## 1. Trends in Donor Aid ## Source details **Canonical URL:** [1. Trends in Donor Aid](https://www.imf.org/-/media/files/publications/cr/2018/wbg091718.pdf) ## Other formats - [Markdown version](/-/media/files/publications/cr/2018/wbg091718.pdf.md) - [Structured JSON version](/-/media/files/publications/cr/2018/wbg091718.pdf.json) --- ### Key findings - Real GDP growth across West Bank and Gaza (WBG) slowed to 3.1 percent in 2017 and to 2 percent in 2018Q1; Gaza recorded -6 percent in 2018Q1, while the West Bank showed reported real growth of 8.4 percent in 2017Q4 and 4.8 percent in 2018Q1 YoY. - Unemployment in WBG exceeded 32 percent in 2018Q2; unemployment in Gaza was nearing 54 percent in 2018Q2 and 19.1 percent in the West Bank. - The 2017 household survey found Gaza’s poverty rate rose from 38.8 percent (2011 HHS) to 53 percent (2017 HHS). - Staff projects overall growth to languish at around 1½ percent in 2018–19. - The West Bank is projected to grow by 2.2 percent per year over the medium term. - Gaza is projected to contract by -4 percent in the current year and -1.5 percent in the following year. ### Fiscal and financing developments - The authorities contained the overall fiscal deficit in 2017 to 8.1 percent of GDP (unchanged from 2016). - In 2018H1 the overall fiscal deficit was limited to almost 6 percent of GDP. - Wage bill was reduced by 17 percent YoY in 2018H1 through retrenchments and salary cuts in Gaza. - Pension payments rose by more than 10 percent YoY, which limited the decline in total spending to 7 percent YoY. - Revenues in 2018H1: - customs receipts nearly -14 percent YoY; - clearance revenues (CRs) -10 percent YoY; - VAT up nearly 22 percent YoY; - non-tax revenue up 15 percent YoY. - With shrinking financing and lower-than-expected donor disbursements, the PA accumulated gross new arrears and the net arrears position deteriorated by 1.1 percentage points of GDP. - The PA refrained from additional bank financing as net domestic bank financing turned mildly negative in 2018H1. ### Donor aid trends and implications (Box 1 summary) - West Bank and Gaza has long been a large recipient of official donor aid. - Overall donor support has remained at broadly similar levels over the past decade, but an increasing share is being directed towards uses outside the budget. - The corresponding decline in budget support, in both nominal terms and as a percent of GDP, has outpaced the authorities’ efforts to reduce the budget deficit, necessitating continued accumulation of arrears. - A large share of donor support to West Bank and Gaza goes toward humanitarian purposes—around one quarter on average since 2007. - The protracted humanitarian crisis has meant fewer funds are available to support investments in sustained growth and development (for example, economic infrastructure and services), risking a vicious cycle of humanitarian needs and underinvestment. ### Financial sector and risks to donor aid channels - Banking sector profitability and liquidity remain comfortable but have slightly declined over the past few years. - Banks’ overall exposure to the PA remains high, including indirect exposure via lending to PA employees and suppliers. - Loan quality in Gaza weakened after PA cuts to allowances in March 2017; the PMA helped steer a restructuring of affected loans in early 2018, representing about 5 percent of system-wide credit to the private sector. - Completing the PMA’s requirement to replenish banks’ capital buffers to a minimum of $75 million and progress toward implementing Basel III regulatory requirements are important to safeguard the banking system. - Israeli-Palestinian correspondent banking relations remain intact but strained; the PA is preparing a MENAFATF evaluation, due to commence in 2020, and the Israeli authorities favor IMF involvement in the evaluation. ### Policy implications and recommendations - Arresting Gaza’s decline is vital to mitigate spillovers to the broader Palestinian economy and the banking sector. - Priority humanitarian needs must be addressed while also restoring donor support for scalable infrastructure projects (for example, water and energy) to rebuild a functioning Gazan economy. - Reducing insecurity and renewing political dialogue, including resuming reconciliation efforts, would help stabilize Gaza’s economy, lessen potential spillovers, and unlock donor support. - The PA should pursue targeted measures to address budgetary strains and preserve financial stability, but success depends on complementary actions by Israel and donors, including alleviating longstanding external constraints on growth. - Restoring or increasing on-budget donor support (budget development support and recurrent budget support) could help reduce arrears accumulation and improve fiscal sustainability. *Prepared by Alexander de Keyserling (Box 1). Source: West Bank and Gaza (IMF staff report content provided).* --- ### Box 2. Economic Hardship in Gaza and Potential Spillovers to the West Bank ### Economic hardship in Gaza: scope and recent triggers - A decade of economic and political isolation has eroded Gaza’s commercial and trade ties with the West Bank and left the economy "particularly vulnerable to the recent drop in donor support and spending cuts by the PA." - Cuts to PA allowances starting in March 2017 and cuts to PA wages from March 2018 exacerbated household liquidity constraints and undermined borrowers’ ability to service loans. - In 2018, UNRWA voluntary contributions fell by $300 million. In July, UNRWA announced measures to address loss of funding, including non-renewal of 113 posts on emergency funding and conversion of 584 staff to part-time positions. ### Banking sector developments in Gaza and exposure - As of end-2017, around half of the nearly US$1 billion in credit extended by banks in Gaza was to PA employees. - Exact breakdown shown in source: - 5,485 84% (Credit to the Private Sector — West Bank) - 986 15% (Credit to the Private Sector — Gaza) - 79 1% (Credit to the Private Sector — Non-resident) - o/w 50% to PA employees - Credit restructuring and maturity changes: - Banks restructured US$350 million in loans, extending maturities from 5–7 years to 15–20 years. - Restructured loans account for only about 5 percent of system-wide credit to the private sector, but restructuring could exert downward pressure on banks’ profitability and increase risk of maturity mismatches. - Credit to UNRWA employees (approximately US$70 million) carries similar risks following cuts in the UNRWA wage bill. - Liquidity and credit supply dynamics: - The liquidity crunch in Gaza has seen a steady slowdown in deposit and credit growth, which put upward pressure on the loan-to-deposit ratio and constrained banks’ ability to soundly extend credit. - With weakening borrower creditworthiness, banks are increasingly cautious in extending new credit in Gaza. ### Real sector effects and indicators - More than 40 percent of credit in Gaza is intended to finance consumption; banks’ reluctance to lend aggravates risks of decline in activity. - Downturn signals: - The PMA business cycle indicator (PMABCI) has been persistently weak in Gaza since early 2017. - Decline in demand for goods and services is spilling over to retail and SME sectors, constraining working capital, affecting profitability, and further undermining real sector growth. - PMA business cycle indicator details: - The PMA’s monthly PMABCI scores economic performance on a scale of -100 (weak) to 100 (strong). ### Spillovers to the West Bank and systemic banking linkages - The banking sector is the main transmission channel of spillovers