Israel: Where the Silicon Meets the <I>Souk</I>

Adam Lashinsky looks for the real Israel, which lies somewhere between its high-technology head and its centuries-old soul.
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Adam Lashinsky is in Israel, checking out the high-tech scene that arguably is second only to Silicon Valley for its explosive growth, wealth creation and consumption of venture capital. His reports on specific companies to watch, trends in Israel's high-tech sector and the small country's booming VC industry will continue next week.

TEL AVIV -- Less than a decade ago, Wall Street and other money centers demanded a "country-risk premium" from investments in Israel, a country where triple-digit inflation was a constant and war with its neighbors an omnipresent concern.

That's changed completely, especially for investors in high-tech concerns here. Inflation is a relatively tame 8%, and the peace process between Israel and the Arab states surrounding it has ended the specter of war, at least in a relative sense. Indeed, although numerous people prepared me for the surprise of seeing soldiers with rifles everywhere, the urban centers of Tel Aviv and Jerusalem just don't have a fortress-mentality feel to them.

True, it comes as something of a shock to see a handsome young soldier with his girlfriend in a Jerusalem cafe toting his M-16 on his back as naturally as his sunglasses on his head. But as an Israeli friend explains to me, it's simply part of a soldier's job to have his gun with him at all times. And one can walk the streets of Jerusalem at 1:30 in the morning -- as I did after taping the "TheStreet.com" on

Fox News Channel

last week -- without any fear.

There are, of course, reminders that Tel Aviv is different from San Francisco. At a posh shopping mall in the Ramat Aviv section of town, elegant shoppers nonchalantly present their purses and shopping bags for inspection at the door. And yet everyone knows the security presence is mostly a farce, a show of vigilance and nothing more. If one wanted to sneak a bomb into a shopping center, she wouldn't put it in her

Kate Spade

handbag. There are also the strange occurrences one sees in any major international city -- like the machine gun-armed soldier outside my hotel room Thursday morning who was guarding the Chinese defense minister down the hall.

This isn't to say everything is hunky-dory in Israel. In fact, there are at least two Israels, just as in California there are two Palo Altos: the glittering one between the freeway and the foothills, and East Palo Alto, on the other side of the road.

One Israel lies in the surreal world of high technology, where conference rooms and food courts in the Atidim or Herzlia high-tech clusters in and near Tel Aviv could just as easily be in San Francisco or Santa Clara, Calif. It's also the world where business-class denizens make the flight between Tel Aviv and New York so frequently that they compare notes on how best to sleep through the 12-hour overnight trip.

The other Israel accounts for the fact that major investment banks in New York and London continue to place the country's stocks in the "emerging markets" category. True, Israel was the only "emerging" economy to survive the 1998 meltdown that tainted Russia, Thailand and Korea for many investors.

But "Israel today essentially has two economies existing side by side," says Ron Lubash, an Israeli investment banker who represents

Lehman Brothers

in Tel Aviv. The nontech Israel still has a soft currency, too many inefficient companies (especially state-owned industrial concerns undergoing painful privatizations), defense spending that is a far higher proportion of GDP than in the U.S., unacceptably high inflation and a political leadership still absorbed with a constant series of crises.

"My belief is that

the emerging nature of Israel's economy will fade away over time because this country does have the ability to adapt very quickly," says Lubash, who spent 14 years in Los Angeles, New York and London before returning to Israel in 1994. However, he notes, "the system moves slowly; individuals move quickly." For now, Lubash observes that although a town like Herzlia -- where salsa dancing on the beach is popular on Thursday nights -- is the epitome of modernity, "three minutes from there, you're in a place that's like Gaza. And Gaza is not a pretty place."

Cliches abound in Israel, especially those that continue to portray it as a nation of contrasts. But the high-tech boom here has added another contrast that proves that cliches -- also known as generalizations -- have their place in explaining the essence of a place. That Israel's high-tech economy mirrors the rousing successes of Silicon Valley is a credit to Israeli innovation, teamwork and chutzpah. That the rest of country lags behind its ultra-connected commercial leaders remains this small nation's challenge.

Adam Lashinsky's column appears Mondays, Wednesdays and Fridays. In keeping with TSC's editorial policy, he doesn't own or short individual stocks, although he owns stock in TheStreet.com. He also doesn't invest in hedge funds or other private investment partnerships. Lashinsky writes a column for Fortune called the Wired Investor, and is a frequent commentator on public radio's Marketplace program. He welcomes your feedback at

alashinsky@thestreet.com.