Start-Up Nation - The Story of Israel's Economic Miracle Part 8

A similar picture can be seen in venture capital funding. When the VC bubble burst in 2000, investments in Israel dropped dramatically. But Israel's market share of the global VC flow increased from 15 to 30 percent over the next three years, even as the Israeli economy came under increasing stress.

Israel may not, however, fare as well in the current global economic slowdown, which, unlike that of 2000, is not limited to international tech stocks and venture capital funding but is being dramatically felt in the global banking system as well.

That said, the breakdown in international finance has infected almost every nation's banking system, with two notable exceptions: neither Canada nor Israel has faced a single bank failure. Since Israel's hyperinflation and banking crisis of the early 1980s-which culminated in 1985 with the trilateral intervention of the Israeli and U.S. governments and the IMF-tight restrictions have been in place. Israel's financial inst.i.tutions adhere to conservative lending policies, typically leveraged 5 to 1. U.S. banks, on the other hand-precrisis-were leveraged at 26 to 1, and some European banks at a staggering 61 to 1. There were no subprime mortgages in Israel, and a secondary mortgage market never came into existence. If anything, a shortage of financing-even before the crisis-for small businesses in Israel drove even more people into the technology sector, where taxes and regulations were more friendly and venture capital was available.

As Israeli financial a.n.a.lyst Eytan Avriel put it, "Israeli banks were horse-drawn carts and U.S. banks were racing cars. But those racing cars crashed badly whereas the carts traveled more slowly and stayed on course."1 This is the good news for Israel. Yet while Israel's economy was not exposed to bad lending practices or complex credit products, it may be overexposed to venture finance, which could soon be in scarce supply. Venture capital firms are funded largely by inst.i.tutional investors such as pension funds, endowments, and sovereign wealth funds. These investors set aside a specific allocation for what are called alternative investments (venture capital, private equity, hedge funds), typically in the range of 3 to 5 percent of their overall portfolios. But as the dollar value of their public equity (stock market) allocations has shrunk-due in large measure to cras.h.i.+ng markets globally-it has shrunk the absolute dollar amount available for alternative investments. The overall pie has been downsized, reducing available funds for venture capital investments.

A diminished supply of venture capital dollars could mean less "innovation finance" for Israel's economy. Thousands of workers in Israel's tech scene have already lost their jobs, and many tech companies have s.h.i.+fted to four-day workweeks to avoid further layoffs.2 In the absence of new financing, many Israeli start-ups have been forced to close. In the absence of new financing, many Israeli start-ups have been forced to close.

In addition to an overdependence on global venture capital, Israeli companies are also overdependent on export markets. Over half of Israel's GDP comes from exports to Europe, North America, and Asia. When those economies slow down or collapse, Israeli start-ups have fewer customers. Because of the Arab boycott, Israel does not have access to most regional markets. And the domestic market is far too small to serve as a subst.i.tute.

Israeli companies will also find it harder to negotiate exits-like Given Imaging's IPO on the NASDAQ or Fraud Sciences' sale to PayPal-which are often the means by which Israeli entrepreneurs and investors ultimately make their money. A global slowdown will coincide with fewer IPOs and acquisitions.

And a continued deterioration of the regional security situation could also threaten Israel's economic success. In 2006 and at the turn of 2008 to 2009, Israel fought wars against two groups trained and funded by Iran. While these wars had little effect on the Israeli economy, and Israeli companies have become adept at upholding their commitments to customers and investors regardless of security threats large and small, the next iteration of the Iranian threat could be different from anything Israel has ever experienced.

Iran, as is widely reported by international regulatory bodies and news organizations, is in pursuit of a nuclear capability. If the Iranian government establishes a nuclear-weaponization program, it could spark a nuclear arms race throughout the Arab world. This could freeze foreign investment in the region.

While much of the international focus is on the potential threat of an Iranian nuclear missile strike on Israel, the political and security leaders.h.i.+p of Israel warns against the effect of an Iranian nuclear capability on the region even if it is never directly used. As Prime Minister Benjamin Netanyahu told us, "The first-stage Iranian goal is to terrify Israel's most talented citizens into leaving."3 Clearly, if the Iranian threat is not somehow addressed, the Israeli economy could be affected. So far, however, the presence or potential of such threats has not deterred foreign companies and venture funds from increasing their investments in Israel.

Indeed, when it comes to threats to the economy, discussion within Israel centers more on domestic factors. Maybe because Israel has inoculated itself against security threats to its economy in the past, or maybe because the prospect of a nuclear threat is too grave to ponder, Tel Aviv University economist Dan Ben-David is fixated on another threat-the "brain drain" from the faculties of Israeli universities.