from Gaza into the West Bank due to domestic banks’ substantial exposure to both regions. - Anecdotal evidence points to increased risk aversion and a potential pullback by banks in the West Bank, which could reduce credit to sectors highly dependent on lending (construction, wholesale and retail). - Size and linkages of the banking sector: - The Palestinian banking sector exceeds 100 percent of GDP. - A partial balance sheet analysis shows strong linkages with the PA, private sector, and key segments of the Palestinian economy. ### Fiscal implications, trajectories, and debt projections - 2018 budget and financing: - Staff projects the 2018 overall budget deficit to be largely unchanged at 8.3 percent of GDP. - Lower-than-budgeted donor budget support—possibly 10 percent lower than in 2017—will widen the financing gap to some 4 percent of GDP in 2018. - External factors and 2019 outlook: - Based on GoI indications, staff estimates a revenue loss of some 2 percentage points of GDP from CRs likely to be withheld. - Staff project the overall deficit to widen sharply to above 10 percent of GDP in 2019 and beyond under these assumptions. - Given trends in donor support, annual financing gaps could average around 6½ percent of GDP over the medium term (up from around 3½ percent forecast in the March 2018 AHLC report). - Under these conditions, additional accumulation of arrears would push debt above 63 percent of GDP in 2023, of which 10 percentage points of GDP reflects the impact of the withholding of additional CRs. - Even without CRs being withheld, weaker growth and low donor aid would see debt exceed 50 percent of GDP. ### Policy recommendations and required actions - External actions and donor engagement: - Improved economic prospects depend on reviving the peace process and a path toward a two-state solution. - Israel can ease external constraints by allowing economic activity in Area C, easing restrictions (including the “dual use” list) to facilitate internal movement and access to international markets, starting industrial zones, and operationalizing scanners and streamlining administrative procedures at the border. - Donors are urged to continue fulfilling their pivotal role in WBG’s development, help fill critical infrastructure gaps in Gaza, and promote well-functioning public institutions. - Institutional strengthening: - Strengthening the regulatory apparatus to enforce contracts, register property, and support effective infrastructure investments is important. - Staff underlined the importance of a commercially viable electricity agreement with Israel, and investments in water supply and sewage treatment. - Robust public institutions are critical to sustaining growth, managing near-term fiscal and financial risks, and ensuring effective use of donor resources. - Fiscal and structural reforms to secure sustainability: - Staff advocated adjustment of 0.5 percentage points of GDP per year beyond the projected deficit, based on a mix of revenue and spending measures, underpinned by deeper structural reforms. - Staff pressed authorities to pursue three tracks: - introducing a strategic, medium-term adjustment framework and strengthening the fiscal framework to promote public accountability and reassure donors; - faster progress with the GoI toward reducing ‘fiscal leakages’ through transparent information exchange mechanisms; and - an actively engaged donor community to help bridge the large financing gap and support institutions. - Specific fiscal measures and priorities: - Contain and rebalance public spending, including containing the wage bill (considering retrenchments or reevaluating wage increases) and comprehensive health insurance reform to control costs of health referrals to Israel. - Allow the fuel price to fluctuate with international prices. - Improve targeting of social spending (cash transfer program to poor households) to gain savings and effectiveness. - Systematic reform of civil service, public pension scheme, and health care system to achieve a more productive spending mix; note the large share of pension liabilities in total debt. - Faster implementation of the public financial management (PFM) strategy, prioritizing commitment controls, commitment versus accrual accounting treatment of expenditure data, payment programming, debt management, and arrears recording and clearing. - Advance planned revenue reforms: implement corporate income and dividend withholding tax measures in 2019, adopt new licensing fees for petrol stations, and wind down fuel subsidies. Collectively these measures could reduce the financing gap by around 1 percentage point of GDP. - Explore other revenue reforms: update real estate valuations, increase administrative fees toward cost-recovery levels (eliminate nuisance fees), simplify the tax system for SMEs, and reduce exemptions (especially inefficient investment incentives envisaged as an emergency measure in the 2018 budget). *Prepared by Marwa Al Nasaa and Maria Atamanchuk. Sources as cited in the original IMF content.* --- ### Faster progress toward reducing ‘fiscal leakages’ will be crucial to offset the expected loss of CRs ### Fiscal leakages and revenue measures - Core message: Faster progress toward reducing “fiscal leakages” is crucial to offset the expected loss of CRs. Efforts should go beyond securing one-off payments and ensure systematic change. - Staff suggested prioritizing measures with the largest potential revenue gain given the weight of CRs in WBG’s revenues (examples cited: introducing an electronic VAT interface and reducing the 3 percent administrative handling fee). - New Israeli legislation on withholding CRs and lack of transparency or certainty about the amounts to be withheld runs counter to advancing the dialogue on fiscal leakages. Failure to advance these efforts increases the chance of further arrears accumulation and/or disorderly expenditure cuts that would harm growth. - Revenue measures discussed (figures from IMF staff estimates): - Measures (first table) - Total: 630 NIS million; 1.2 In percent of GDP - Increase in fees: 200 NIS million; 0.4 In percent of GDP - Return to 20 percent income tax rate: 200 NIS million; 0.4 In percent of GDP - Introduce a 10 percent dividend withholding tax: 100 NIS million; 0.2 In percent of GDP - Eliminate fuel tax subsidy: 130 NIS million; 0.2 In percent of GDP - Revenue Measures Considered by the PA (second table) - Total Annual Gain: 625 NIS million; 1.2 In percent of GDP - Introduce one-stop shop VAT filing at the border: 365 NIS million; 0.7 In percent of GDP - Transfer handling fee (per percentage point of assessed value): 190 NIS million; 0.4 In percent of GDP - Collect taxes from Area C: 70 NIS million; 0.1 In percent of GDP ### Preserving financial stability - Main recommendation: The PMA should sharpen regulatory oversight given the worsening economic situation and associated financial sector risks. - Key observations and staff recommendations: - The PMA granted an emergency waiver on provisioning following cuts to PA employees’ allowances in Gaza, which saw a decline in provisions in percent of nonperforming loans (NPLs). Authorities pointed to the recent capital increase as helping to compensate for the effects of the waiver and safeguard the banking system. - Staff underscored the importance of restoring full provisioning, given that cuts to PA allowances are unlikely to be reversed. Banks’ large exposure to the PA and the deteriorating situation in Gaza increase the prospect of delinquent loans. - With growing budgetary pressures, it will be important that the Ministry of Finance and Planning (MoFP) and PMA continue to observe the informal agreement limiting banks’ credit to the PA at 100 percent of total capital. - Staff encouraged the PMA to scrutinize risks more closely, making full use of its macro- and micro-prudential toolkits, and continuing more frequent on-site visits. - The PMA should leverage recent Fund TA on stress testing to better assess bank-by-bank risks. - Restructuring of affected private loans in Gaza earlier this year avoided an uptick in NPLs but will have negative implications for profitability and balance sheet mismatches. - Staff encouraged comprehensive monitoring of credit concentration risks arising from the banking sector’s direct and indirect exposures to the PA, including promissory notes. - The upcoming Financial System Stability Review (FSSR) will help identify financial sector vulnerabilities and priorities for future TA to enhance PMA institutional capabilities. ### AML/CFT and payment modalities - Staff emphasized establishing a permanent mechanism to replace CBRs via Israeli commercial banks as crucial to preserve financial and economic stability. - Staff welcomed authorities’ candid review of the AML/CFT regime under the NRA and encouraged a clear forward-looking action plan as the NRA nears completion. - IMF stands ready to support reforms via continued TA, including focused work on specific FATF recommendations; IMF remains open to leading WBG’s AML/CFT evaluation or participating as an external reviewer of a MENAFATF-led evaluation. - Staff strongly encouraged direct dialogue between the Israeli and Palestinian authorities to find mutually agreeable modalities to move forward. ### Institutional recommendations - Authorities highlighted work to develop a new PMA strategy as successor to the 2006 Strategic Transformation Plan (originally prepared with IMF TA). - Staff underlined the need for a robust governance framework that enshrines core principles of central bank independence and executive accountability in the new central bank law in line with Fund advice. --- ### Staff appraisal — economic outlook, constraints, and policy priorities ### Economic and political environment - Actions counter to the spirit of achieving a two-state solution and the increasingly turbulent security situation weigh heavily on the Palestinian economy; development prospects are limited. - Medium-term growth below 2 percent of GDP is noted as insufficient to generate enough jobs and higher incomes to improve livelihoods and reduce poverty for all Palestinians. - Gaza’s economic and humanitarian crisis is set to worsen without improved political relations, with all-time high poverty levels adding risk of deeper unrest. ### Constraints on policy action - The PA’s limited scope for policy action has been further reduced by interrelated political and financial tensions. The PA is constrained in addressing external structural issues that can only be solved through cooperation with Israel. - The PA’s fiscal policy is largely a function of the availability of cash—and increasingly so—despite the PA’s adjustment efforts. The growing financing shortfall severely limits the PA’s ability to undertake large multi-year investments. ### Policy recommendations and priorities - For the PA: - Focus on narrowing the fiscal deficit with more targeted spending and continued revenue-raising efforts that include a broadening of the tax base. - Pursue concerted reforms to strengthen fiscal frameworks and improve PFM to facilitate adjustment, promote public sector accountability, and reassure donors. - Improve the business environment where possible to allow private income to substitute for social spending to some extent. - Resuming reconciliation efforts could help unlock donor support. - For Israel: - Reach a prompt and systemic agreement with the PA on the fiscal files to avert a budgetary collapse. - Prevent further territorial fragmentation and improve conditions for movement and access within and to/from WBG. - For donors: - Increased donor financing of the budget could help consolidate Palestinian administration institutions, particularly if linked to progress on reforms and supplemented with technical expertise. ### Financial sector priorities reiterated - PMA needs to sharpen oversight to contain vulnerabilities; emerging risks should be scrutinized closely with effective use of PMA policy tools. - Attention to credit concentration risks from banks’ exposures to the PA is warranted given escalating budgetary pressures. - Ensure banks’ full provisioning given the deteriorating situation in Gaza and risks of rising delinquent loans. - Continued efforts to strengthen WBG’s AML/CFT regime and understandings on modalities for a mutual evaluation are vital to secure a longer-term solution to preserve Israeli-Palestinian CBRs. - A Central Bank law instituting checks and balances with clear executive mandates will help preserve PMA independence and institutional strength. ### Key macro and fiscal figures cited - Medium-term growth: below 2 percent of GDP. - Poverty rate (2017 est.): 14 percent in the West Bank and 53 percent in Gaza Strip. - Per capita GDP (2017): $2,926. - Real GDP (2004 market prices) projections 2018–23: 1.4, 1.4, 1.7, 1.7, 1.7, 1.7 - Gaza real GDP 2018–23: -4.0, -1.5, 0.0, 0.0, 0.0, 0.0 - Recurrent expenditures and net lending (percent of GDP): 31.4, 30.1, 29.4, 29.4, 29.3, 29.3 - Revenues (percent of GDP): 25.8, 24.6, 23.7, 21.6, 21.6, 21.6 - Recurrent balance (commitment, before external support) 2018–23: -5.8, -7.8, -7.7, -7.6, -7.6, -7.5 - Financing gap (in millions of U.S. dollars) projections: ......, 620, 1,008, 1,053, 1,102, 1,153, 1,200 - Current account balance (excluding official transfers) series (percent of GDP): -14.6, -14.7, -16.0, -16.3, -16.3, -16.4, -16.7, -17.0 ### Financial soundness indicators (selected) - Tier I capital to risk-weighted assets (Mar-18): 15.0 - Nonperforming loans (percent of total loans) (Mar-18): 2.3 - Coverage ratio (provisions as percent of nonperforming loans) (Mar-18): 60.7 - Return on assets (ROA) (Mar-18): 1.5 - Liquid assets to total assets (Mar-18): 30.0 *Source: IMF staff estimates and projections, Palestine Monetary Authority, World Bank, DfID, and Palestinian authorities (as presented in the source chapter).* --- ### Annex I. Risk Assessment Matrix — Key Risks and Mitigating Policies ### Domestic Risks (selected) - Escalating unrest due to discontent with the lack of opportunities or prospects for peace - Relative Likelihood: High - Expected Impact If Realized: High - Mitigating policies: Sound macroeconomic management and economic reforms; limited near-term impact on geo-political pressures. - Declining and/or volatile donor support - Relative Likelihood: High - Expected Impact If Realized: High - Mitigating policies: Gradual fiscal adjustment; improving composition of budget spending; strengthening budget institutions; ensuring financial sector resilience. - Increased uncertainty around Clearance Revenues (CRs) - Relative Likelihood: High - Expected Impact If Realized: Medium/High - Mitigating policies: Accelerate efforts to reduce fiscal leakages through fair and transparent discussions. - Reduced financial services by Israeli correspondent banks - Relative Likelihood: High - Expected Impact If Realized: Medium/High - Mitigating policies: Implement AML/CFT law and related regulations; enhance legal and regulatory frameworks. - Increased economic fragmentation - Relative Likelihood: High - Expected Impact If Realized: Medium/High - Mitigating policies: Sound macroeconomic management and domestic reforms (limited near-term effect on geo-political drivers). ### Global Risks (selected) - Intensified regional fragmentation/security dislocation - Relative Likelihood: High - Expected Impact If Realized: High - Mitigating policies: Sound macroeconomic management, proactive reforms and engaging partners. *Prepared from Annex I. Risk Assessment Matrix (West Bank and Gaza).