The Murcurial Economics
of the Phantom Palestinian State

by Karen Peifer

Dollars and Sense magazine, January / February 2002


If by some miracle of history and politics an independent Palestinian state were created alongside Israel, what would its economy be like? As many former colonies well know, an autonomous political entity, no matter how small, must have control over its own economic development to ensure true independence. Does that mean that a small economy must close itself off? This path has always been difficult, as Tunisia and Jordan, the closest analogues to the Palestinian economy in the Arab world, have clearly shown. And in this age of growing international economic integration, autonomous development has become virtually impossible even for large economies such as Egypt's. What chance, then, for tiny Palestine?

Ironic as it may seem, the appropriate, and not altogether far-fetched, model for the economy of a would-be Palestine is Israel. The Israeli government is certainly in control of its economic policy-effectively managing tariffs and public investment in infrastructure, for example-and has developed institutions similar to those of Western Europe for its citizens, such as banking and labor law (which do not, however, apply to Palestinians in the occupied territories). Like the United States and Western Europe, Israel protected and nurtured its agricultural and industrial base in the earlier years of development, allowing the service and export production sectors to grow gradually out of that base-albeit with generous and regular doses of external aid. In the last 15 years, Israel has thrived with its borders relatively open to flows of goods and services and labor and capital, and has become remarkably similar in both structure and standard of living to the "developed" economies of the West (see table). It is no empty boast that contemporary Israel, with help from its friends, was able to build a modern, developed society from modest beginnings in only 50 years.

If the Israelis could do it in their part of that stony and dry but beautiful land, 78% of historic Palestine, then perhaps the Palestinians could do it too in the 22% that would be left to them in the West Bank and Gaza (WBG). After all, they have the classic advantage of the late developers, namely, a well-developed Israel on one side and a moderately well-developed Jordan on the other, to serve as their partners in trade and investment. That expectation was the essence of the many hopeful projections put forth by the parties to the Oslo Accords in 1993, signed by Palestinian and Israeli officials and presented to the world as a breakthrough peace agreement.

With international agencies and non-governmental organizations pledging aid, the hope was that the Oslo Accords would mark the beginning of real economic development for WBG.

Alas, the exact opposite has come to pass. The material basis for an independent Palestinian state actually eroded between 1993 and 2000, largely because of the powers retained by the Israeli military authority during its continued occupation of WBG under these "interim accords." The accords were supposed to last just five years and lead to "final status negotiations," with a vague promise to eventually realize some version of the two-state solution. Far from solving the Israel/Palestine conflict, the Oslo agreement put off discussion of fundamental issues such as the official borders between the "two states," the future of Jerusalem, reversing Jewish settlement in WBG, and the fate of the four million Palestinians in diaspora. It also legitimized and protected Israel's control of the flow of goods and resources into and out of these territories, and enabled Israel to keep right on creating "facts on the ground" in WBG, such as road building, land confiscation, and more settlements.


As Israeli correspondent Amira Hass recently explained in the New York Times (9/2/01), "Israelis and Palestinians are in a single geographic state, 'from the Mediterranean Sea to the Jordan River,' controlled by one government, but they live under two separate and unequal systems of rights and laws." Even the smallest export-oriented economy would need a contiguous geographical area for its own domestic market. However, the occupying power's land confiscations and home demolitions, establishment of a complex system of bypass roads in the West Bank, and settlement construction and expansion in the territories, have both shrunk the area left to a Palestinian domestic market and carved it into small, isolated enclaves. Furthermore, the 1.8 million Palestinians in the West Bank and the more than one million in Gaza remain physically unconnected with each other.

Between October 1993 and August 2001, Israel built at least 40 new settlements in the West Bank, including the eastern part of Jerusalem, and has consolidated others into territorial blocks containing 50,000 or so inhabitants each. It built 90,000 new housing units, not only in the settlements but also in (what is no longer Arab) "Arab East Jerusalem." All of this new living space has accommodated the doubling of the settler population, from 200,000 to 400,000, in just seven years. Only 6,000 of those settlers live in Gaza, in closed communities bristling with barbed wire and armed patrols, but their settlements cover 25% of the land area and most of the shoreline. These areas are all off-limits to Palestinians, except for the fortunate few who are employed there, and the economic costs to the rest are high-for example, to Gazan fishermen whose ability to contribute to the livelihood of their families has been decimated.

From the point of view of Israeli "security," these many settlements should not be isolated from one another or unreachable in times of crisis from Israel proper (i.e., the internationally recognized Israel within the "Green Line" boundaries that predated the June 1967 war). This quixotic quest for "security" led to the construction of a network of broad, modern U.S.-style highways and bypass roads to connect them all together and to Israel. The term "bypass" conveys the illusion that settlers can use this system without ever having to cross paths with the irksome but now-invisible natives. However, the roads may result in less security for Israeli settlers, since traveling on them makes settlers easier targets for Palestinian guerrilla attacks.

