In this paper we characterize the population of the poor in Israel, analyzing the main determinants of poverty as well as the changes in its incidence from 1987 to 2001. We pay particular attention to the factors that cause individuals to work and affect the level of their labor income, as these are the main reasons for a household being above or below the poverty line. We also analyze the effect of various policy instruments—particularly the system of transfers and changes in it over time, as well as the minimum wage—on the incidence of poverty. In addition, our investigation seeks to ascertain why certain groups have particularly high poverty rates.

Our research indicates that it is possible to identify the non-employment (whether due to non-participation or unemployment) of the head of the household as the main determinant of poverty. The existence of more than one wage earner in a household is almost certain to guarantee that a family will not fall below the poverty line, however. In general, groups with high poverty rates have no or few wage earners. 'Dealing with' groups with no wage earner by providing transfers considerably reduces the incidence of poverty. Thus, for example, old-age pensions substantially reduce poverty among the elderly, and the income supplement cuts poverty among single-parent families; the extent to which these groups manage to emerge from poverty is closely connected with the size of transfers. Similarly, child allowances substantially diminish poverty in large families, but since in the long run family size is also endogenous, it is not clear whether this policy does in fact serve to reduce poverty in the long run. Our empirical analysis shows that the probability of not being employed (and of not participating in the labor force) is far greater among individuals whose families receive large transfers. Hence, in the short run the key to dealing with the problem of poverty rests with the correct mix of transfers and incentives to work—for those capable of working.

Education plays an important role in reducing poverty, operating by increasing both wages and the employment rate. The relation between educational level and poverty has intensified with time. The strong negative correlation we found between education and the probability of being below the poverty line indicates that the education system is the key to solving the problem of poverty in the long run.

Another finding is that there is a relatively high incidence of poverty among the Arab population in Israel, even when such factors as education, family size, and the number of wage earners are held constant. This implies that there is discrimination in the labor market, and possibly also that the quality of education provided for this group is inferior to that of the general population.

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* Research Department, Bank of Israel.