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Tracing the roots of Israel’s technology cluster to agriculture and beyond

The hard-to-replicate model that everyone is trying to replicate

The following post is taken from my contribution to the recent Royal Society report on research clusters, republished here under a creative commons license. The full report has eight case studies (see my previous piece on Pittsburgh). Individually, they tell the story of how the actions of leaders, businesses, universities and communities have affected the development of different places with different contexts and histories. Combined, patterns and trends begin to emerge. The story of Israel’s technology sector is closely intertwined with the complex history of Israel itself.

Israel, owing to its prolific track record of establishing innovative information and communications technology (ICT) companies, has earned itself the moniker of ‘start-up nation’. A 2011 book, taking this moniker as its title, described how Israel (with a population of just under nine million) had more companies on the Nasdaq stock exchange than South Korea, Japan, Singapore, India and all of Europe combined, and the highest density of start-ups per person in the world.1

Others describe Israel’s technology cluster as ‘Silicon Wadi’, after the concentration of high-tech firms along the coastal plain. Activity is concentrated in metropolitan Tel Aviv – including the affluent suburbs of Herzeliya, Ramat Gan and Ra’anana – and Haifa in the north (home to Matam Technology Park, Israel’s first and largest high-tech business park), together with the second city of Jerusalem. Including some secondary areas, such as the corridor south from Tel Aviv to Be’er Sheva and the Western Galilee, the cluster covers an area no larger than 6,000 square kilometres – half that of the extended Silicon Valley in the US.2

Around 1,400 start-ups are created every year in Israel and some 800 shut down.3 In total, there is roughly one start up per 1,400 people. In comparison, France has 0.112 startups for every 1,400 people, Germany has 0.056, and the UK has 0.21.4 This growth is not just a recent phenomenon. According to the IVC Research Center, 10,866 high-tech companies were established in the period 2010 to 2019, with 98 listed on the Nasdaq, and 369 accelerators and 24 incubators established. Since 2010, capital raising by Israeli tech companies has risen by 400 percent and the number of deals by 64 percent.5

Amid this explosion of numbers, questions have been asked whether Israel needs to transform from start-up nation to scale-up nation, or if too many young enterprises are being bought out by international companies.6 Others suggest the start-up scene has already matured: Israel’s cluster of high-technology industries emerged in the late 1990s. Since then many companies have grown substantially, and the country hosts large research and development (R&D) sites for many multinational technology companies.

These developments, and the orientation of the Israeli economy, are reflected in statistics for both exports and research and development. ICT services form over 45 percent of Israel’s service exports, compared to 7 percent for the UK, and 9.5 percent for high-income countries as a whole.7 Israel’s research and development expenditure, at 4.58 percent of GDP, towers above the UK (1.67 percent), and the high-income country average (2.57 percent).8 And Israel has 8,250 R&D researchers per million people, compared to 4,377 in the UK and 4,196 in high-income countries.9

The story of Israel’s technology sector is – more so than many other clusters – also a tale of the country’s national development. The emergence of the Israeli ICT cluster is the result of several complex and interrelated factors including culture, geopolitics, state intervention and broader government policies. Some of these factors, as we will see, can be double-edged swords, and few are easy to replicate (despite the Israeli model being cited as inspiration in other countries).10

Development

The emergence of Israel’s technology cluster can best be explained through direct factors – historical decisions shaped through geopolitical circumstances and government interventions – and contributory or enabling factors that include broader government policies, cultural influences and the military.

In an article on ‘Clusters as Innovation Engines’ published in the European Management Review, the authors claim that some of the world’s most powerful innovation clusters, including Tel Aviv, are relatively young and their origins cannot be traced to historical reasons as implied by cluster theory.11 This isn’t quite accurate: whilst the emergence of an Israeli technology cluster took place in a concentrated period of a few decades, the roots of this cluster can be traced to Israel’s founding in 1948.

