Many are surprised that, over the last few years, there has been
so little change in the Palestinian gross national product
Palestinian GNP per capita since 1994:
1994 - 0%
1995 - 12%
1996 - 7%
1997 - 3%
1998 - 3%
When Israel and the PLO signed the Oslo Accords, the Paris Accords
and the Cairo agreement, some skepticism about the future problems
was to be expected. The political response was to "sell" the
agreements to the public through the optimistic forecast that peace
will produce "peace dividends." Shimon Peres talked about a "new
Middle East." Teams of economists produced glossy plans. On paper
it looked great.
Promise and Fulfilment
So why did it not work to the extent that was promised? Most
critics point at Israel as the party responsible for the poor
economic performance. UN reports are even more specific. They blame
the closures, since 1994, for inflicting severe economic pain on
Palestine. During 1996 there were 92 days of closed borders - more
than one-third of all working days. In 1997, there were 63 such
days and in 1998 only 5 days. That amounts to about 160 days in
three years - a heavy burden to an economy which derives a third of
its GDP from labor employed in Israel. The Israeli economy
succeeded in avoiding the pains of closure by importing workers
from faraway countries. It will not be long before the slogan
"Israel is to blame" will change to "Israel is to pay."
This scenario of the past may be comforting for some. It might make
for successful politics. However, it will contribute very little to
understanding the complex realities and, especially, to changing
them. Israel has done much to ruin the economy of Palestine,
particularly during the period of 1967-1991. Throughout this
period, and focusing solely on economics, one can trace two
policies, which caused long-term damage: fiscal drain and
The Israeli occupation force carried out a policy of preventing
competition between Palestine and Israel. That is, Israeli products
could compete in Palestine, but not the other way round.
Agricultural produce by Palestinians could not cross the Green Line
(though the same products by Israeli settlers had free access).
Other products could officially compete. But Palestinians could
not, de facto, produce and compete with Israeli products. At one
point, a Palestinian could not sell in Israel pasta produced in
Beit Sahur because the wrapping was in the forbidden colors of
On the fiscal side, what Israel did was to create fiscal surpluses.
It collected from Palestine more taxes than it spent. Palestine
thus subsidized Israel. The magnitude of this could easily be seen
as of 1995 when Israel started paying Palestine its share - about
$500 million - of indirect taxation on imports and fuel.
This policy went hand in hand with an expenditure policy of not
investing in infrastructure and basic social needs in Palestine.
The combination of biased trade disinvesting and tax robbing
created, within 20 years, an economic area that was totally
dependent on Israel. With a declining economic base of such
magnitude there was no way the changes of 1994 and after could bear
fruit in the short term. Peace benefits could not be reaped before
occupation was over. The Oslo Accords did little to change the
basic traits of the political economy of the two entities.
For the first time since 1967, some would say for the first time
ever, a government was established in Palestine. True, this
government had to operate under unusual circumstances. But a
government it is. The government of Palestine has two major sources
of revenue: It collects taxes and receives financial aid from donor
countries. It spends about $900 million annually, far more than the
Israeli occupier did between 1967-1993. This is a major change.
However, the changes in fiscal and trade regimes have a much
smaller impact than many envisaged when the accords were
Why is this so? The Israeli side has not kept its obligations in
the accord. As the UN and the World Bank have stated, Israel
imposes limitations on the free movement of labor. The two
organizations focus on closures. But the problem is much deeper.
Movement of labor ought to be free of all restrictions. One can
tell restrictions are in place not only by the licensing regime,
but also via the total figures. Before the spate of suicide bombs
against Israel, figures for Palestinian laborers in Israel were
somewhere around 130,000. They are about half of that now. Assuming
Israel has some 200,000 other non-Israeli (foreign) workers, one
can estimate the potential employment of Palestinians in Israel at
250,000-300,000. Such employment could double the national income
Israel has also restricted development in the trade regime, by
impeding movement of products between Palestine and Israel and
between the various areas under Palestinian control. All this is
done under the banner of security. Products imported to Israel via
its own ports succeeded in moving swiftly. An ordinary person can
grasp the difficulties Israel is imposing just by comparing the
Bethlehem border station to those of, say, the Jordan River and
Then there is the fact that, even after almost six years, Israel
still holds on to some Palestinian taxes, most notably some
purchase taxes. With relative high rates of inflation, the
"currency tax" should not be neglected. After forcing Palestine to
use the shekel as its currency, clearly Palestine deserves a share
in the seigniorage evolving from money printing. Being the richer
partner to the accords, Israel is mishandling its
What Governments Are Supposed to Do
However, the regime of Yasser Arafat is also quite helpful in
reducing the living standards of the Palestinian population.