To be sure, Israel is a leader in the international academic community. A global 2008 survey by Scientist Scientist magazine named two Israeli inst.i.tutions-the Weizmann Inst.i.tute and the Hebrew University of Jerusalem-as the top two "best places to work in academia" outside the United States. magazine named two Israeli inst.i.tutions-the Weizmann Inst.i.tute and the Hebrew University of Jerusalem-as the top two "best places to work in academia" outside the United States.4 Economist Dan Ben-David pointed us to a study by two French academics that ranks nations outside the United States according to publications in top economic journals between 1971 and 2000. The United Kingdom-including the London School of Economics, Oxford, and Cambridge-came in at number two. Germany had fewer than half as many publications per faculty member as the British had. And Israel was number one. "Not five or ten percent more, but seven times more-in a league of our own," Ben-David crowed to us. "And as good as Israel's economists are, our computer scientists are apparently even better, relative to their field. We have two n.o.bel Prizes recently in economics, and one or two in chemistry."5 But despite all this success, Ben-David is worried. He told us that Israel's academic lead has lessened in recent years, and will fall further as older faculty members retire and many of the rising stars leave to teach abroad. In his own field, economics, Ben-David pointed to a study that found that of the top thousand economists in the world, as measured by citations of their work between 1990 and 2000, twenty-five were Israelis, thirteen of whom were actually based in Israel. Since that study was published, only four of these have remained in Israel full-time. And none of the twelve Israelis working abroad in 2000 have returned to Israel. In total, an estimated three thousand tenured Israeli professors have relocated to universities abroad.

Ben-David is one of those four top economists who remain in Israel. And he is sounding the alarm on Israel's continued economic growth. From 2005 through 2008, Israel grew substantially faster than most developed countries. But there was a recession the previous few years so, Ben-David argues, "all we've done is return to the long-term path. We're not in uncharted territory; we are where we should have been had we not had the recession."

The problem, according to Ben-David, is that while the tech sector has been surging ahead and becoming more productive, the rest of the economy has not been keeping up. "It's like an engine," he says. "You have all the cylinders in the engine. You have all the population in the country. But we're using fewer and fewer of the cylinders to move this machine forward." In essence, the tech sector is financing the rest of the country, which is "not getting the tools or the conditions to work in a modern economy."

This underutilization brings us to what we believe is the biggest threat to Israel's continued economic growth: low partic.i.p.ation in the economy. A little over half of Israel's workforce contributes to the economy in a productive way, compared to a 65 percent rate in the United States. The low Israeli workforce partic.i.p.ation rate is chiefly attributable to two minority communities: haredim haredim, or ultra-Orthodox Jews, and Israeli Arabs.6 Among mainstream Israeli Jewish civilians aged twenty-five to sixty-four, to take one metric, 84 percent of men and 75 percent of women are employed. Among Arab women and haredi haredi men, these percentages are almost flipped: 79 percent and 73 percent, respectively, are men, these percentages are almost flipped: 79 percent and 73 percent, respectively, are not not employed. employed.7 The ultra-Orthodox, or haredim haredim, generally do not serve in the military. Indeed, to qualify for the exemption from military service, haredim haredim have to show that they are engaged in full-time study in Jewish seminaries (yes.h.i.+vot). This arrangement was created by David Ben-Gurion to obtain have to show that they are engaged in full-time study in Jewish seminaries (yes.h.i.+vot). This arrangement was created by David Ben-Gurion to obtain haredi haredi political support at the time of Israel's founding. But while the "yes.h.i.+va exemption" first applied to just four hundred students, it has since ballooned to tens of thousands who go to yes.h.i.+va instead of the army. political support at the time of Israel's founding. But while the "yes.h.i.+va exemption" first applied to just four hundred students, it has since ballooned to tens of thousands who go to yes.h.i.+va instead of the army.

The result of this has been triply harmful to the economy. Haredim Haredim are socially isolated from the workforce because of their lack of army experience; plus, since they are not are socially isolated from the workforce because of their lack of army experience; plus, since they are not allowed allowed to work if they want a military exemption-they have to be studying-as young adults they receive neither private-sector nor military (entrepreneurial) experience; and thus to work if they want a military exemption-they have to be studying-as young adults they receive neither private-sector nor military (entrepreneurial) experience; and thus haredi haredi society becomes increasingly dependent on government welfare payments for survival. society becomes increasingly dependent on government welfare payments for survival.

There are two primary reasons why Israeli Arabs have low partic.i.p.ation rates in the economy. First, because they are not drafted into the army, they, like the haredim haredim, are less likely to develop the entrepreneurial and improvisational skills that the IDF inculcates. Second, they also do not develop the business networks that young Israeli Jews build while serving in the military, a disparity that exacerbates an already long-standing cultural divide between the country's Jewish and Arab communities.

Each year, thousands of Arab students graduate from Israel's technology and engineering schools. Yet, according to Helmi Kittani and Hanoch Marmari, who codirect the Center for Jewish-Arab Economic Development, "only a few manage to find jobs which reflect their training and skills. . . . Israel's Arab graduates need to be equipped with a crucial resource which the government cannot supply: a network of friends in the right places."8 And in the absence of those personal connections, Israeli Jews' mistrust of Israeli Arabs is more likely to hold sway. And in the absence of those personal connections, Israeli Jews' mistrust of Israeli Arabs is more likely to hold sway.