Two constraints since then have encouraged innovation. First, Israel is resource-poor. According to Shimon Peres, former Israeli President and Prime Minister, ‘high-tech in Israel began with agriculture… technology was 95 percent of the secret of Israel’s prodigious agricultural productivity’.12 Today, the legacy of agricultural kibbutz (collective community) movements is felt in a proclivity for shared working and teamwork, and the converting of municipal facilities such as city libraries into incubator start-up spaces.13 And Israel’s national emphasis on agriculture and agricultural technology helped the transition into what is today a healthy biotechnology and life sciences cluster.14

A second constraint is the geopolitics of the region. Even when Israel has not been at war with its neighbours, the relationship has been uneasy and borders closed to people and goods. This has meant a focus on innovative solutions and high-tech development as a form of protection, and a need to think globally and develop exports for more distant markets; software and services are easier to sell half way around the world than heavy machinery. Israel was then well-positioned to benefit from the global shift towards knowledge- and innovation-based economies.15

The Israel Defence Forces, given a central national role as a direct result of these geopolitical constraints, was a driving force of Israel’s emergence as a technology cluster. Military innovation accelerated following the French embargo imposed on Israel after the 1967 Middle East war, requiring Israel to develop its own military technology.16 Many commercial technologies have emerged from highly-specialised Israeli military R&D, from fibre-optics and voice compression to networking software and devices; Israeli military intelligence had a computer training unit as early at 1960 helping establish world-leading expertise that was later commercialised.17 As important as the technology itself, however, was flow of people with the skills and leadership ability to manage technology companies, and deep experience of working on cutting-edge innovations.18

Israeli high-tech firms began to form in the 1960s, albeit at a slow pace.19 ECI Telecom was founded in 1961, and Tadiran and Elron Electronics in 1962; Elron is seen as the ‘Fairchild of Israel’ after the legendary Silicon Valley firm. Yet the cluster truly emerged in the mid-1990s, as the rate of successful companies grew from 1-2 per year to 10-20. de Fontenay and Carmel attribute this to the emergence of ‘specialised cluster intermediary services’ such as venture capital and legal services, services which also had professional networks in the United States, the major market for Israeli companies. Strong interpersonal networks and direct experience then allowed new firms to grow more quickly.20

Broader developments helped the cluster’s growth. Global telecommunications and internet booms in the 1990s increased demand and led to several high-profile acquisitions of Israeli companies.21 Shifts in the computer industry from hardware to software products greatly benefited Israel, particularly owing to the demand from businesses for security tools – several of which had been well-tested within Israeli military communications networks.22 Finally, the 1993 Oslo accords with the Palestinians encourages large companies such as Cisco, Motorola, IBM, Microsoft and Hewlett-Packard to invest heavily in R&D centres in Israel, helping to build international networks, expand employment opportunities and develop skills.23

Government interventions have directly stimulated the Israeli technology cluster, with the state nurturing the development of a venture capital industry. Several initiatives stand out. Yozma (Hebrew for ‘initiative’) began in 1993 with 100 million USD and established 10 venture capital funds with the aim of attracting foreign direct investment into Israel. Investors were offered matched funding at the rate of two dollars from the government for every dollar committed by a foreign investor. Equally generous was the option of buying out the government’s stake in the fund after five years. The fund has grown to manage billions of dollars of capital today.24

Other important initiatives include the Office of the Chief Scientist (now Israel Innovation Authority) R&D Development Fund, which gives new R&D facilities access to interest-free loans to match private investment, and the Israel-US Binational Industrial Research and Development Foundation (BIRD) fund, financed by both governments. BIRD ‘played matchmaker’ between an Israeli company with innovative technology and a US company who could distribute and market the product. Although the financial incentives were helpful, the largest impact was to teach young Israeli companies how to do business in the US.25 The state has also reduced bureaucracy, simplified tax regulations, and established incubators.26

Finally, two further factors have enabled cluster growth. The first is the influence of the unique Israeli military culture, pervasive in Israeli businesses because of compulsive military service (for at least two years from the age of 18). The Israel Defence Forces have an unusually flat hierarchy, leading to informal communication with superiors (and the willingness to challenge authority), great flexibility, the development of strong leadership skills, and experience of shouldering considerable responsibility at a young age: all skills that translate into strong entrepreneurship and teamwork in business.27 The strong networks formed in the military – often with people from different backgrounds – are then maintained through reserve duty for many years following military service.28 Alumni who met whilst working in the elite military units (particularly in intelligence) have spawned many high-tech companies, and graduates from these units are often the recruitment targets of major US technology companies.29

The second contributory factor was a large stock of human capital. Levels of education and technical skills are high, supported by world-class universities such as the Israel Institute of Technology (called the Technion) and the Weizmann Institute of Science. But the Israeli government’s open immigration policy towards Jews has also provided a significant inflow of talent. When the US tightened immigration in the 1990s, Israel saw a dramatic increase in immigration of often highly-educated Jewish immigrants from former Soviet Union nations – in ten years the population grew by 800,000, or one fifth; the number of engineers in Tel Aviv doubled. Given the traditional strengths of Soviet Union countries in theoretical sciences, Israel became ‘a superpower in mathematics’, as well as gaining knowledge of proprietary technologies and different methodologies.30 These enabling factors helped provide fuel for the Israeli technology cluster, and in turn for the growth of the nation.

