits are told to “Challenge the chief”. Operationally, innovation comes from the bottom up. Forces on the ground never think that they do not h ave the authority to act on their own or have to ask their higher-ups to solve problems. Instead, they take responsibility and create new tactics as situations develop.

Unit 8200

Perhaps the most famous of the IDF units is Unit 8200, Israel’s elite army intelligence unit. Today Unit 8200 is primarily made up of 18-21-year- olds who sign up for four years. As there is no time to run a two-year course to get recruits up to speed, so only those who demonstrate quick learning pass through the selection and filtering process.

Nothing is off limits, it’s up close and personal and crosses all hierarchical boundaries

To help identify recruits, all high school students approaching graduation are screened by the IDF. Often this is through afterschool programs such as the Magshimim that focus on high school tech prodigies and hackers. Those that pass the selection are recruited into Unit 8200.

Many close networks are formed in the IDF and maintained outside of the military after regular service has finished. These networks are very often used in the business world. For example, many alumni of units, especially Unit 8200, go on to form start-ups. The yearly reunion of Unit 8200 serves as a platform for the alumni to present the companies they have founded.

The Yozma Programme

The Yozma programme was launched by the Israeli Government in 1992 to incentivise venture investments. This programme made $20m available on a 1.5 to 1 match. The Israeli government would retain 40% equity but offer partners to cheaply buy out that stake (with interest) after five years. Therefore, the government shared the risk and the investors got all the reward. It was from one of these funds that Jerusalem Venture Partners (JVP) was seeded. As of 2011, $3b capital managed by companies seeded from these funds.

In the period 2003-2012 Israeli tech companies raised $1.69b in 25 IPOs in the US & $1.16b in 23 IPOs in Europe, raising just $493m across 15 companies in Tel Aviv.

Today

In the ten years from 2006 to 2015, the Israeli high-tech industry has come close to doubling the number start-ups formed annually from a range of 550–650 a year in 2006–2009 to between 1050 and 1150 in 2011–2014. As of 2018, the number of new start-ups has levelled off to around 1000 per year.

What causes Israel to create such a high number of technology start-ups? Its unique history has shaped the people of Israel and those with a relevant skill set, education or army background find the economic conditions to be perfect to create new tech companies. Institutional infrastructure is readily available including tax incentives, state-subsidised venture capital, incubators and R&D support.

Since the 1990s the venture capital industry has matured, and this is now complemented by a sophisticated community of angel investors and corporate investment by multinationals. Investment banks are ready to guide start-ups into IPOs in both the US and Europe. The rise of multi-nationals locating their R&D facilities in Israel has had multiple effects from providing experience to would-be entrepreneurs, making office space available and providing financing. Additionally, Israel’s universities have a pedigree of commercialising innovation that was developed in their research facilities acting as another source of start-ups.

However, it is the qualities of the Israelis themselves that have been the catalyst for these structures being creating and evolving to such an extent to bring the title of Start-up Nation. Personal initiative, risk-taking and resistance to unnecessary authority are the real drivers for Start-up Nation.

The yearly reunion of Unit 8200 serves as a platform for the alumni to present the companies they have founded.