The Palestinian economy faces a myriad of challenges, including the loss of land and natural resources to Israeli settlements, endemic poverty, a shrinking fiscal space, declining foreign aid, and a lack of monetary and fiscal space for effective policy response to shocks. The loss of one third of its 1999 capital stock, estimated at $4 billion, has significantly weakened the economy’s supply capacity. The geographic fragmentation of the occupied Palestinian territory intensified internal barriers, and international isolation, coupled with the sudden suspension of non-domestic vital sources of income, have left the Palestinian economy at its most vulnerable. The Palestinian economy’s forced dependency on Israel, excessive production and transaction costs, and barriers to trade with the rest of the world have led to a lopsided dependence on Israel.
The Palestinian economy is expected to continue operating well below its potential, with growth projected to hover around 3 percent, negatively impacting living standards. The Palestinian territories have been in a de facto customs union with Israel for thirty years, but the divergence between both economies has continued to widen, with income per capita in Israel almost 14-15 times higher than in the Palestinian territories. Poverty rates are stubbornly high, with roughly 1 out of 4 Palestinians living below the poverty line. The impact of the fiscal crisis is aggravated by the fact that the Palestinian government does not have a full-fledged Central Bank, does not issue a national currency, has little access to international financial markets, and has exhausted safe domestic borrowing.
The Palestinian economy’s vulnerability is further exacerbated by socio-political instability, restrictions in the West Bank, and the near-blockade imposed on Gaza. The exposure of the banking sector to the public sector remains high, and the large and growing stock of arrears to the private sector, the pension fund, and public employees poses risks to long-term macroeconomic stability. The overall economic outlook remains bleak, with the Palestinian economy expected to continue operating well below its potential if restrictions in the West Bank and the near-blockade imposed on Gaza are not eased or lifted.