Outcomes

By the late 1990s, the Israeli technology cluster was internationally connected and strongly entrepreneurial, based on deep stocks of human capital and local knowledge. The source of this innovation was commercialisation of military technology and university R&D, supported by flows of skilled workers and a government interventions to promote investment and generate capital.31 Although the acquisitions of several Israeli companies and the opening of large R&D plants put the country on the global innovation radar, it was the result of decades of government-led economic development rooted in efforts to secure national security and high-tech growth.

There are several key outcomes of these developments. First, Israel’s technology cluster overcame its geographic isolation to work effectively with distant – primarily US – markets by building on world-leading expertise and targeting business customers who require less face-to-face support.32 Professional ties with other clusters, such as Silicon Valley, are strong and aided by the diaspora concentrated in New York and Los Angeles. Concerns over brain drain, as young Israelis look to study and work abroad, are countered by new networks formed and the return of expatriates – often many years later – to set up regional offices or to champion investment and R&D centres in Israel.33

Second, a mature venture capital industry has emerged in Israel. More than 430 professional investors (including venture capital firms, private equity firms and incubators) have a permanent presence in Israel; just under a quarter of these are non-Israeli. Nearly 1,500 investors, representing more than 30 countries, invested in Israeli companies during 2018.34

Third, the Israeli culture – a somewhat intangible factor that draws on the collectivist origins of Israeli society and the nature of the military – has offered a competitive advantage. In addition to the factors explored in the section above, it has been suggested that collectivism and military service translates into loyalty, strong teamwork and lower turnover in the workplace compared to competitor nations. This might mean, for example, faster development times and greater retained knowledge when designing new computer chips – which often have long development cycles.35 However, despite these considerable advantages, the Israeli technology cluster faces several challenges that spring from each of these three outcomes.

Looking forward

One might imagine that the spectre of instability and violence, which served as the impetus for Israel’s focus on national growth and security, might also undo confidence in the ability of Israelis to innovate, and undermine investment in Israeli companies. Senor and Singer argue in Start-Up Nation that the determination of Israeli entrepreneurs to continue innovating in the face of war makes the country more enticing for investors.36 An analysis of the effect of Palestinian terrorist attacks during the second Intifada (2000-2005) found that despite being profoundly affected by terrorism, Israeli society was not demoralised by it because the public possessed a high level of social resilience – fostered in part by the cohesiveness of Israeli-Jewish society.37 Although violence continues to be a risk factor, more prosaic factors are perhaps of more concern.

First, the cultural attributes that lend themselves to entrepreneurialism may be a double-edged sword. The Israeli high-tech community has been accused of inattention to detail, indifference to quality, an unscalable management culture, and poor customer service. In particular, the management culture may be hindering the growth of companies, with few growing larger than 1,000 employees.38 Others fear that the ‘national characteristic of brusqueness is better suited to the creative process, not the nurturing of long-term projects’.39

Second, there is concern that start-up founders are too focused on buy-outs (and big pay offs) from overseas companies or public listings, instead of growing large businesses.40 Connected to this are perennial fears of brain drain and an exodus of talent to the US.41 These fears are heightened by a shortage of skilled software engineers, with five jobs for every applicant in the sector. Efforts to bridge the gap include alternative training programs such as tech boot camps, and boosting recruitment of women and Arab and ultra-Orthodox Jewish minorities, who are all under-represented in the sector.42

(Photos from Unsplash: street, square, skyline)