Israel, under the government of Binyamin Netanyahu, argued that the
Palestinian National Authority (PNA) had exceeded the number of
policemen agreed upon. The PNA did not challenge these accusations.
The focus of this point has always been on the "security" and
"legal" aspects of the violation. The economic aspects of this
argument are far-reaching and more important. An analysis of the
PNA budget has found that some 90 percent of expenditures goes to
wages. The magnitude of this figure is such that one can easily
reach the conclusion that the difference between pre- and post-Oslo
is the enlargement of Palestine's bureaucracy by importing it from
Tunis, and funding this enlargement by transfers (i.e., taxes
collected by Israel and transferred to Palestine) and contributions
from donors. This is not what governments are supposed to be
The fiscal boost to Palestine has, by and large, been spent on
"imported" workers. Some claim that this was essential. Without a
large police force, one could not establish law and order. This
article is not concerned with assessing such needs, or their real
cost. In my view, this explains the main part of the slow
development of the economy of Palestine, which was not previously
The new fiscal regime has operated in the following manner: First,
it increased consumption. Since the productive capacity of the
economy could not grow instantly, this increase aided Israel, which
supplies part of the demand for tradable goods. Part of this
additional consumption spilled into the building sector, which had
never before seen such a boom. Housing prices in Ramallah are now
close to those of West Jerusalem.
Second, the increased consumption did not have a positive expected
impact on the fiscal position of the government. Anyone visiting
Palestine is impressed by the almost non-existent tax payments. The
World Bank has warned the regime over the implications, especially
in the long run, of such a policy. To little avail. The government
of Palestine is behaving with an extreme short-term vision. It does
not want to anger potential taxpayers; it does not really collect
taxes. Almost exclusively the only taxes are those collected on
imports. And the only reason the government of Palestine gets the
money is because Israel collects it (for a fee).
Imports to Palestine since 1993 in $ U.S. million:
1993 - 1,333
1994 - 1,242
1995 - 1,908
1996 - 2,150
1997 - 2,132
1998 - 2,220
Thus, the third implication is the severe shortage of investments.
Government spending is low because of the too-narrow fiscal base.
The regime could have overcome part of this by borrowing. But no
serious borrowing is going on because banks look at the regime and
see very little to convince them that this state is here to stay,
and will behave properly.
A Leap Forward
Palestine is not the only country in the world to have a
problematic government. Why has the private sector not come to
operate where the government is lacking? Clearly with non-existent
taxes, the private sector has the necessary funds to invest. Here
are the three main obstacles that have been in operation:
• Politics: There is a fundamental weakness to the peace
process based on the structure of the Oslo Accords. The structure
of the agreement is inductive. One step at a time. The process is
on the way to an undefined future. This is exactly the structure
that investors dislike. Since the future structure is unknown, the
present is awash with rivals fighting for influence.
• Government complementary investment: The emphasis on
consumption necessary to maintain the government of Palestine has
prevented that government from adequate investment in the
complementary infrastructure necessary for private investors. Such
infrastructure includes water, sewage and electricity supply, roads
and public transport and a strong and respected legal system.
Property rights are far more important than economic incentives. If
a lender cannot see a transparent bankruptcy law, even an adequate
banking system will not suffice.
• Cream-skimming by state-induced monopolies: Many a small
country faces a dilemma: let the private sector develop key areas,
or use the state power to invest. Palestine, so it seems, has opted
for the worst possible solution, i.e., creating private or
semi-private monopolies. These are a combination of private and
public funds under the control of private people usually associated
with cronies of the ruling regime.
Where does this analysis lead? This year , if the basics
remain unchanged, will probably see a positive real GNP growth.
This will be the outcome of very few days in which Israel was
closed to Palestinian labor and produce. This will be a great
change from the past and nothing should be done to minimize it.
This, however, is far from the promises of the dreamers and the
hopes of the population. Taking into account the politics of the
region, Oslo was the only possible breakthrough. Maybe there was no
other way. But it is high time to let the past rest in history
books. A great leap forward is imperative. Like Oslo, the leap must
necessarily be political.