* --- ### Annex III. West Bank and the Gaza Strip—Growing Apart — Selected Diagnostics ### Diverging growth and structure - Real GDP growth (average): Gaza 3.1 percent; West Bank 5.5 percent. - Real GDP growth (volatility, standard deviation): Gaza 11.1 percent; West Bank 7.8. - Public consumption share of GDP: Gaza 41 percent; West Bank 22 percent. - Investment (total) as percent of GDP: Gaza 4 percent; West Bank 26 percent. - Investment in productive capital (non-buildings) as percent of GDP: Gaza 0.5 percent; West Bank 6 percent. - Net imports as percent of GDP: Gaza 26 percent; West Bank 43 percent. ### Trade, labor ties, and external linkages with Israel - Gaza exports to Israel: late 1990s more than 60 percent; today effectively zero. - Gaza employment in Israel: before the second intifada almost 16 percent; today zero. - West Bank exports to Israel: today more than 30 percent. - West Bank residents working in Israel: some 17 percent of employed residents. - Earnings of West Bank workers in Israel: increased from US$0.8 billion in 2012 to US$1.9 billion in 2016. ### Financial sector and access - Banking access (per 100,000 adults, 2017 Census): West Bank 36 branches and 72 ATMs; Gaza 11 branches and 16 ATMs. - Deposit trends: Gaza deposit-to-GDP ratio declined over the past decade. - Loan-to-deposit ratio: Gaza nearing 90 percent; West Bank around 65 percent. - Share of Gaza credit portfolio to PA employees: "around half." - Share of Gaza credit portfolio intended to finance consumption: "more than 40 percent." ### Human capital, investment, and unrealized potential - Employment growth (2007–16 average): Gaza 4.5 percent per year; West Bank 2.2 percent per year. - Productivity growth: Gaza 1 percent; West Bank 2.7 percent. - Capital stock growth (adjusted for conflict): Gaza declining by 2.6 percent per year; West Bank increasing by 1.8 percent per year. - These imply average annual real GDP growth: Gaza 2.8 percent; West Bank 6.7 percent. - Counterfactual: Had Gaza matched West Bank capital and productivity growth, output growth could have reached 9 percent. ### Key socio-economic indicators for 2017 (West Bank versus Gaza) - Population, thousands: West Bank 2,882; Gaza 1,899. - Population (0–17) years: West Bank 42%; Gaza 47%. - Population density (Persons per Km2): West Bank 509; Gaza 5,203. - Average household size: West Bank 4.8; Gaza 5.6. - Youth (19–24 years) unemployment rate: West Bank 25.5; Gaza 57.9. - Percentage of individuals who use improved drinking water: West Bank 95.1; Gaza 11.4. - Average Monthly Expenditure per Capita (in USD): West Bank 310; Gaza 128.5. - Average Monthly Consumption per Capita (in USD): West Bank 312; Gaza 134.0. - Poverty percentage: West Bank 14%; Gaza 53%. - Deep Poverty: West Bank 6%; Gaza 34%. - GINI Index: West Bank 32%; Gaza 34%. - Total number of ATMs: West Bank 560; Gaza 84. - Total number of bank branches: West Bank 279; Gaza 58. - Poverty line and deep poverty line for reference household: NIS 2,470 (USD 671) and NIS 1,974 (USD 536) respectively. - Exchange rates used: 3.68 USD/NIS and 5.19 JOD/NIS. *Source: Annex III . West Bank and the Gaza Strip—Growing Apart* --- ### External position and competitiveness assessment ### Key findings on current account and REER - The CA deficit (excluding official transfers) has averaged more than 20 percent of GDP over the past decade. - Staff expects the CA deficit will average around 16.5 percent of GDP over the medium term under current restrictions and low donor support. - CA Balance approach for 2017: - Current Account - Actual: -13.8% - CA - Cyclically Adjusted (a): -14.1% - Current Account Norm: -8.6% - CA Norm - Cyclically Adjusted (b): -8.8% - Current Account Gap (c = a - b): -5.3% - o/w Overall policy gap (d = e + f): 0.1% - Fiscal policy gap (e): -0.3% - Residual policy gap (f): 0.4% - Elasticity to REER: -0.24 - Implied REER Gap: 22.2% - REER Gap: 9.1% - Staff assesses: - CA gap to be -2 to -6 percent of GDP - REER to be overvalued by 5–25 percent ### Policy options and constraints - Monetary policy is not an available tool for WBG authorities; Israel’s monetary policy governs the shekel. - Fiscal policy: PA has some control but limited scope; gradual adjustment recommended to avoid harming growth and Gaza needs. - Structural reforms: WBG can advance some reforms (infrastructure, business environment), but Israel retains formal control over key levers (market access, electricity, water). - IMF TA priorities (2013–18): public financial management, revenue administration, banking supervision, and national accounts; examples of technical progress include PFM modernization, single Taxpayer Identification Number, Large Taxpayer Unit, credit registry, periodic bank stress testing, deposit insurance, and steps to strengthen AML/CFT. *Prepared by Jean van Houtte (MCD), with Mohammed Saleh (SPR). IMF staff assessments and data as presented in the source document.* --- ### Annex VI. Statistical Issues — Data adequacy and priorities ### Overall assessment - Data provision in WBG has some shortcomings, but it is broadly adequate for economic analysis and policymaking. - Priority areas for improvement: statistics on government finance and the external sector. - Government finance: comprehensive and timely reporting of liabilities is an important issue. - External sector: inconsistencies between BOP and IIP data. ### National accounts and prices - PCBS compiles annual and quarterly GDP estimates; annual estimates of changes in inventories lack credibility. - PCBS has rebased annual and quarterly GDP from 2004 to 2015; revisions expected with new source data (2016/17 PECS and 2017 establishment census). - CPI: rebased in January 2014 to reference period 2010; PCBS plans to publish a rebased CPI during 2018 based on the 2016/2017 PECS. - PPI: current weights based on data collected in 2013; updated PPI released in January 2016 with base period December 2015. ### Government finance statistics - MoFP Financial Reporting Department data broadly align with GFSM 2001/2014 recommendations. - Latest annual data reported to IMF STA (reference 2015) excluded the social security subsector. - Needs: reconcile stocks and flows of arrears; accurate record of gross and net public debt; real-time detailed debt statements. ### Monetary, FSIs, and external statistics - PMA compiles monthly monetary data using SRFs; some source data limitations on sectoral breakdowns. - PMA reports quarterly FSIs: 11 core FSIs and encouraged sets with some delay. - WBG reports quarterly BOP and IIP in BPM6 format; inconsistencies between IIP and BOP due to coverage gaps and misclassifications. - July 2018 BOP statistics mission suggested revisions; revised data are expected to be sent to IMF. ### Data standards - West Bank and Gaza has been an SDDS subscriber since April 2012. - No data ROSC has taken place in West Bank and Gaza. *Prepared by the IMF’s Statistics Department, with inputs from the Middle East and Central Asia Department. (As of August 15, 2018)* *Prepared from IMF staff report content provided (wbg091718).