Another problem is the bias within the Israeli Arab community against women in the workplace. A 2008 study by Women Against Violence, an Israeli Arab organization, found that public opinion among local Arabs may be slowly changing, but traditional att.i.tudes are still entrenched. In a survey, even partic.i.p.ants who "opposed older att.i.tudes" still agreed with the statement "Arab society is predominantly patriarchal, where men are perceived as the decision-makers and women as inferior and ideally subservient. . . . A man who treats his partner other than [according to] the acceptable norm endangers his social standing."

Despite this paradox, Women Against Violence director Aida Touma-Suleiman said that she sees men as partners for change, including a new acceptance of women who work outside the home. "There are Arab men who are unhappy with this balance of power, and wish to improve the relations between the genders. They see it as in their interest as much as anyone else's," she said.9 Yet because of the high birth rates in both the haredi haredi and the Arab sectors, efforts to increase workforce partic.i.p.ation in these sectors are racing against the demographic clock. According to and the Arab sectors, efforts to increase workforce partic.i.p.ation in these sectors are racing against the demographic clock. According to Israel 2028 Israel 2028, the report issued by an official blue-ribbon commission, the haredi haredi and Arab sectors are projected to increase from 29 percent of Israel's total population in 2007 to 39 percent by 2028. Without dramatic changes in workforce patterns, this s.h.i.+ft will reduce labor-force partic.i.p.ation rates even further. "The existing trends are working in stark opposition to the desired development," the report warns. and Arab sectors are projected to increase from 29 percent of Israel's total population in 2007 to 39 percent by 2028. Without dramatic changes in workforce patterns, this s.h.i.+ft will reduce labor-force partic.i.p.ation rates even further. "The existing trends are working in stark opposition to the desired development," the report warns.10 As he was campaigning to return to the premiers.h.i.+p, Bibi Netanyahu made getting Israel to number among the top ten largest (per capita) economies in the world a centerpiece of his agenda. An independent think tank, the Reut Inst.i.tute, has been pursuing a similar campaign called Israel 15. Gidi Grinstein, the founding president of Reut, was an adviser to former prime minister and current defense minister Ehud Barak, who had been a political rival of Netanyahu's. Yet Grinstein agrees with Netanyahu that Israel's goal should be not just to keep up with advanced nations but to rise to rank among the top nations as measured by GDP per capita.

As Grinstein sees it, "This challenge is not a luxury, it's a necessity." At a minimum, Israel must grow 4 percent per capita for a decade, he believes; the current gap in living standards between Israel and other developed countries is dangerous. He says, "Our business sector is among the world's best, and our population is rich in skills and education. At the same time, the quality of life and the quality of public services in Israel are low, and for many, emigration is an opportunity to improve their lot."11 This may be overstated, since record numbers of Israeli expatriates have recently been returning from the United States and other countries, in part due to a newly enacted ten-year tax holiday on foreign income for such returnees. And, of course, other factors besides income enter into "quality of life" decisions.

But the point that Israel can, should, and must grow its economy faster is crucial. Of all the threats and challenges facing Israel, an inability to keep the economy growing is perhaps the greatest, since it involves overcoming political obstacles and giving attention to neglected problems. Israel has a rare, maybe unique, cultural and inst.i.tutional foundation that generates both innovation and entrepreneurs.h.i.+p; what it lacks are policy fixes to further amplify and spread these a.s.sets within Israeli society. Fortunately for Israel, it is probably easier to change policies than it is to change a culture, as countries like Singapore demonstrate. As the New York Times New York Times' Thomas Friedman put it, "I would much rather have Israel's problems, which are mostly financial, mostly about governance, and mostly about infrastructure, rather than Singapore's problem because Singapore's problem is culture-bound."12

Conclusion Farmers of High Tech The most careful thing is to dare.

-s.h.i.+MON P PERES AS WE WAITED IN ONE OF THE ANTEROOMS of the President's House, we were not sure how much time we would get with President s.h.i.+mon Peres. At eighty-five, Peres is the last member of the founding generation still in high office. Peres began his career as a twenty-five-year-old sidekick to David Ben-Gurion and went on to serve in almost every ministerial post, including two stints as prime minister. He also picked up a n.o.bel Peace Prize along the way. of the President's House, we were not sure how much time we would get with President s.h.i.+mon Peres. At eighty-five, Peres is the last member of the founding generation still in high office. Peres began his career as a twenty-five-year-old sidekick to David Ben-Gurion and went on to serve in almost every ministerial post, including two stints as prime minister. He also picked up a n.o.bel Peace Prize along the way.

Abroad, he is one of the most admired Israelis. At home, his reputation is more controversial. Peres is known primarily as the father of the 1993 Oslo accords, which were famously inst.i.tuted with a handshake between Yitzhak Rabin and Yasir Arafat in the presence of Bill Clinton on the White House lawn, but which came to symbolize, to many Israelis, false hopes, terrorism, and war.

It is hard to exaggerate Peres's impact on Israel's diplomacy, but this is not what we were primarily interested in talking to him about. Less well known, but no less significant, was his role as a serial entrepreneur of a very unique sort-a founder of industries. He never spent a day of his life in business. In fact, he told us that neither he nor Ben-Gurion knew anything about economics. But Peres's approach to government has been one of an entrepreneur launching start-ups.