  1. Senor, D. and Singer, S., 2011. Start-up nation: The story of Israel’s economic miracle. Random House Digital.
  2. de Fontenay, C. and Carmel, E. (2001) ‘Israel’s Silicon Wadi: The Forces behind cluster formation’, Stanford Institute for Economic Policy Research, Discussion Paper 00-40.
  3. https://www.timesofisrael.com/startup-nation-has-grown-into-tech-nation-intel-israel-rd-chief-says/.
  4. https://www.forbes.com/sites/startupnationcentral/2018/05/14/israeli-techs-identity-crisis-startup-nation-or-scale-up-nation/#46c07ad6ef48.
  5. https://www.ivc-online.com/Portals/0/RC/Magazine%20&%20YB/IVC_ANNUAL_ISRAELI_TECH_REVIEW_FEB_2020/mobile/index.html#p=4.
  6. https://www.ft.com/content/e4b5a70a-c903-11e5-a8ef-ea66e967dd44; https://blogs.timesofisrael.com/israel-turns-71-is-the-start-up-nation-ready-to-be-a-scale-up-nation/.
  7. 2017 figures; World Bank data: https://data.worldbank.org/indicator/BX.GSR.CCIS.ZS?locations=IL-GB.
  8. 2017 figures; World Bank data: https://data.worldbank.org/indicator/GB.XPD.RSDV.GD.ZS?locations=IL-GB-XD.
  9. Israel figure 2012, UK figure 2017, high income country average figure 2016; World Bank data: https://data.worldbank.org/indicator/SP.POP.SCIE.RD.P6?locations=IL-GB-XD.
  10. From Ireland to Lithuania: https://www.irishtimes.com/news/what-ireland-has-to-learn-from-israel-s-high-tech-companies-1.683699; https://www.haaretz.com/israel-news/business/1.5109951.
  11. Ferras‐Hernandez, X. and Nylund, P.A., 2019. Clusters as innovation engines: The accelerating strengths of proximity. European Management Review, 16(1), pp.37-53.
  12. Senor, D. and Singer, S., 2011. Start-up nation: The story of Israel’s economic miracle. Random House Digital, p.xii.
  13. Haynes, C. and Langley, V. (2014). Magnet Cities. KPMG.
  14. De Fontenay, C. and Carmel, E. (2001) ‘Israel’s Silicon Wadi: The Forces behind cluster formation’, Stanford Institute for Economic Policy Research, Discussion Paper 00-40.
  15. Gilbert, B.A., Li, Y., Velez-Calle, A. and Crews, M., 2019. A theoretical model of values and behaviors that shape technology region emergence in developing contexts. Small Business Economics, pp.1-13; Senor, D. and Singer, S., 2011. Start-up nation: The story of Israel’s economic miracle. Random House Digital.
  16. A few years later, the the US replaced France as the main supplier of arms. The US has since given billions of dollars in aid and military assistance and as such is a key part of the Israel’s technology story (Devi, S. ‘Business as usual’, Financial Times Magazine, April 13 2007). This stimulation of demand from military and technology projects is also a common characteristic shared with the US (Ferras‐Hernandez, X. and Nylund, P.A., 2019. Clusters as innovation engines: The accelerating strengths of proximity. European Management Review, 16(1), pp.37-53).
  17. Devi, S. ‘Business as usual’, Financial Times Magazine, April 13 2007; de Fontenay, C. and Carmel, E. (2001) ‘Israel’s Silicon Wadi: The Forces behind cluster formation’, Stanford Institute for Economic Policy Research, Discussion Paper 00-40.
  18. de Fontenay and Carmel note that, paradoxically, the military protects less of its intellectual property than do commercial firms, thus encouraging greater rates of commercial innovation. de Fontenay, C. and Carmel, E. (2001) ‘Israel’s Silicon Wadi: The Forces behind cluster formation’, Stanford Institute for Economic Policy Research, Discussion Paper 00-40.
  19. de Fontenay and Carmel provide a detailed account, summarised here. de Fontenay, C. and Carmel, E. (2001) ‘Israel’s Silicon Wadi: The Forces behind cluster formation’, Stanford Institute for Economic Policy Research, Discussion Paper 00-40.
  20. de Fontenay, C. and Carmel, E. (2001) ‘Israel’s Silicon Wadi: The Forces behind cluster formation’, Stanford Institute for Economic Policy Research, Discussion Paper 00-40, pp.25-26.
  21. In particular communications tools (again a legacy of military-developed technology). Detailed in Haynes, C. and Langley, V. (2014). Magnet Cities. KPMG. The burst of the dot com bubble in 2000 did, however, lead many companies to make mass redundancies.
  22. de Fontenay, C. and Carmel, E. (2001) ‘Israel’s Silicon Wadi: The Forces behind cluster formation’, Stanford Institute for Economic Policy Research, Discussion Paper 00-40.
  23. Devi, S. ‘Business as usual’, Financial Times Magazine, April 13 2007.
  24. Haynes, C. and Langley, V. (2014). Magnet Cities. KPMG; Senor, D. and Singer, S., 2011. Start-up nation: The story of Israel’s economic miracle. Random House Digital.
  25. Senor, D. and Singer, S., 2011. Start-up nation: The story of Israel’s economic miracle. Random House Digital, p.200.
  26. de Fontenay, C. and Carmel, E. (2001) ‘Israel’s Silicon Wadi: The Forces behind cluster formation’, Stanford Institute for Economic Policy Research, Discussion Paper 00-40.
  27. Explored in great detail in Senor, D. and Singer, S., 2011. Start-up nation: The story of Israel’s economic miracle, Random House Digital. See also de Fontenay, C. and Carmel, E. (2001) ‘Israel’s Silicon Wadi: The Forces behind cluster formation’, Stanford Institute for Economic Policy Research, Discussion Paper 00-40.
  28. They also contribute to a broader national network: ”You are never more than a couple of telephone calls away from anybody else in Israel, and we all like to help each other out if we can”, says one entrepreneur and investor in a Financial Times profile (Devi, S. ‘Business as usual’, Financial Times Magazine, April 13 2007). The size of Israel’s population also makes this a more feasible proposition than in larger countries.
  29. Haynes, C. and Langley, V. (2014). Magnet Cities. KPMG. Senor and Singer describe the IDF’s elite units as Israel’s equivalent of Yale, Harvard and Princeton. Senor, D. and Singer, S., 2011. Start-up nation: The story of Israel’s economic miracle. Random House Digital, p.84.
  30. de Fontenay, C. and Carmel, E. (2001) ‘Israel’s Silicon Wadi: The Forces behind cluster formation’, Stanford Institute for Economic Policy Research, Discussion Paper 00-40.
  31. Roper, S. and Grimes, S., 2005. Wireless valley, silicon wadi and digital island––Helsinki, Tel Aviv and Dublin and the ICT global production network. Geoforum, 36(3), pp.297-313.
  32. In common with other nations such as Taiwan and India, where local demand was deemed insufficient (de Fontenay, C. and Carmel, E. (2001) ‘Israel’s Silicon Wadi: The Forces behind cluster formation’, Stanford Institute for Economic Policy Research, Discussion Paper 00-40). In this sense, Israel also shares characteristics of other innovation-rich economies such as Ireland and Finland, which are relatively small and have fewer natural resources, and thus have focused on knowledge-intensive industries requiring firms to target export markets (Roper, S. and Grimes, S., 2005. Wireless valley, silicon wadi and digital island––Helsinki, Tel Aviv and Dublin and the ICT global production network. Geoforum, 36(3), pp.297-313).
  33. As was the case for Intel and Microsoft. de Fontenay, C. and Carmel, E. (2001) ‘Israel’s Silicon Wadi: The Forces behind cluster formation’, Stanford Institute for Economic Policy Research, Discussion Paper 00-40.
  34. The State of the Israeli Ecosystem in 2018, Start Up Nation Central: Finders Insights Series. (http://mlp.startupnationcentral.org/rs/663-SRH-472/images/Start-Up%20Nation%20Central%20Annual%20Report%202019.pdf).
  35. de Fontenay, C. and Carmel, E. (2001) ‘Israel’s Silicon Wadi: The Forces behind cluster formation’, Stanford Institute for Economic Policy Research, Discussion Paper 00-40.
  36. They also show that investment in Israeli hi-tech continued to increase in the face of rising violence in the early 2000s. Senor, D. and Singer, S., 2011. Start-up nation: The story of Israel’s economic miracle. Random House Digital, p.182.
  37. Waxman, D., 2011. Living with terror, not living in terror: The impact of chronic terrorism on Israeli society. Perspectives on Terrorism, 5(5/6), pp.4-26.
  38. de Fontenay, C. and Carmel, E. (2001) ‘Israel’s Silicon Wadi: The Forces behind cluster formation’, Stanford Institute for Economic Policy Research, Discussion Paper 00-40. Note this is dated. To quote from their interviews: ‘“That’s why Israel will never put a man on the moon” [said one]… meaning that a research organisation the size of NASA could never function properly given Israeli organisational culture’.
  39. Devi, S. ‘Business as usual’, Financial Times Magazine, April 13 2007.
  40. Haynes, C. and Langley, V. (2014). Magnet Cities. KPMG; Devi, S. ‘Business as usual’, Financial Times Magazine, April 13 2007.
  41. See, for example, https://www.newsweek.com/2018/05/18/israel-brain-drain-technology-startup-nation-religion-palestinians-economy-919477.html.
  42. https://www.ft.com/content/e4b5a70a-c903-11e5-a8ef-ea66e967dd44; https://blog.startupnationcentral.org/general/israel-high-tech-human-capital-shortage/.

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