* ### 1. Trends in Donor Aid _________________________________________________________________________ 11 ### 1. Trends in Donor Aid ### Key findings - Real GDP growth across West Bank and Gaza (WBG) slowed to 3.1 percent in 2017 and to 2 percent in 2018Q1; Gaza recorded -6 percent in 2018Q1, while the West Bank showed reported real growth of 8.4 percent in 2017Q4 and 4.8 percent in 2018Q1 YoY. - Unemployment in WBG exceeded 32 percent in 2018Q2; unemployment in Gaza was nearing 54 percent in 2018Q2 and 19.1 percent in the West Bank. - The 2017 household survey found Gaza’s poverty rate rose from 38.8 percent (2011 HHS) to 53 percent (2017 HHS). - Staff projects overall growth to languish at around 1½ percent in 2018–19. - The West Bank is projected to grow by 2.2 percent per year over the medium term. - Gaza is projected to contract by -4 percent in the current year and -1.5 percent in the following year. ### Fiscal and financing developments - The authorities contained the overall fiscal deficit in 2017 to 8.1 percent of GDP (unchanged from 2016). - In 2018H1 the overall fiscal deficit was limited to almost 6 percent of GDP. - Wage bill was reduced by 17 percent YoY in 2018H1 through retrenchments and salary cuts in Gaza. - Pension payments rose by more than 10 percent YoY, which limited the decline in total spending to 7 percent YoY. - Revenues in 2018H1: customs receipts nearly -14 percent YoY; clearance revenues (CRs) -10 percent YoY; VAT up nearly 22 percent YoY; non-tax revenue up 15 percent YoY. - With shrinking financing and lower-than-expected donor disbursements, the PA accumulated gross new arrears and the net arrears position deteriorated by 1.1 percentage points of GDP. - The PA refrained from additional bank financing as net domestic bank financing turned mildly negative in 2018H1. ### Donor aid trends and implications (Box 1 summary) - West Bank and Gaza has long been a large recipient of official donor aid. - Overall donor support has remained at broadly similar levels over the past decade, but an increasing share is being directed towards uses outside the budget. - The corresponding decline in budget support, in both nominal terms and as a percent of GDP, has outpaced the authorities’ efforts to reduce the budget deficit, necessitating continued accumulation of arrears. - A large share of donor support to West Bank and Gaza goes toward humanitarian purposes—around one quarter on average since 2007. - The protracted humanitarian crisis has meant fewer funds are available to support investments in sustained growth and development (for example, economic infrastructure and services), risking a vicious cycle of humanitarian needs and underinvestment. ### Financial sector and risks to donor aid channels - Banking sector profitability and liquidity remain comfortable but have slightly declined over the past few years. - Banks’ overall exposure to the PA remains high, including indirect exposure via lending to PA employees and suppliers. - Loan quality in Gaza weakened after PA cuts to allowances in March 2017; the PMA helped steer a restructuring of affected loans in early 2018, representing about 5 percent of system-wide credit to the private sector. - Completing the PMA’s requirement to replenish banks’ capital buffers to a minimum of $75 million and progress toward implementing Basel III regulatory requirements are important to safeguard the banking system. - Israeli-Palestinian correspondent banking relations remain intact but strained; the PA is preparing a MENAFATF evaluation, due to commence in 2020, and the Israeli authorities favor IMF involvement in the evaluation. ### Policy implications and recommendations - Arresting Gaza’s decline is vital to mitigate spillovers to the broader Palestinian economy and the banking sector. - Priority humanitarian needs must be addressed while also restoring donor support for scalable infrastructure projects (for example, water and energy) to rebuild a functioning Gazan economy. - Reducing insecurity and renewing political dialogue, including resuming reconciliation efforts, would help stabilize Gaza’s economy, lessen potential spillovers, and unlock donor support. - The PA should pursue targeted measures to address budgetary strains and preserve financial stability, but success depends on complementary actions by Israel and donors, including alleviating longstanding external constraints on growth. - Restoring or increasing on-budget donor support (budget development support and recurrent budget support) could help reduce arrears accumulation and improve fiscal sustainability. *Prepared by Alexander de Keyserling (Box 1). Source: West Bank and Gaza (IMF staff report content provided).* ### Box 2. Economic Hardship in Gaza and Potential Spillovers to the West Bank ### Box 2. Economic Hardship in Gaza and Potential Spillovers to the West Bank ### Economic hardship in Gaza: scope and recent triggers - A decade of economic and political isolation has eroded Gaza’s commercial and trade ties with the West Bank and left the economy "particularly vulnerable to the recent drop in donor support and spending cuts by the PA." - Cuts to PA allowances starting in March 2017 and cuts to PA wages from March 2018 exacerbated household liquidity constraints and undermined borrowers’ ability to service loans. - In 2018, UNRWA voluntary contributions fell by $300 million. In July, UNRWA announced measures to address loss of funding, including non-renewal of 113 posts on emergency funding and conversion of 584 staff to part-time positions. ### Banking sector developments in Gaza and exposure - As of end-2017, around half of the nearly US$1 billion in credit extended by banks in Gaza was to PA employees. - Exact breakdown shown in source: - 5,485 84% (Credit to the Private Sector — West Bank) - 986 15% (Credit to the Private Sector — Gaza) - 79 1% (Credit to the Private Sector — Non-resident) - o/w 50% to PA employees - Credit restructuring and maturity changes: - Banks restructured US$350 million in loans, extending maturities from 5–7 years to 15–20 years. - Restructured loans account for only about 5 percent of system-wide credit to the private sector, but restructuring could exert downward pressure on banks’ profitability and increase risk of maturity mismatches. - Credit to UNRWA employees (approximately US$70 million) carries similar risks following cuts in the UNRWA wage bill. - Liquidity and credit supply dynamics: - The liquidity crunch in Gaza has seen a steady slowdown in deposit and credit growth, which put upward pressure on the loan-to-deposit ratio and constrained banks’ ability to soundly extend credit. - With weakening borrower creditworthiness, banks are increasingly cautious in extending new credit in Gaza. ### Real sector effects and indicators - More than 40 percent of credit in Gaza is intended to finance consumption; banks’ reluctance to lend aggravates risks of decline in activity. - Downturn signals: - The PMA business cycle indicator (PMABCI) has been persistently weak in Gaza since early 2017. - Decline in demand for goods and services is spilling over to retail and SME sectors, constraining working capital, affecting profitability, and further undermining real sector growth. - PMA business cycle indicator details: - The PMA’s monthly PMABCI scores economic performance on a scale of -100 (weak) to 100 (strong). ### Spillovers to the West Bank and systemic banking linkages - The banking sector is the main transmission channel of spillovers from Gaza into the West Bank due to domestic banks’ substantial exposure to both regions. - Anecdotal evidence points to increased risk aversion and a potential pullback by banks in the West Bank, which could reduce credit to sectors highly dependent on lending (construction, wholesale and retail). - Size and linkages of the banking sector: - The Palestinian banking sector