Key points

  • The Israeli government and the Palestinian Authority reached an agreement last week to tighten economic cooperation in an effort to increase Palestinian revenue and curb black market trade between Israel and the Palestinian territories.
  • This is the first bilateral public understanding between Prime Minister Benjamin Netanyahu’s government and the Palestinian government led by Palestinian Authority (PA) Prime Minister Salam Fayyad. The agreement was reached following secret negotiations over the past six months.
  • The deal illustrates the capacity of the political leadership on both sides to conduct direct negotiations with the clear goal of reaching viable understandings. This is true even at a time when the official diplomatic track is at a stalemate.
  • The agreement is a result of converging interests. The Palestinians would like to strengthen the economic base of the PA. Israel is concerned that economic weakness will undermine the Palestinian leadership in the West Bank and is willing to take steps that do not exert a political price from the Israeli leadership. Both parties would like to reduce illicit West Bank trade.
  • The agreement can be seen as another step toward a gradual separation of the Israeli and Palestinian economies, which is an important phase in the creation of a two-state solution.

What are the latest developments?

  • On 31 July Israel’s Finance Minister Yuval Steinitz and Palestinian Prime Minister Salam Fayyad exchanged letters to concluded a deal enhancing Israeli-Palestinian cooperation on tax and customs.
  • According to the new accord, the tax clearance mechanism regarding value-added taxes, purchase taxes and import taxes will be based on the actual transfer of goods between Israel and the PA, replacing the current practice of calculating tax clearances on the reported transfer of the goods.
  • The new agreement seeks to clamp down on the common practice of undocumented trade that does not go through the official trade crossings connecting Israel, the West Bank and the Gaza Strip.
  • The sides also agreed to establish new custom control points that will ease the transfer of foreign goods into the Palestinian territories. This will strengthen existing agreements between the sides on the creation of a customs union, which abolishes trade boundaries between the two sides.
  • Israel will also provide the PA access to its computerised databases, which will enable the Palestinian Finance Ministry to identify Palestinian traders working with Israel through Israeli trading companies. This information will enhance the Palestinian ability to collect tax and increase much needed revenues.
  • In addition, the sides agreed to channel trade to official crossings, to construct additional storage warehouses and introduce new technologies to increase efficiency.

What are the political implications of the agreement?

  • The agreement came about after contacts between technical groups from the Palestinian and Israeli finance ministries began in 2011. These talks gained pace in recent months with the involvement of Yitzhak Molho on behalf of Israeli Prime Minister Benjamin Netanyahu.
  • The deal illustrates the preparedness of the political leadership on both sides to conduct direct negotiations with the clear goal of reaching viable understandings. This is true even at a time when the official diplomatic track is at a stalemate.
  • Technical teams at the two ministries hold contacts on a regular basis to coordinate the transfer of taxes to the PA. These contacts are constant and are usually not exposed. This time, this channel was secretly upgraded to high-level political deliberations, while publically no diplomatic talks were ongoing. The success of these secret talks could provide a model for future progress on tougher issues.
  • Above all, the agreement was possible thanks to the fact it reflected converging interests. Both sides are concerned about the financial viability of the PA. The situation reached a point where Israel recently led a request for a $100 million loan from the IMF for the PA, but this was eventually turned down.
  • The recent developments will not, in themselves, be sufficient to unblock major disagreements on the core issues of the Israeli-Palestinian conflict. Nevertheless, the ability of the two sides to negotiate an agreement that can incrementally create a more positive environment for a final status solution is a positive sign.
  • At the same time, Fayyad struck a cautious note when he emphasised that the new measures have no political implications and should not be interpreted as an official recognition of the actual location of crossings placed unilaterally by Israel during the construction of the separation barrier.

What are the economic implications of the agreement?

  • The economic ties between Israel and the Palestinian Authority were formalised in the 1994 Paris Protocol agreement, which stipulated that the sides will act under a unified customs cnion that will be managed by Israel, and that both will use the Shekel as the official currency.
  • According to the protocol, Israel collects the customs taxes on the goods shipped to the Palestinian areas and transfers it to the PA. Similarly, VAT and revenues are collected for goods and services sold in Israel and intended for consumption in the Occupied Territories. These indirect taxes account for 70% of the Palestinian government’s income, approximately 120 million NIS per month.
  • The PA calculated its earned VAT against invoices collected from Palestinians trading with Israeli firms or individuals. Many traders sought to avoid adding VAT, significantly reducing the PA’s revenues. The collection of invoices was especially difficult in Gaza, where Hamas has maintained control since 2006 and the PA’s ability to operate is limited.
  • The new agreement will enable greater Palestinian access to Israeli data and will increase the joint oversight of trade, as well as internal Palestinian trade figures. The Palestinian government hopes that these measures will significantly increase tax collection, reduce the PA’s deficit and its reliance on foreign aid. However, it is too early to tell whether the agreement will curb the black market, currently estimated as approximately 30% of trade between the sides.

Yoav Stern served as the director of the Business and Environment Department at the Peres Center for Peace. From 2009 to 2012 and before that was the Haaretz correspondent for Arab affairs.

 

Further reading:

On the economic assessments made recently by the IMF and the World Bank: