Encountering Peace: The economics of Palestine

Over the past couple of weeks I have been spending a considerable amount of time in Ramallah, assisting in the development of a project on trade facilitation which will be funded by the US government to help the Palestinian private sector to build the economy and ensure continued stability.

The picture that has been painted of the situation on the ground is most worrying. The optimism of the period of 2008-2010 during which Salam Fayyad launched and implemented the first phases of the Palestinian plans for building the institutions of statehood has dissipated into the reality of the economic slowdown and the failure of the Palestinian national movement to achieve UN statehood membership. There is great concern regarding the heavy debts of the Palestinian Authority to the local banks and the failure of the donor community to come to the rescue.

The Palestinian economy is still greatly constrained by Israeli control as the international reports of the World Bank and the IMF continue to indicate. But even without those limitations, the Palestinian economy is hostage to internal political constraints that must be addressed, but are very difficult for any government anywhere in the world to satisfactorily deal with and survive. With its limited legitimacy already, it is probably impossible to expect the PA to save itself from economic disaster.

Probably the most obvious economic imperative is the immediate need for civil service reform. All governments hate to do this. It means sending people home from their government jobs. There are about 154,000 Palestinian civil servants employed in the West Bank and Gaza by the PA in the West Bank. Thirty-four thousand of those government employees are in Gaza. Most of them are from the former security services loyal to the PLO in Ramallah.

They are not working but continue to receive their monthly salaries since the Hamas take over in June 2007. Another large group of non-working government employees in Gaza are the teachers, who after the Hamas victory went on strike. Hamas simply replaced them with teachers loyal to Hamas. Of the 154,000 PA employees about 65,000 of them are in the security/police forces. Of those probably only a third are on actual duty serving the needs of Palestinian society for law and order.

Even the forced retirement of several thousand security officers several years ago burdens the coffers because with the absence of any real pension fund, the PA will continue to pay their salaries for the rest of their lives.

There is no political force in Palestine today which is capable of sending tens of thousands of government employees home, with no chance that they will find alternative employment to support their families. The Palestinian civil service is to a large extent a form of social welfare.

But the problems don’t stop there. The West Bank PA pays most of the bills for services of the Palestinian living in Gaza. The fuel and water bills (to Israel) are paid by Ramallah, as are the health bills. The Ramallah-based PA does not, however collect taxes in Gaza. Palestinians living in the refugee camps do not pay for their own electricity or water. This is a huge strain on the Palestinian budget.

THERE ARE attempts by the Palestinian electricity distribution companies to put pre-paid meters into the refugee camps, as they are doing in other parts of the West Bank with great success. They are meeting a lot of resistance in the refugee camps trying to get people to pay for the utilities that they use. The money that these non-paying citizens cost is deducted automatically by Israel from the transfers of VAT and Customs that Israel collects (for a three percent fee) on behalf of the Palestinians as part of the Paris Protocol – the economic annex of the Oslo agreements.

The Israeli Electric Company has a great deal – getting paid directly and automatically for 100% of the electricity consumed with zero collection costs. There is no utility in the world with such a system of guaranteed revenues. On the Palestinian side, this is another huge burden.

On the donor side, the Arab countries do not always meet their pledges. This is now especially true with regard to Abu Dhabi. The deposed Fatah leader, Mohammed Dahlan, who was accused by President Mahmoud Abbas and Fatah of attempting to plan to overthrow the president, is in exile, spending his time east of Palestine. He is a close personal friend of the princes of Abu Dhabi and has apparently convinced the oil rich Emirate to hold back their donor contributions to the PA. Abu Dhabi is one of the better-off Gulf States and their failure to contribute their pledge to the PA is a significant loss of planned income.

In his desire to be a responsible financial officer, Salam Fayyad recently attempted to pass a new Income Tax Law which would force the Palestinian business community to contribute a far larger share of their income to the public coffers. There was, as could be expected, great anger and refusal to pay from the private sector. The proposed law has been removed for the time being by President Abbas.

There is no doubt that income must increased, but it is very unlikely that a sudden significant increase in tax revenues from individual businesses will be the way forward. In the past couple of years, such income was generated by forcing several of the large banks to cough up unpaid back taxes. The Palestinian economy must grow and there is a significant potential for that to happen, but there are also very significant obstacles on the way.

The most natural direction of growth for the Palestinian economy is westward. Israel is right next door with a relatively wealthy consumer market which would be willing to purchase more Palestinian goods if they met Israeli standards and were designed to Israeli tastes.

There are difficult non-tariff barriers that must be confronted, such as the need for Kosher certificates for the food industry, but even before that can be overcome, the market of one million Palestinian citizens of Israel as well as the many small grocery stores of Russian-speaking Israelis could be targeted by the food producers and other industries.

The once-profitable outsourcing of textiles by Israeli companies to Palestinians could be re-established as well as other labor intensive industries that are in their last days of life in Israel. This could create more employment in Palestine in the short run.

The Israeli construction industry today employs about 20,000 Palestinian workers. It could easily absorb twice that number, but the Israeli Finance Ministry still believes that Israelis should work in construction and limits the number of foreign laborers in that branch, even as they are trying to bring down the costs of housing. It is better to bring Palestinians to do it than Chinese and other migrant workers.

With Palestinian labor the money stays in the economy, with large amounts of it spent in Israel by the workers, and they go home at night, to their own communities and families. Security limitations for authorized workers have always been dealt with successfully and from past experience, with organized Palestinian labor the security risks are minimal.

Much can also be done to reduce transaction costs for trade making it easier and cheaper for Palestinian producers to sell their goods in Israel and beyond. If the current Israeli government is not prepared to take the political steps that would enable a real peace process that would be sure to lead to economic growth, then at least the government should make good on its promise of “economic peace” and figure out what Israel can do to ensure that we won’t have economic riots right next door to us.

The writer is the co-chairman of IPCRI, the Israel Palestine Center for Research and Information, a columnist for The Jerusalem Post, a radio host on All for Peace Radio and the initiator and negotiator of the secret back channel for the release of Gilad Schalit.