These roads serve both military and commercial functions for the Israelis-many settlers commute to work within Israel proper, for example-while Palestinians are permitted neither to use these roads for travel nor to cross them to go from one Palestinian enclave to another. Instead, Palestinians have to drive over unpaved back roads or wait in long lines to go through (and often to not go through) military checkpoints, frequently having to change taxis three or four times just to travel a few miles when the taxi drivers themselves are not allowed through.


Besides needing a contiguous area, a small developing economy would also need to be in control of its natural resources and of the space for its population to expand. However, to enable the development of settlements and the road system, and to minimize sacrifice on the part of the 5.5 million people living within the Green Line, the Israeli authorities expropriated resources in the occupied territories, indeed at an accelerated pace after 1993. For example, large areas of "uncultivated" land (used by the Palestinians for grazing their goats and sheep) were taken to lay the beds for the roadways and to secure open spaces for Israelis' recreation in the present, and for more development in the future. Between October 1993 and August 2001, the Israeli government confiscated more than 70,000 acres of "empty" land, plus an additional 200 square kilometers of planted Palestinian agricultural land abutting the expanding settlements, and uprooted 282,000 fruit and olive trees in the West Bank.

Under Israeli occupation, Palestinians must obtain permits to build new homes or expand existing ones to accommodate growing families. The Palestinian population in WBG has one of the fastest rates of growth in the world, 3.9% per year in the 1990s. The Israeli authorities insist that Palestinians provide proof of land ownership, and even when they do provide the most modern legal deeds signed by Israelis themselves, it can still take years to get a building permit. Even the Palestinian areas under the "self-rule" created by the Oslo Accords still require Israeli permits for building.

After 1993, and contrary to what most people expected from the vaunted accords, the Israeli authorities tightened up on these practices. Palestinian families defied the rules of occupation, expecting liberation, and went ahead and built or expanded homes anyway. In response, the Israeli armed forces intensified the technique they had previously used mainly to punish political militants-home demolitions. Between 1993 and 2001, Israeli soldiers demolished at least 674 Palestinian homes, some of them two or three times because the obstinate natives kept rebuilding. Meanwhile, neighboring Jewish settlements were granted generous government subsidies and grew apace on the hilltops overlooking Palestinian-populated areas.

Israel/Palestine is a land where water is scarce and needs to be prudently rationed. The Israelis know this well; one of their main technical accomplishments and gifts to the world was the invention of drip irrigation-a technique that inhibits waste by delivering water to the crops in exact quantities, through pipes a few feet above the ground and usually during the night. The main sources of fresh water for all of historic Palestine are the Sea of Galilee (Lake Tiberias), the Jordan River, and two aquifers located almost entirely in the West Bank, under the Judean and Samarian Hills.

About one-third of the water used in Israel proper comes from the latter source. That is, Israel simply appropriates this resource from the occupied territory without compensation. Furthermore, water is inequitably distributed: Israelis consume 280 liters per person per day (for all purposes, including irrigation) while Palestinians consume about 90 in the West Bank and just 60 in Gaza. Many settlements have large swimming pools and green lawns in the dry season, while the water is turned off for days on end in Palestinian cities, villages and refugee camps. Palestinian standards of personal and household cleanliness, including in refugee camps, are high, but a full bath or shower is considered sheer luxury in humid, stultifyingly hot, overcrowded Gaza in the summertime.

While the Israeli authorities in the territories have invested in infrastructure mainly to service the Jewish settlements and build up Jerusalem, other modern necessities continued to be scarce for Palestinians in the occupied territories in the late 1990s. For every 13 kilowatts of electricity used by Palestinians, Israelis use 82. Palestinians have 3.1 phones for every 100 people; Israelis have 37. Palestinians have 80 meters of paved roads per 100 people; Israelis have 266. All Israeli households have indoor plumbing, as compared to 25% of Palestinians. Israeli electric power systems fail just 4% of the time, while Palestinian systems fail 30% of the time.



In today's world, an underdeveloped small economy is not viable without labor and capital mobility, since it cannot realistically employ all of its labor force in diverse occupations or provide enough capital on its own to industrialize. The stark reality for Palestinians is that, given the dearth of investment and job opportunities within the territories, their best bet for a decent standard of living is to work in Israel or abroad. After all, Israel's gross national income per capita was ten times that of WBG in 2000 (see table).

Instead of becoming easier after Oslo, working in Israel and even in WBG became more difficult. The Israeli authorities have retained the ability to unilaterally restrict, whether for security or other reasons, the number of Palestinian workers who may cross into Israel to work. Indeed, the number of legal work permits for Palestinians actually declined after Oslo, from 165,000 in 1987 to 100,000 under the Paris Protocol of 1994, and the actual number issued by 1998 was less than 50,000. (The numbers are probably twice as high if informal workers-those without legal permits-are counted, still over a fifth of the Palestinian labor force in 1999.) Israel has also continued to impose border closures between the territories and Israel at will, collectively punishing Palestinians by preventing them from going to work.

Israel still maintains checkpoints that impede travel within and between the territories-especially into Jerusalem, the commercial, educational, religious, and cultural heart of the West Bank.