Peres grew up on a kibbutz before the founding of the state. It wasn't just the social and economic structure of this Israeli invention that was innovative; its very means of sustenance represented a huge departure. "Agriculture is more revolutionary than industry," Peres was quick to point out as we finally settled into his book-lined office, surrounded by mementos from Ben-Gurion and world leaders.

"In twenty-five years, Israel increased its agricultural yields seventeen times. This is amazing," he told us. People don't realize this, Peres said, but agriculture is "ninety-five percent science, five percent work."

Peres seemed to see technology everywhere, and long before Israelis themselves thought in such terms. This may have been one of the reasons Ben-Gurion backed Peres so strongly; the "Old Man" was also fascinated by technology, he told us. "Ben-Gurion thought the future was science. He would always say that in the army it's not enough to be up to date; you have to be up to tomorrow," Peres recalled.

So Ben-Gurion and Peres became a technological tag team. Peres and American swashbuckler Al Schwimmer started dreaming up an aeronautics industry while flying over the Arctic in 1951. But when they got back to Israel, they were met with stiff opposition. "We can't even make bicycles," ministers told Peres, in days in which a nascent bicycle industry was indeed failing, refugees were continuing to flood into the country, and basic foodstuffs were still being rationed. But with Ben-Gurion's backing, Peres was able to prevail.

Later on, Peres's idea of starting a nuclear industry was similarly written off. It was seen as too ambitious, even by Israeli scientists in the field. The finance minister, who believed that the Israeli economy should focus on textile exports, told Peres, "It's very good you came to me. I shall make sure you won't get a penny." So with typical disregard for the rules, Ben-Gurion and Peres somehow funded the project off-budget and Peres went around the established scientists, turning instead to students at the Technion, some of whom he sent to France for training.

The result was the nuclear reactor near Dimona, which has operated since the early 1960s without mishap and has reportedly made Israel a nuclear power. As of 2005, Israel was the world's tenth-largest producer of nuclear patents.1 But Peres didn't stop there. As deputy minister of defense, he pumped money into defense R&D, to the dismay of the military leaders.h.i.+p, which, perhaps understandably, was more concerned about chronic shortages of weapons, training, and manpower.

Today, Israel leads the world in the percentage of its GDP that goes to research and development, creating both a technological edge critical to national security and a civilian tech sector that is the main engine of the economy. The key, however, is the way the entrepreneurial nation building Peres embodies has morphed into a national condition of entrepreneurs.h.i.+p.

This transformation was not easy, planned, or foreseen. It came later than Israelis would have liked-there was a "lost decade" of low growth and hyperinflation between the founders' era of high growth and the current era of high tech. But it came, and a thread runs through the founders' time of draining swamps and growing oranges to today's era of start-ups and chip designers.

Today's entrepreneurs feel the tug of this thread. While the founders' milieu was socialist and frowned on profit, now "there's a legitimate way to make a profit because you're inventing something," says Erel Margalit, one of Israel's top entrepreneurs. "You're not just trading in goods, or you're not just a finance person. You are doing something for humanity. You are inventing a new drug or a new chip. You feel like a falah falah ["farmer" in Arabic], a farmer of high tech. You dress down. You're with your buddies from the army unit. You talk about a way of life-not necessarily about how much money you're going to make, though it's obviously also about that." For Margalit, innovation and technology are the twenty-first-century version of going back to the land. "The new pioneering, Zionist narrative is about creating things," he says. ["farmer" in Arabic], a farmer of high tech. You dress down. You're with your buddies from the army unit. You talk about a way of life-not necessarily about how much money you're going to make, though it's obviously also about that." For Margalit, innovation and technology are the twenty-first-century version of going back to the land. "The new pioneering, Zionist narrative is about creating things," he says.

Indeed, what makes the current Israeli blend so powerful is that it is a mashup of the founders' patriotism, drive, and constant consciousness of scarcity and adversity and the curiosity and restlessness that have deep roots in Israeli and Jewish history. "The greatest contribution of the Jewish people in history is dissatisfaction," Peres explained. "That's poor for politics but good for science.

"All the time you want to change and change," Peres said, speaking of both the Jewish and the Israeli condition. Echoing what we heard from almost every IDF officer we interviewed, Peres said, "Every technology that arrives in Israel from America, it comes to the army and in five minutes, they change it." But the same thing goes on outside the IDF-an insatiable need to tinker, invent, and challenge.

This theme can be traced to the very idea of Israel's founding. The modern state's founders-or national entrepreneurs entrepreneurs-were building what might be called the first "start-up nation" in history.

Many other nations, of course, have emerged from scratch, at the stroke of a departing colonial power's pen. Neighboring Jordan, for example, was created in 1921 by Winston Churchill, who decided to hand the Hashemite clan a kingdom.

Other countries, like the United States, were the product of a truly entrepreneurial or revolutionary process, rather than a national amalgamation that had accrued slowly over centuries, such as England, France, and Germany. None, however, were the result of such a conscious effort to build from scratch a modern reincarnation of an ancient nation-state.

