The war in Gaza has taken an economic toll on tech, Israel's most productive sector

TEL AVIV, Israel — The Israeli army has announced that it is pulling thousands of troops out of Gaza and sending them home to their families and jobs. The reasons go beyond battlefield tactics.

"This will significantly ease the burden on the economy and allow them to gather strength for the upcoming activities," said Israeli military spokesman Rear Adm. Daniel Hagari, "as the fighting will continue and they will still be required."

It's a reminder of the war's heavy economic toll — not only in Gaza, where it has been devastating, but also in Israel, the most developed economy in the Middle East. Analysts say the war has caused the economy to shrink and created a labor shortage.

Raz, 29, is an upbeat software engineer who works in a key engine of the Israeli economy, the tech sector. He's also a member of the Israeli army's special forces reserves.

Early on in the war, Raz was at his base within a few miles of the border with Gaza preparing for a mission, while simultaneously talking on his phone with an overseas customer about a software project.

"I had to juggle between those two," recalls Raz, sitting in his company's glass-walled office with a view of the Mediterranean Sea in the distance. "I remember it being super, super hard."

Israeli aircraft were firing guns overhead while Raz was talking business with a client.

"One of the customers asked, 'What's this noise?' and I had to explain that this is shooting sounds," Raz recalls.

Raz, whose unit forbids him from giving his full name for security reasons, has spent the last three months splitting his time among military missions, training and developing software.

"Being a soldier is harder than being a software engineer," he says matter-of-factly. But, he adds, "I also think that preserving the high-tech sector in Israel is a very important mission."

High tech is Israel's most productive sector but now faces a labor shortage

Israel is home to one of the world's top tech sectors. The country's best-known tech products include Waze, the driving directions app. High technology is also Israel's most productive sector. It employs about 12% of the workforce, and it accounts for 18% of gross domestic product and half of the country's exports, according to the Israel Innovation Authority, a government agency that supports the sector's development.

Tens of thousands of Israeli tech workers like Raz are also reservists who have been called up since the Hamas-led attack on Oct. 7, which means tech has faced a major labor shortage in recent months. The firms hold the reservists' jobs open, waiting for their return.

At the beginning of the war, the Israeli army said it was mobilizing 360,000 reservists — more than it has for any previous war this century. The Bank of Israel estimates the economy shrank by 2% in the final three months of 2023, and it expects the war to cost about $58 billion.

"While it's common to talk about the international pressure that's increasing on Israel to reach a cease-fire," says Dan Ben-David, who teaches economics at Tel Aviv University, "there is also going to be increasing internal pressure by people who need to work."

The war has spooked some foreign investors

Rami Ben Efraim, a retired air force general and tech firm owner, has felt the labor pinch, though he says his business remains resilient. More than half the workers at Planet Nine, one of his tech companies, are reservists. That includes the firm's chief operating officer, who flies an F-16, leading a group on bombing missions and close air support.

Ben Efraim says when the war started, his message to his chief operating officer was simple: "Just go to the air force. ... I'll call you once a week. I'll tell you what is happening here. You don't have any tasks."

Another of Ben Efraim's employees serves in a cyber unit, splitting his seven-day workweek between the company and the military, including night shifts.

"I'm just trying to make sure that they're not exhausted," Ben Efraim says. "I'm telling them ... the military is more important than us right now. If you have some extra time, please come and help us here."

Ben Efraim's company has had to push back some projects, but his firm focuses on applied R&D projects in cyber and artificial intelligence, so demand remains robust regardless of the war.

Tech companies have managed the labor shortage by hiring new employees and subcontracting some work to other firms at home and abroad.

Things are much harder for newer companies. The war has spooked some foreign investors, and hundreds of early-stage startups have not been able to access the investment they need to keep operating. Dror Bin, who runs the Israel Innovation Authority, says it is offering a total of $100 million in funding to help keep them afloat as part of a new government program started after Oct. 7.

"If the company is successful, they will pay us back the loan as a royalty from their revenues," he says. "If they fail, the money is gone."

Even before the war, Israeli politics also made investors wary

The war is just the latest drag on tech investment. Last January, the government launched plans to reform the country's judiciary, which many Israelis saw as an attempt to undermine democracy. Hundreds of thousands took to the streets. Foreign investors worried about the country's rule of law.

"Founders that started companies were told by their investors that they should form the companies outside of Israel, because if Israel has no independent court system, then you want the companies to be incorporated elsewhere," says Gigi Levy-Weiss, a leading tech venture capitalist based in Tel Aviv.

Instead of launching 1,300 or 1,400 new companies annually, as it typically does, Israel's tech sector formed only about 400 last year, Levy-Weiss says. He adds that this is about the same number per year as Israel's tech sector produced two decades ago.

In the wake of the Oct. 7 attack, which Israel says killed more than 1,200 people, and the subsequent war in Gaza, where Israel's offensive has killed more than 23,000 Palestinians, according to Gaza's Health Ministry, the Israeli government says it has shelved its judicial reform plans — for now.

Tech leaders are bullish on the sector's resilience and say bursts of innovation tend to follow wars here, but Levy-Weiss still has concerns.

"I worry that unless we create full certainty, many investors that loved investing in Israel are going to say, 'I need to see for a second what's happening,'" Levy-Weiss says. "'I need to see that the war is really over. I need to see that there's a solution for Gaza. I need to see that there isn't a [judicial] reform anymore.'"

As for Raz, the software engineer, the army released him from reserve duty this month. He's moving to Southeast Asia and is excited about a new job as a project manager. He'll still be with an Israeli company but now back to working full time.

Eve Guterman contributed to this report in Tel Aviv, Israel.

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