exceeds 100 percent of GDP. - A partial balance sheet analysis shows strong linkages with the PA, private sector, and key segments of the Palestinian economy (figure in source shows Banks’ Intersectoral Links in the Palestinian Economy, End-2017; numbers refer to banks’ assets and liabilities). ### Fiscal implications, trajectories, and debt projections - 2018 budget and financing: - Staff projects the 2018 overall budget deficit to be largely unchanged at 8.3 percent of GDP. - Lower-than-budgeted donor budget support—possibly 10 percent lower than in 2017—will widen the financing gap to some 4 percent of GDP in 2018. - External factors and 2019 outlook: - Based on GoI indications, staff estimates a revenue loss of some 2 percentage points of GDP from CRs likely to be withheld. - Staff project the overall deficit to widen sharply to above 10 percent of GDP in 2019 and beyond under these assumptions. - Given trends in donor support, annual financing gaps could average around 6½ percent of GDP over the medium term (up from around 3½ percent forecast in the March 2018 AHLC report). - Under these conditions, additional accumulation of arrears would push debt above 63 percent of GDP in 2023, of which 10 percentage points of GDP reflects the impact of the withholding of additional CRs. - Even without CRs being withheld, weaker growth and low donor aid would see debt exceed 50 percent of GDP. - Public debt figures illustrated in source: - 53.5 - 63.5 - (Figure caption: Public Debt (In percent of GDP) — baseline projections, with additional CR deduction; Without additional CR deduction) ### Policy recommendations and required actions - External actions and donor engagement: - Improved economic prospects depend on reviving the peace process and a path toward a two-state solution. - Israel can ease external constraints by allowing economic activity in Area C, easing restrictions (including the “dual use” list) to facilitate internal movement and access to international markets, starting industrial zones, and operationalizing scanners and streamlining administrative procedures at the border. - Donors are urged to continue fulfilling their pivotal role in WBG’s development, help fill critical infrastructure gaps in Gaza, and promote well-functioning public institutions. - Institutional strengthening: - Strengthening the regulatory apparatus to enforce contracts, register property, and support effective infrastructure investments is important. - Staff underlined the importance of a commercially viable electricity agreement with Israel, and investments in water supply and sewage treatment. - Robust public institutions are critical to sustaining growth, managing near-term fiscal and financial risks, and ensuring effective use of donor resources. - Fiscal and structural reforms to secure sustainability: - Staff advocated adjustment of 0.5 percentage points of GDP per year beyond the projected deficit, based on a mix of revenue and spending measures, underpinned by deeper structural reforms. - Staff pressed authorities to pursue three tracks: - introducing a strategic, medium-term adjustment framework and strengthening the fiscal framework to promote public accountability and reassure donors; - faster progress with the GoI toward reducing ‘fiscal leakages’ through transparent information exchange mechanisms; and - an actively engaged donor community to help bridge the large financing gap and support institutions. - Specific fiscal measures and priorities: - Contain and rebalance public spending, including containing the wage bill (considering retrenchments or reevaluating wage increases) and comprehensive health insurance reform to control costs of health referrals to Israel. - Allow the fuel price to fluctuate with international prices. - Improve targeting of social spending (cash transfer program to poor households) to gain savings and effectiveness. - Systematic reform of civil service, public pension scheme, and health care system to achieve a more productive spending mix; note the large share of pension liabilities in total debt. - Faster implementation of the public financial management (PFM) strategy, prioritizing commitment controls, commitment versus accrual accounting treatment of expenditure data, payment programming, debt management, and arrears recording and clearing. - Advance planned revenue reforms: implement corporate income and dividend withholding tax measures in 2019, adopt new licensing fees for petrol stations, and wind down fuel subsidies. Collectively these measures could reduce the financing gap by around 1 percentage point of GDP. - Explore other revenue reforms: update real estate valuations, increase administrative fees toward cost-recovery levels (eliminate nuisance fees), simplify the tax system for SMEs, and reduce exemptions (especially inefficient investment incentives envisaged as an emergency measure in the 2018 budget). *Prepared by Marwa Al Nasaa and Maria Atamanchuk. Sources as cited in the original IMF content.* ### 23. Faster progress toward reducing ‘fiscal leakages’ will be crucial to offset the expected ### 23. Faster progress toward reducing ‘fiscal leakages’ will be crucial to offset the expected ### Fiscal leakages and revenue measures - Core message: Faster progress toward reducing “fiscal leakages” is crucial to offset the expected loss of CRs. Efforts should go beyond securing one-off payments and ensure systematic change. - Staff suggested prioritizing measures with the largest potential revenue gain given the weight of CRs in WBG’s revenues (examples cited: introducing an electronic VAT interface and reducing the 3 percent administrative handling fee). - New Israeli legislation on withholding CRs and lack of transparency or certainty about the amounts to be withheld runs counter to advancing the dialogue on fiscal leakages. Failure to advance these efforts increases the chance of further arrears accumulation and/or disorderly expenditure cuts that would harm growth. - Revenue measures discussed (figures from IMF staff estimates): - Measures (first table) - Total: 630 NIS million; 1.2 In percent of GDP - Increase in fees: 200 NIS million; 0.4 In percent of GDP - Return to 20 percent income tax rate: 200 NIS million; 0.4 In percent of GDP - Introduce a 10 percent dividend withholding tax: 100 NIS million; 0.2 In percent of GDP - Eliminate fuel tax subsidy: 130 NIS million; 0.2 In percent of GDP - Revenue Measures Considered by the PA (second table) - Total Annual Gain: 625 NIS million; 1.2 In percent of GDP - Introduce one-stop shop VAT filing at the border: 365 NIS million; 0.7 In percent of GDP - Transfer handling fee (per percentage point of assessed value): 190 NIS million; 0.4 In percent of GDP - Collect taxes from Area C: 70 NIS million; 0.1 In percent of GDP - Source: IMF staff estimates; additional sources: World Bank; DfID. ### Preserving financial stability - Main recommendation: The PMA should sharpen regulatory oversight given the worsening economic situation and associated financial sector risks. - Key observations and staff recommendations: - The PMA granted an emergency waiver on provisioning following cuts to PA employees’ allowances in Gaza, which saw a decline in provisions in percent of nonperforming loans (NPLs). Authorities pointed to the recent capital increase as helping to compensate for the effects of the waiver and safeguard the banking system. - Staff underscored the importance of restoring full provisioning, given that cuts to PA allowances are unlikely to be reversed. Banks’ large exposure to the PA and the deteriorating situation in Gaza increase the prospect of delinquent loans. - With growing budgetary pressures, it will be important that the Ministry of Finance and Planning (MoFP) and PMA continue to observe the informal agreement limiting banks’ credit to the PA at 100 percent of total capital. - Staff encouraged the PMA to scrutinize risks more closely, making full use of its macro- and micro-prudential toolkits, and continuing more frequent on-site visits. - The PMA should leverage recent Fund TA on stress testing to better assess bank-by-bank risks. - Restructuring of affected private loans in Gaza earlier this year avoided an uptick in NPLs but will have negative implications for profitability and balance sheet mismatches. - Staff encouraged comprehensive monitoring of credit concentration risks arising from the banking sector’s direct and indirect exposures to the PA, including promissory notes. - The upcoming Financial System Stability Review (FSSR) will help identify financial sector vulnerabilities and priorities for future TA to enhance PMA institutional capabilities. - AML/CFT and payment modalities: - Staff emphasized establishing a permanent mechanism to replace CBRs via Israeli commercial banks as crucial to preserve financial and economic stability. - Staff welcomed authorities’ candid review of the AML/CFT regime under the NRA and encouraged a clear forward-looking action plan as the NRA nears completion. - IMF stands ready to support reforms via continued TA, including focused work on specific FATF recommendations; IMF remains open to leading WBG’s AML/CFT evaluation or participating as an external reviewer of a MENAFATF-led evaluation. - Staff strongly encouraged direct dialogue between the Israeli and Palestinian authorities to find mutually agreeable modalities to move forward. - Institutional recommendations: - Authorities highlighted work to develop a new PMA strategy as successor to the 2006 Strategic Transformation Plan (originally prepared with IMF TA). - Staff underlined the need for a robust governance framework that enshrines core principles of central bank independence and executive accountability in the new central bank law in line with Fund advice. ### Staff appraisal — economic outlook, constraints, and policy priorities - Economic and political environment: - Actions counter to the spirit of achieving a two-state solution and the increasingly turbulent security situation weigh heavily on the Palestinian economy; development prospects are limited. - Medium-term growth below 2 percent of GDP is noted as insufficient to generate enough jobs and higher incomes to improve livelihoods and reduce poverty for all Palestinians. - Gaza’s economic and humanitarian crisis is set to worsen without improved political relations, with all-time high poverty levels adding risk of deeper unrest. - Constraints on policy action: - The PA’s limited scope for policy action has been further reduced by interrelated political and financial tensions. The PA is constrained in addressing external structural issues that can only be solved through cooperation with Israel. - The PA’s fiscal policy is largely a function of the availability of cash—and increasingly so—despite the PA’s adjustment efforts. The growing financing shortfall severely limits the PA’s ability to undertake large multi-year investments. - Policy recommendations and priorities: - For the PA: - Focus on narrowing the fiscal deficit with more targeted spending and continued revenue-raising efforts that include a broadening of the tax base. - Pursue concerted reforms to strengthen fiscal frameworks and improve PFM to facilitate adjustment, promote public sector accountability, and reassure donors. - Improve the business environment where possible to allow private income to substitute for social spending to some extent. - Resuming reconciliation efforts could help unlock donor support. - For Israel: - Reach a prompt and systemic agreement with the PA on the fiscal files to avert a budgetary collapse. - Prevent further territorial fragmentation and improve conditions for movement and access within and to/from WBG. - For donors: - Increased donor financing of the budget could help consolidate Palestinian administration institutions, particularly if linked to progress on reforms and supplemented with technical expertise. - Financial sector priorities reiterated: - PMA needs to sharpen oversight to contain vulnerabilities; emerging risks should be scrutinized closely with effective use of PMA policy tools. - Attention to credit concentration risks from banks’ exposures to the PA is warranted given escalating budgetary pressures. - Ensure banks’ full provisioning given the deteriorating situation in Gaza and risks of rising delinquent loans. - Continued efforts to strengthen WBG’s AML/CFT regime and understandings on modalities for a mutual evaluation are vital to secure a longer-term solution to preserve Israeli-Palestinian CBRs. - A Central Bank law instituting checks and balances with clear executive mandates will help preserve PMA independence and institutional strength. ### Key macro and fiscal figures cited - Medium-term growth: below 2 percent of GDP. - Poverty rate (2017 est.): 14 percent in the West Bank and 53 percent in Gaza Strip. - Per capita GDP (2017): $2,926. - Table highlights (selected): - Real GDP (2004 market prices) projections 2018–23: 1.4, 1.4, 1.7, 1.7, 1.7, 1.7 - Gaza real GDP 2018–23: -4.0, -1.5, 0.0, 0.0, 0.0, 0.0 - Recurrent expenditures and net lending (percent of GDP): 31.4, 30.1, 29.4, 29.4, 29.3, 29.3 - Revenues (percent of GDP): 25.8, 24.6, 23.7, 21.6, 21.6, 21.6 - Recurrent balance (commitment, before external support) 2018–23: -5.8, -7.8, -7.7, -7.6, -7.6, -7.5 - Financing gap (in millions of U.S. dollars) projections: ......, 620, 1,008, 1,053, 1,102, 1,153, 1,200 - Current account balance (excluding official transfers) series (percent of GDP): -14.6, -14.7, -16.0, -16.3, -16.3, -16.4, -16.7, -17.0 - Financial soundness indicators (selected): - Tier I capital to risk-weighted assets (Dec-11 to Mar-18 snapshot trends shown; Mar-18 value): 15.0 (latest value shown) - Nonperforming loans (percent of total loans) (Dec-11 to Mar-18): series ending at 2.3 (Mar-18) - Coverage ratio (provisions as percent of nonperforming loans): series with Mar-18 value 60.7 - Return on assets (ROA) series ending at 1.5 (Mar-18) - Liquid assets to total assets series ending at 30.0 (Mar-18) *Source: IMF staff estimates and projections, Palestine Monetary Authority, World Bank, DfID, and Palestinian authorities (as presented in the source chapter).