Some modern countries, of course, can trace their heritage back to ancient empires: Italy to the Romans, Greece to the Greeks, and China and India to peoples who lived in those areas for thousands of years. But in all these other cases, either the original commonalty continued in an unbroken chain from the ancient generations to the modern one, without ever completely losing control of its territory, or the ancient people simply disappeared, never to be heard from again. Only Israel's founders had the temerity to try to start up a modern first-world country in the region from which their ancestors had been exiled two thousand years earlier.

So what is the answer to the central question of this book: What makes Israel so innovative and entrepreneurial? The most obvious explanation lies in a cla.s.sic cl.u.s.ter of the type Harvard professor Michael Porter has championed, Silicon Valley embodies, and Dubai has tried to create. It consists of the tight proximity of great universities, large companies, start-ups, and the ecosystem that connects them-including everything from suppliers, an engineering talent pool, and venture capital. Part of this more visible part of the cl.u.s.ter is the role of the military in pumping R&D funds into cutting-edge systems and elite technological units, and the spillover from this substantial investment, both in technologies and human resources, into the civilian economy.

But this outside layer does not fully explain Israel's success. Singapore has a strong educational system. Korea has conscription and has been facing a ma.s.sive security threat for its entire existence. Finland, Sweden, Denmark, and Ireland are relatively small countries with advanced technology and excellent infrastructure; they have produced lots of patents and reaped robust economic growth. Some of these countries have grown faster for longer than Israel has and enjoy higher standards of living, but none of them have produced anywhere near the number of start-ups or have attracted similarly high levels of venture capital investments.

Antti Vilpponen is a Finnish entrepreneur who helped found a "start-up movement" called ArcticStartup. Finland is home to one of the great technology companies of the world, Nokia, the cell phone maker. Israelis often look to Finland and ask themselves, "Where's our Nokia?" They want to know why Israel hasn't produced a technology company as large and successful as Nokia. But when we asked Vilpponen about the start-up scene in Finland, he lamented, "Finns produce lots of technology patents but we have failed to capitalize on them in the form of start-ups. The initial investment in Finland into a start-up is around three hundred thousand euros, while it's almost ten times higher in Israel. Israel also produces ten times more start-ups than Finland and the turnover of these start-ups is shorter and faster. I'm sure we'll see a lot of growth, but so far we're way behind Israel and the U.S. in developing a start-up culture."2 While the high turnover of start-ups concerns Israelis, Vilpponen sees them as an a.s.set. What is clear is that Israel has something that's sought by other countries-even countries that are considered on the forefront of global compet.i.tiveness. In addition to the inst.i.tutional elements that make up cl.u.s.ters-which Finland, Singapore, and Korea already possess-what's missing in these other countries is a cultural core built on a rich stew of aggressiveness and team orientation, on isolation and connectedness, and on being small and aiming big.

Quantifying that hidden, cultural part of an economy is no easy feat, but a study by professors comparing the cultures of fifty-three countries captured part of it. The study tried to categorize countries according to three parameters that particularly affect the workplace: Are they more hierarchical or more egalitarian, more a.s.sertive or more nurturing, more individualist or more collectivist?3 The study found in Israel a relatively unusual combination of cultural attributes. One might expect that a country like Israel, where people are considered individualistic, would accordingly be less nurturing. Personal ambition might be expected to conflict with teamwork. And one would also antic.i.p.ate that such a type Adriven society would be more hierarchical. In fact, Israel scored high on egalitarianism, nurturing, and individualism. If Israelis are compet.i.tive and aggressive, how can they be "nurturing"? If they are so individualistic, how does that reconcile with the lack of hierarchies and "flatness"?

In Israel, the seemingly contradictory attributes of being both driven and "flat," both ambitious and collectivist make sense when you throw in the experience that so many Israelis go through in the military. There they learn that you must complete your mission, but that the only way to do that is as a team. The battle cry is "After me": there is no leaders.h.i.+p without personal example and without inspiring your team to charge together and with you. There is no leaving anyone behind. You have minimal guidance from the top and are expected to improvise, even if this means breaking some rules. If you're a junior officer, you call your higher-ups by their first names, and if you see them doing something wrong, you say so.

If you stood out in high school for your leaders.h.i.+p skills, scientific test scores, or both, you will be snapped up by one of the IDF's elite units, which will turbocharge your skills with intensive training and the most challenging possible on-the-job experience. In combat, you will be given command of dozens of people and millions of dollars' worth of equipment and be expected to make split-second life-and-death decisions. In the elite technology units, you will be put in charge of development projects for cutting-edge systems, giving you experience that someone twice your age in the private sector might not have.

And when you complete your military service, everything you need to launch a start-up will be a phone call away, if you have the right idea. Everyone knows someone in his or her family, university, or army orbit who is an entrepreneur or understands how to help. Everyone is reachable by cell phone or e-mail. Cold-calling is acceptable but almost never fully cold; almost everyone can find some connection to whomever he or she needs to contact to get started. As Yossi Vardi told us, "Everybody knows everybody."

Most importantly, launching a start-up or going into high tech has become the most respected and "normal" thing for an ambitious young Israeli to do. Like the stereotypical Jewish mother, an Israeli mother might be satisfied with a child who becomes a doctor or a lawyer, but she will be at least as proud of her son or daughter "the entrepreneur." What in most countries is somewhat exceptional in Israel has become an almost standard career track, despite the fact that everyone knows that, even in Israel, the chances of success for start-ups are low. It's okay to try and to fail. Success is best, but failure is not a stigma; it's an important experience for your resume.

