ISRAELIS tell a joke about a Jew who takes to reading Arab newspapers. A friend, puzzled, asks him why. If I read the Israeli papers, all I hear is bad news about the Jews, he replies; but the Arab papers constantly claim we are all rich and successful, and rule the world. These days the hero of the tale has another source of good news about Israel: the business press. Over the past two decades Israel has been transformed from a semisocialist backwater into a high-tech superpower. Adjust for population and Israel leads the world in the number of high-tech start-ups and the size of the venture-capital industry. Twenty years ago Harvard Business School's leading guru, Michael Porter, devoted just one sentence of his 855-page "The Competitive Advantage of Nations" to Israel; today there is a growing pile of books on Israel's high-tech boom, most notably "Start-Up Nation: The Story of Israel's Economic Miracle", by Dan Senor and Saul Singer.

Israelis are rightly proud of their high-tech miracle. They lap up books like "Start-Up Nation" and delight in talking about their country's successful IPOs. They are also proud of how it was one of the last countries to enter recession and among the earliest to exit: the economy grew by more than 4% in the year to September. But for all its success the Israeli boom nevertheless raises a number of troubling questions.

First, does the economy rest on too narrow a base? High-tech industries employ only 10% of the workforce but account for 40% of exports. Second, why has Israel proved so bad at turning start-ups into domestic giants? It has 3,800 high-tech start-ups but only four high-tech companies with sales of more than $1 billion a year. Third, is Israel capable of producing content for the internet as well as just the hardware and software that constitutes its "plumbing"? And, fourth, why has the land of the high-tech miracle got one of the rich world's lowest labour-participation rates, just 55%? These questions all add up to one bigger one. Is the Israeli miracle sustainable? Or did it result from a peculiar combination of circumstances in the 1990s?

Israel's policymakers are well aware of all this, and are thinking hard about the solutions. They have identified a number of areas with high growth potential, such as water management, agricultural science, alternative energy and of course security, in which Israel already has world-beating technology. In the life sciences, the government is seeking to speed up the creation of firms by setting up venture-capital funds. However, Israeli officials worry that the country is still lagging in its ability to "turn tomato seeds into tomatoes"--to transform start-ups into the sort of giants, like Google and Cisco, that Silicon Valley regularly produces. Such giants, they note, create a greater proportion of high-paying jobs than start-ups. They also worry that Israeli entrepreneurs are taking longer than they used to in turning an idea into an IPO.

One good sign is the emergence of some Israeli companies that are concentrating on providing content for the internet rather than just the plumbing. JVP, a venture-capital company with more than $820m under management, focuses on developing companies that fuse content with technology. Erel Margalit, the firm's founder, argues that Israel has as much of a comparative advantage in culture as in high-tech: the Jews, he

Source: The Economist