Israel is a nation of startups churning out cutting-edge technology. It sailed through the global financial crisis with nary a bank bailout. Economic growth is brisk and unemployment is among the lowest in the developed world. The government has made great strides in deregulating the economy, lowering taxes and privatizing in recent years.

But the fact remains that great swathes of the economy remain dysfunctional.

In the Second Israel, the government itself is notoriously inefficient; monopolies and oligopolies control important segments of the economy and labor unions protect very narrow interests of government-owned companies and the civil service. Unless you're starting up a high tech company, Israel remains a difficult place to do business.

This month, however, Israeli legislators finally acted to slay one of the Second Israel's beasts. The Business Concentration Law takes aim at the big holding companies and monopolies that dominate so much of the country's economy. Some of its most important provisions are unprecedented in the world of business regulation and could serve as a model for other economies wrestling with the same problems.

It's amazing how resistant the beasts of Second Israel are to change. It's been clear what the public interest is, but self-interest on the part of unions, big companies and politicians and government officials jealous to retain their power gets in the way. As the comic strip philosopher Calvin says when faced with the dilemma of enjoying the immediate rewards of greed against the future blessings of doing the right thing, "Goodness hardly puts up a fight."

The passage of the Business Concentration Law shows that goodness, which in this case is the broad interests of the economy and public, can win out.

The little man wins a big one

The law has three major components, all of which sound obscure and technical rather than the beginnings of a revolution. That is, until you understand what they seek to solve.

The first restricts cross holdings between the biggest financial companies (banks and insurers) and the biggest non-financial companies (everyone else).The second imposes severe limitations on holding groups structured as pyramids, in which one company at the top controls larger and larger tiers of companies further down. The third requires the government to discriminate against companies that dominate large markets when it issues tenders, licenses rights to natural resources, and privatizes companies.

The second and third parts are Israeli innovations with no regulatory precedents elsewhere in the world that would give a clue as to how effective they will be.

All these rules are aimed at cutting the big holding groups and market-dominating companies down to size. The ban of crossholdings aims to prevent banks and others with capital from becoming ATMs for their owners, or conversely for banks to act too generously in lending to companies they own.

The monopolies rule is more self-evident: To give a chance to smaller businesses to compete by tying the hands of the biggest ones.

Preventing greed-driven risks

The pyramid rule seeks to prevent tycoons from taking excessive risks with the companies they control, because their equity exposure is so small. Tycoon X controls 51% of Company A at the top of a pyramid, which in turns holds 51% of Company B the next level down, which in turn owns 51% of companies C and D one down from B. Tycoon X controls all these businesses but effectively has risked just 13.3% of his capital in the firms at the bottom. Companies C and D can borrow heavily, for instance, with lots of upside for the tycoon if it succeeds and limited downside if it fails.

Moreover, the tycoon has every reason to put in managers that favor his needs over those of the companies or other shareholders.

The fact that Israel has big holding groups at all is strange. They are usually found in less advanced economies where access to capital and management talent is limited, and an inside line to politicians and officials is critical for winning contracts and ensuring friendly regulations. By the normal rules of economic development, Israel should have dispensed with them 20 or 30 years ago; in practice, the groups became more powerful.

Many of the abuses by the holding groups became evident in the years up to 2008 when easy money and seemingly never-ending rises in asset prices encouraged reckless investing. Unfortunately, a wreck followed with the global financial crisis that erupted that year and the collapse of real estate and credit markets.

The tycoons, among them Nochi Dankner, Lev Leviev, Ilan Ben-Dov and Motti Zisser, found themselves with huge debts they could neither recycle nor repay. Heroes when times were good, they quickly became goats, which is why the Knesset passed the Concentration law by a North Korean-style margin of 72 to 0 with one abstention.

Finance or industry, but not both

The law doesn't make it illegal to be a tycoon, but as the law goes into effect over the next few years it will take much of the fun and profit out of it. Yitzhak Tshuva, the Ofer family, Muzi Wertheim, Zadik Bino and the new controlling shareholders of the IDB group will have to decide whether to part with their banks and insurance companies or keep their other businesses. Others, most notably IDB, will have to level off their pyramids, either by merging companies, taking them private or selling them. The next few years will see some of Israel's biggest and best-known companies on the auction block.

There won't be one morning any time soon when everyone wakes up to find Israel a more efficient competitive economy, but the Concentration Law ought to help -- or maybe not, or maybe not in the ways it was intended to. The fact that important elements of the law are unprecedented increases the risk.

The public, which has seen its savings hurt by serial debt restructurings, may suffer another blow if the new law leads to a fire sale of businesses at less than their market value. Without measures to break the gigantic government-controlled monopolies – most notably those in electric power, the ports and land – the law won't do much to weaken private sector monopolies.

Finally, the new controlling shareholders, their managers and the great shareholding public will have to demonstrate that they can run and keep a vigilant eye over these businesses better than the tycoons did. Israel's record even in businesses that face the bracing wind of competition in the global marketplace has been mixed. Scitex, Comverse, Better Place and Teva are all companies that squandered their successes through inadequate corporate governance or poor management.