The secret, then, of Israel's success is the combination of cla.s.sic elements of technology cl.u.s.ters with some unique Israeli elements that enhance the skills and experience of individuals, make them work together more effectively as teams, and provide tight and readily available connections within an established and growing community. For outside observers, this raises a question: If the Israeli "secret sauce" is so unique to Israel, what can other countries learn from it?

Luckily, while innovation is scarce, it is also a renewable resource. Unlike finite natural resources, ideas can spread and benefit whichever countries are best positioned to take advantage of them, regardless of where they were invented. George Bernard Shaw wrote, "If you have an apple and I have an apple and we exchange apples, then you and I will still each have one apple. But if you have an idea and I have an idea and we exchange these ideas, then each of us will have two ideas."4 While innovation is in principle an unlimited resource, and one that spreads on its own, almost every company wants to obtain the maximum benefit from this process. The world's major companies learned long ago that the simplest way to benefit from Israeli innovations is to buy an Israeli start-up, set up an Israeli R&D center, or both. With our increasingly global world and the movement toward open sourcing, there is little need for multinational companies to try to duplicate the business environments of countries that have a comparative advantage in manufacturing, innovation, or regional market access.

That said, most major companies understand that in a global market where change is the only constant, innovation is one of the foundations of long-term compet.i.tiveness. Further, while it is possible for countries and companies to take advantage of innovation that originates elsewhere, there are also corporate and national advantages to being the source of innovation.

For this purpose, it may be possible to simulate an "Israeli" environment. Intel Israel's Dov Frohman, for example, found it necessary to do this even in Israel itself. His original guiding slogan for Intel Israel was that it would be "the last Intel plant to close in a crisis." When his employees found this description to be too negative, he changed his slogan to "survival through success"-meaning that the goal was success but the motivation was survival, which could never be taken for granted. For Frohman, the key to the success of a large company was "maintaining the atmosphere of a precarious start-up."5 Further, while other democracies have no reason to inst.i.tute a military draft like Israel's, a mandatory or voluntary national service program that is sufficiently challenging could give young college-age people-before they begin college-something like the leaders.h.i.+p, teamwork, and mission-oriented skills and experience Israelis receive through military service. Such a program would also increase social solidarity and help inculcate the value of serving something larger than oneself, whether a family, a community, a company, or a nation. And when U.S. military men and women, for example, are transitioning to civilian life, they should not be advised to deemphasize their military experience when applying for a job.

For any nation and, indeed, for the world, the stakes of increasing innovation are tremendous. Paul Romer, considered one of the leading economists of "new growth theory," points out that the average annual growth rate of the United States between 1870 and 1992 was 1.8 percent-about half a percent higher than in the United Kingdom. He believes that this compet.i.tive edge has been maintained by America's "historical precedent for creating inst.i.tutions which lead to better innovation."6 Romer suggests that subsidizing graduate and undergraduate studies in science and engineering could boost economic growth. In addition, a system of "portable fellows.h.i.+ps," which students could bring to any inst.i.tution, would encourage lab directors and professors to compete over meeting the research and career needs of students, not just their own. Romer suggests that subsidizing graduate and undergraduate studies in science and engineering could boost economic growth. In addition, a system of "portable fellows.h.i.+ps," which students could bring to any inst.i.tution, would encourage lab directors and professors to compete over meeting the research and career needs of students, not just their own.

Romer points out that the biggest leaps in growth and productivity were produced by "meta-ideas" that increased the generation and spread of ideas. Patents and copyrights were a critical meta-idea invented by the British in the seventeenth century, while Americans introduced the modern research university in the nineteenth century and the peer-reviewed compet.i.tive research grant system in the twentieth century.

"We do not know what the next major idea about how to support ideas will be. Nor do we know where it will emerge," writes Romer. "There are, however, two safe predictions. First, the country that takes the lead in the twenty-first century will be the one that implements an innovation that more effectively supports the production of new ideas in the private sector. Second, new meta-ideas of this kind will be found."7 About an hour and a half into our meeting with President Peres, we ran out of time. His next scheduled appointment had arrived, and we prepared to say our good-byes. But as we stood to do so, he paused for a moment and said, "Why don't you come back in half an hour and we can continue?" So we did, and he previewed what his message would be for Israel's entrepreneurs and policymakers in the coming years: "Leave the old industries. There are going to be five new industries. Tremendous-new forms of energy, water, biotechnology, teaching devices-there's a shortage of teachers-and homeland security to defend against terrorism." Nanotechnology research, for which Peres has also been instrumental in establis.h.i.+ng funding, he predicted, would cut across all of these new industries and others as well.