As the number of Palestinians working in Israel dropped after 1993, the territories' economies shrank and annual real gross domestic product (GDP) growth was, on average, negative. GDP growth jumped to 6% in 1999 because of a temporary 15% surge in employment in Israel and the settlements, and because of a sharp one-time 12% increase in external donor aid. But then it fell again between 1999 and 2000 by a stunning 9.6% (see table).

The concept of the Jewish state, where only Jews (from anywhere in the world) can become citizens, assumes the maintenance of a Jewish majority and embodies fears that the Palestinians could win the demographic war (see table). After Oslo, Israel retained the ability to perpetually deny the right of return to expatriate Palestinians and refuses to negotiate over any but the most marginal adjustments via "family reunification" plans. Going to work abroad has serious risks, because, once out, a Palestinian-especially a young male ready to return and start a family-can find it very difficult to get back in.

The ingathering of skilled and experienced expatriate Palestinian labor and accumulated diaspora capital could dramatically improve the economic prospects of a Palestinian state (just as the inflow of Jewish labor and capital helped to rapidly build the new Israel). But Israel's policies systematically undermine the development potential of the Palestinian economy. Consider that industry accounted for about 9% of Palestinian GDP in the 1990s, while agriculture contributed another 14%, construction 16%, and public services 12%. The remaining 50% came from other "services," like commerce and transportation, and personal services like home repairs and barbering-most provided on a very small scale via self-employment.

Finally, a small, developing economy needs to have access - to relatively unfettered trade in goods and services, to sell exports to earn foreign exchange, and to import the items it cannot produce itself. It needs to be able to purchase the inputs that enhance productivity in agriculture, manufacturing, and services like communications. Its government needs to be able to tax income and products, or to issue bonds, in order to pay for social services like transportation. It needs a set of legal institutions and regulations that encourage investment, by either the public or the private sector, for the production of manufactured goods and necessary services. It needs financial institutions that can recycle savings and create credit to stimulate new investment of all sorts.

After Oslo, and particularly after the follow-up economic negotiations that resulted in the Paris Protocol of 1994, Israel did not reduce but actually enhanced its power to subordinate or suppress Palestinian trade and agriculture in favor of its own producers and exporters. Whereas WBG exports to Israel were 37% of their imports from Israel in 1987, exports had fallen to just 26% of imports by 1999-the reverse of what was expected from Oslo. Held up at Israeli military checkpoints, Gaza's fresh flowers wilted in greater numbers, and lorry-loads of West Bank fruits and vegetables were left to rot, as they waited in vain for export to Europe or, via Jordan, to the Arab world. Problems in banking and finance remained unsolved as well. At the start of the occupation in 1967, Israel closed down existing financial institutions (mainly Jordanian) in favor of Israeli banks, thereby inhibiting the emergence of a Palestinian banking system that would directly serve savers and investors in the occupied territories. Palestinians either hoarded their savings in gold or sent them out to banks in Amman. After 1993, banks were again allowed to set up shop in WBG and accept deposits. But few of these are locally owned, and, due to lack of deposit insurance and regulatory oversight, they have been unwilling to lend to finance new investment in productive activity in Palestine.

The Geneva Conventions forbid an occupying military force from expropriating resources in the territory it occupies, from transplanting its own population into that territory, and from interfering with the freedom of movement and pursuit of livelihood by the indigenous population. These conventions are international laws agreed upon by the community of nations in the aftermath of World War II. They presumably govern the behavior of Israel in the Palestinian territories it has occupied since 1967. Yet the world allows Israel to act with impunity. Meanwhile, to note a contrasting example, the Iraqi occupiers of Kuwait are still being punished ten years after being forcibly expelled.


Israeli penetration of the West Bank and Gaza is now so deep and so complex that it is hard to conjure the shape of a just and peaceful two-state solution, let alone how Palestine could have a viable economy. This harsh reality is the underlying material cause of the Palestinian uprising that began in September 2000, the "second intifada" against Israeli occupation, a collective and anarchic expression of seven years of mounting rage and frustration at the false promises of Oslo.

Despite the deadly and futile violence of 2000-01, a few rays of hope remain. In addition to the work of international and Palestinian voluntary organizations and NGOs in the WBG, such as the Union of Palestinian Medical Relief Committees (UPMRC), there is also a peace movement that bridges the Israeli/Palestinian divide. Organizations like Bat Shalom and New Profile, and the network of the Women in Black, continue to bring attention to the inequities of Israeli occupation of WBG and press to reform Israeli society in a less militaristic and racist direction. Magazines such as Challenge and News from Within give voice to a small but growing peaceful civil rights movement in both Israel and Palestine. Noting the similarities between apartheid, South Africa's much reviled strict segregation of the races, and Israel's discriminatory treatment of both Arab Israelis and Palestinians in WBG, activists hope to promote understanding of Israel's abuse of power, even under the Oslo Accords. These groups struggle to define a new, politically democratic, and more economically equitable vision for the resolution of the Israel/Palestine conflict. u


Karen Pfeifer is a professor of economics at Smith College.

Middle East Watch

Index of Website

Home Page