We don't know whether Peres has picked the right industries, but that's not the point. At eighty-five, he still has the chutzpah to think up and advocate new industries. As they do in Israeli society (and have throughout Israel's history), the pioneering and innovative impulses merge into one. At the heart of this combined impulse is an instinctive understanding that the challenge facing every developed country in the twenty-first century is to become an idea factory, which includes both generating ideas at home and taking advantage of ideas generated elsewhere. Israel is one of the world's foremost idea factories, and provides clues for the meta-ideas of the future. Making innovation happen is a collaborative process on many levels, from the team, to the company, to the country, to the world. While many countries have mastered the process at the level of large companies, few have done so at the riskiest and most dynamic level of the process, the innovation-based start-up. Accordingly, while Israel has much to learn from the world, the world has much to learn from Israel. In both directions, the most careful thing, as Peres told us, is to dare.

Acknowledgments.

This book began as a long discussion between the two of us in April 2001, when Dan brought to Israel a group of twenty-eight Harvard Business School cla.s.smates. The purpose was to explore Israel's economy, politics, and history. It was at a time of vast business opportunity in Israel but also, with the collapse of the peace process, of escalating insecurity.

Almost none of the students had any previous ties to Israel-in fact only three were Jewish. They came from a range of countries: the United Kingdom, the United States, Canada, Spain, Italy, Portugal, and India. At the end of the week, many were asking the same question: Where did all this innovation and entrepreneurs.h.i.+p come from?

We realized that we did not have an answer.

Over the years since then, Saul would write Jerusalem Post Jerusalem Post editorials about the Israeli economy and Dan would come to Israel almost every other quarter to invest in start-ups and visit family. As Dan would meet with an impressive Israeli entrepreneur or Saul would highlight one, our curiosity grew. editorials about the Israeli economy and Dan would come to Israel almost every other quarter to invest in start-ups and visit family. As Dan would meet with an impressive Israeli entrepreneur or Saul would highlight one, our curiosity grew.

We a.s.sumed there must be some book that explained what made the start-up scene so vibrant and seemingly impervious to the security situation. There wasn't. So we decided to write one.

We are indebted to many people who have helped us along the way. The greatest compliment we can pay to Jonathan Karp, the founder and force behind Twelve, is that he is a true innovator in the book world. Publis.h.i.+ng only twelve books each year, he is the quintessential undiversified investor. Jon taught us many things, most important among them was to do less arguing and more storytelling.

With energy and creativity, Cary Goldstein thought through who might be interested in this book and how to reach them. Colin Shepherd was meticulous in every phase of the book's production and persistent as the deadline reminder. Dorothea Halliday was abundantly patient in the copyediting phase. Laura Lee Timko, Anne Twomey, Tom Whatley, and Giraud Lorber-also all part of Twelve's team-were a huge help to us.

It was never a dull moment working with Ed Victor, our agent. In promoting our proposal, as with everything he does, Ed was chock-full of chutzpah chutzpah. Don Epstein and Arnie Hermann were trusted advisers, too.

As a rare truly independent research inst.i.tution in its field, the Council on Foreign Relations is a special place. It is an honor for Dan to have a home there. Richard Haa.s.s, CFR's president, was immediately intrigued by the idea of a book on the Israeli economy. He contributed important insights and helped us draft expertise from CFR's diverse scholars and members. We are also specifically grateful to CFR's Isobel Coleman, author of the forthcoming book Paradise Beneath Her Feet: Women and Reform in the Middle East Paradise Beneath Her Feet: Women and Reform in the Middle East (Random House), for sharing her observations with us. Gary Samore, formerly of CFR, provided guidance early on. Jim Lindsay, CFR's director of studies, made several important suggestions on improving the ma.n.u.script. The CFR staff is among the most professional of any organization we've dealt with in the private, academic, or public sectors; we would like to specifically thank Janine Hill for all her patient a.s.sistance, and Lisa s.h.i.+elds and her communications team. (Random House), for sharing her observations with us. Gary Samore, formerly of CFR, provided guidance early on. Jim Lindsay, CFR's director of studies, made several important suggestions on improving the ma.n.u.script. The CFR staff is among the most professional of any organization we've dealt with in the private, academic, or public sectors; we would like to specifically thank Janine Hill for all her patient a.s.sistance, and Lisa s.h.i.+elds and her communications team.

Part of our book was written in the eclectic Van Leer Inst.i.tute in Jerusalem, which made an invaluable contribution by hosting Saul as a library fellow. Our thanks to director Gabriel Motzkin and librarians Yaffa Weingarten and Paul Maurer for all their gracious a.s.sistance.

We are deeply indebted to our industrious and creative team of research a.s.sistants: Michal Lewin-Epstein was our lead researcher at the Council on Foreign Relations; Dani Gilbert spent a summer at CFR with us and then continued doing part-time research while at the London School of Economics; Joshua Kram joined our team for a stint after serving as an adviser to Hillary Clinton's presidential campaign; Talia Gordis brought her own experience in IDF intelligence, and Ian Mitch and Anton Ornstein also helped at CFR as we began the project.

A number of people we interviewed, as well as one of our researchers, came from Arab countries. We respect their request for anonymity, since a.s.sociation with this book could prevent them from working in the Arab world; and we are grateful for their contributions.

With speed and deftness, our friend Judy Heiblum of Sterling Lord Literistic-and a Unit 8200 alumnus-made important suggestions on the structure of the ma.n.u.script.

We thank all the friends and family who read the ma.n.u.script; your sharp and candid feedback sent us back to the drawing board. We are especially grateful to Dan Allen, Stephen Backer, Max Boot, Paul Bremer, Reed d.i.c.kens, Shane Dolgin, Jonathan Ehrlich, Annette Furst, Mark Gerson, Henry Gomez, Alan Isenberg, Terry Ka.s.sel, Roger Marrero, Roman Martinez, Jim Miller, Josh Opperer, Matt Rees, Helen Senor, Suzanne and Max Singer, Andrew Vogel, and Pete Wehner, who read the ma.n.u.script from cover to cover under considerable time pressure.

Dale and Bill Fairbanks (Dan's in-laws) provided a quiet writing refuge in their art studio in Pensacola, Florida, keeping him well fed, highly caffeinated, and intensely focused for a long stretch leading up to the publisher's deadline.

A group of Dan's friends and business partners were extremely patient as this book was being written. Devon Archer, Dan Burrell, David Fife, Chris Heinz, and Jenny Stein deserve special thanks. Paul Singer, while never directly interviewed for this book, has been a teacher about macroeconomics without even realizing it. His very strong views about innovation economics impacted our thinking about the context for this book in the postcrash global economy.

We interviewed over one hundred people for this book, and wish to thank all of them for their time and wisdom. In particular, Hall of Fame Israeli venture investors Eli Barkat, Yigal Erlich, Yadin Kaufmann, Erel Margalit, Jon Medved, Chemi Peres, and Yossi Vardi have been living and telling the Start-up Nation story from long before we got involved; they were our guides. Jon Medved, in particular, was pitching the Israeli economy to the world before it was on anyone's map. Other extremely busy people who spent a lot of time with us in multiple interviews were Shai Aga.s.si, Tal Keinan, and Scott Thompson. Isaac "Yitz" Applbaum and Alan Feld went out of their way to put themselves "on call" for us. Professor s.h.i.+ra Wolovsky Weiss helped us early on, as did Ken Pucker.

A number of U.S. companies have a strong presence in Israel and truly "get" the Start-up Nation. Current and former leaders from three in particular opened their doors to us in Israel and in Silicon Valley and provided lots of access: thank you to Google's Eric Schmidt, David Krane, Yossi Mattias, Andrew McLaughlin, and Yoelle Maarek; Intel's Shmuel Eden and David Perlmutter; and Cisco's Michael Laor and Yoav Samet.

Leon Wieseltier provided us with wise counsel on the relations.h.i.+p between Jewish history and the modern Israeli ethos.

Stuart Anderson, a former colleague of Dan's from the Senate Subcommittee on Immigration, has always been a source of rich a.n.a.lysis on immigration reform. He shared important research on the subject for this book.

We are grateful to the president of Israel, s.h.i.+mon Peres, who gave us half a day in his office. He not only gave us his unique perspective as a central player throughout the entire span of Israel's history, but is still, at age eighty-five, in high office and busy working to launch whole new industries. We would also like to thank the prime minister of Israel, Benjamin Netanyahu, for spending a lot of time with us during a hectic period for him in 2008.

As we compared the Israeli and American experiences, a number of U.S. military leaders helped us think through the contrasts. In particular, we would like to thank Generals John Abizaid (ret.), Jack Keane (ret.), Mark Kimmitt (ret.), David Petraeus, H. R. McMaster, and Jim Newbold (ret.).

Our wives, Campbell Brown (Dan) and Wendy Singer (Saul), have been an integral part of our daily conversation about this book since we began writing it, and bore the brunt of the frenzied weeks before each deadline.

Campbell gave birth to the Senors' first son, Eli, two weeks before we started writing the proposal, and to their second, Asher, just before we submitted the final ma.n.u.script, all as she held down the family fort during a chaotic time. Wendy scooped up the Singer girls-Noa, Tamar, and Yarden-for week-long trips to give Saul s.p.a.ce before deadlines. The Singer girls added to our excitement as they lapped up stories of the latest Israeli inventions with enthusiasm.

This book relied heavily on Campbell's and Wendy's criticisms and advice, and could not have been completed without their virtuoso feats of mult.i.tasking. For that, and for so much more, we dedicate it to them.

We have also dedicated this book to Jim Senor (Dan's father) and Alex Singer (Saul's brother).

Jim worked in Iran helping to organize the Jewish community, and later for the Weizmann Inst.i.tute of Science, where he drafted resources for its pioneering solar energy program. Just months before the 1985 ground-breaking for the field of mirrors-now still active as a research facility-Jim pa.s.sed away.

On September 15, 1987, his twenty-fifth birthday, IDF Lieutenant Alex Singer was flown by helicopter into Lebanon to intercept terrorists bound for Israel; he was killed while trying to rescue his downed company commander. Many who never knew him have since been inspired by the joy and pa.s.sion of his life as seen in Alex: Building a Life Alex: Building a Life, the book of his letters, journals, and art.

Jim's and Alex's work is part of this story. We missed their guidance, and sharing their amazement at what the Start-up Nation has become.

NOTES.

Introduction.