* ### Annex I. Risk Assessment Matrix ### Annex I. Risk Assessment Matrix ### Domestic Risks - Escalating unrest due to discontent with the lack of opportunities or prospects for peace - Relative Likelihood: High - Expected Impact If Realized: High - "A deeper conflict in Gaza or widespread unrest could disrupt economic and financial transactions or the provision of public services, and endanger the stability of banks, with possible spillovers to the West Bank. This would undermine growth and intensify the humanitarian crisis in Gaza and. Any tightening of Israeli restrictions or increased uncertainty about donor aid would compound the situation." - Policies to Mitigate Risks: - "Sound macroeconomic management and economic reforms could help instill confidence and alleviate economic strains at the margin. However, economic policies can do little in the near term to directly mitigate geo-political pressures." - Declining and/or volatile donor support due to shifts in donor sentiment, fiscal strains in donor countries, or competing demands - Relative Likelihood: High - Expected Impact If Realized: High - "Larger-than-anticipated declines in donor support could worsen the already large financing gaps, necessitating additional arrears or deeper spending cuts (including in Gaza). This could compromise public service delivery, increase banking sector vulnerabilities, and harm economic growth and social cohesion." - Policies to Mitigate Risks: - "Instill confidence through strong policies that could, over time, support growth, promote fiscal sustainability and reduce dependence on donor support, including: gradual fiscal adjustment; improving the composition of budget spending; strengthening budget institutions; and ensuring financial sector resilience." - Increased uncertainty around the level and consistency of Clearance Revenues (CRs) due to new Israeli legislation - Relative Likelihood: High - Expected Impact If Realized: Medium/High - "A larger-than-anticipated decline in CRs transfers payments could worsen the already large financing gaps, leading to additional arrears or deeper spending cuts. Uncertain or inconsistent CR transfers would complicate budget management. These efforts would compromise public service delivery, banking sector stability, economic growth and social cohesion." - Policies to Mitigate Risks: - "Absent a legislative reversal in Israel, it will be essential to accelerate efforts—based on fair and transparent discussions—to reduce fiscal leakages and partially offset the loss of CR resources withheld." - Reduced financial services by Israeli correspondent banks - Relative Likelihood: High - Expected Impact If Realized: Medium/High - "Loss of Israeli-Palestinian correspondent bank relations would lead to trade and financial transactions being canceled or shifted into cash/informality. This could undermine WBG’s payment system, harming financial stability and growth." - Policies to Mitigate Risks: - "(1) Effectively implement “Anti-Money Laundering and Terrorism Financing” law and related regulations. (2) Continue to enhance legal and regulatory frameworks, build implementation capacity." - Increased economic fragmentation due to diverging Gazan and West Bank economies and/or settlement expansion - Relative Likelihood: High - Expected Impact If Realized: Medium/High - "Further erosion of geographic control or increased restrictions would shrink access to the economy’s resources and stifle investment, with impeding negative effects on growth and the economic viability of a Palestinian state." - Policies to Mitigate Risks: - "Sound macroeconomic management and domestic reforms could help instill confidence. Yet, economic policies can do little in the near term to directly mitigate geo-political pressures." - Methodology note (staff assessment of relative likelihoods) - "The Risk Assessment Matrix (RAM) shows events that could materially alter the baseline path (the scenario most likely to materialize in the view of IMF staff). The relative likelihood of risks listed is the staff’s subjective assessment of the risks surrounding the baseline (“low” is meant to indicate a probability below 10 percent, “medium” a probability between 10 and 30 percent, and “high” a probability between 30 and 50 percent). The RAM reflects staff views on the source of risks and overall level of concern as of the time of discussions with the authorities. Non-mutually exclusive risks may interact and materialize jointly." ### Global Risks - Intensified risks from fragmentation/security dislocation in parts of the Middle East - Relative Likelihood: High - Expected Impact If Realized: High - "Any direct spillover of regional instability would exacerbate security and economic uncertainties in WBG. Unrest in the region could divert donor aid away from WBG and/or affect Israel’s stance toward security and restrictions." - Policies to Mitigate Risks: - "Sound macroeconomic management, proactive reforms and engaging partners could help instill confidence. Economic policies can do little to mitigate external geo-political risks." *Prepared from Annex I. Risk Assessment Matrix (West Bank and Gaza).* ### Annex III . West Bank and the Gaza Strip—Growing Apart ### Annex III . West Bank and the Gaza Strip—Growing Apart ### Diverging growth patterns and macroeconomic outcomes - Real GDP growth (average): Gaza 3.1 percent; West Bank 5.5 percent. - Real GDP growth (volatility, standard deviation): Gaza 11.1 percent; West Bank 7.8. - Real GDP per capita: "Today, real GDP per capita in Gaza is less than half of that in the West Bank." - Share of Gaza in the Palestinian economy: fell from more than 35 percent in the 1990s to less than 25 percent today. - Long-run level effects: West Bank real GDP "more than tripled since 1995"; Gaza "has not even doubled." ### Economic structure and dependence on the public sector - Public consumption share of GDP: Gaza 41 percent; West Bank 22 percent. - Investment (total) as percent of GDP: Gaza 4 percent; West Bank 26 percent. - Investment in productive capital (non-buildings) as percent of GDP: Gaza 0.5 percent; West Bank 6 percent. - Net imports as percent of GDP: Gaza 26 percent; West Bank 43 percent. - Supply-side: Gaza has a larger share of public sector services and employment relative to the West Bank. - Historical note: "In the late 1990s, the structure of Gaza’s GDP was quite similar to that of the West Bank." ### Trade, labor ties, and external linkages with Israel - Gaza exports to Israel: "In the late 1990s, Israel was the destination for more than 60 percent of Gaza’s exports. Today that share is effectively zero." - Gaza employment in Israel: "Before the second intifada, almost 16 percent of Gaza’s employed population was working in Israel. Today that number is zero." - West Bank exports to Israel: "Today more than 30 percent of the West Bank’s exports head to Israel." - West Bank residents working in Israel: "some 17 percent of employed residents of the West Bank labor force work in Israel." - Earnings of West Bank workers in Israel: increased from "US$0.8 billion in 2012 to US$1.9 billion in 2016." ### Financial sector development and vulnerabilities - Banking access (per 100,000 adults, 2017 Census): West Bank 36 branches and 72 ATMs; Gaza 11 branches and 16 ATMs. - Deposit trends: Gaza deposit-to-GDP ratio declined over the past decade, with savings and time deposits particularly affected. - Private credit composition and growth: - Private credit growth in Gaza accelerated after the 2014 war and outpaced both West Bank credit growth and Gaza deposit growth. - Loan-to-deposit ratio: Gaza nearing 90 percent; West Bank around 65 percent. - Share of Gaza credit portfolio to PA employees: "around half." - Loans to UNRWA employees (and guaranteed by UNRWA employees): "the dollar amount ... are double that of the West Bank." - Share of Gaza credit portfolio intended to finance consumption: "more than 40 percent." - Indicators of financial stress: "rapid increase in bounced checks and NPLs, especially in Gaza" (figures presented in source for Non-Performing Loans and Bounced Checks). ### Human capital, investment, and unrealized potential - Labor force and unemployment: - Labor participation: "low (although not dissimilar to those in the West Bank)." - Unemployment rates: Gaza "much higher" than West Bank; youth especially affected. - Capital stock and investment: - Capital stock has been "largely destroyed after years of conflict and instability." - Appetite for new business: "less appetite to start new businesses than in the West Bank." - Solow accounting exercise (2007–16 averages and comparisons): - Employment growth: Gaza 4.5 percent per year; West Bank 2.2 percent per year. - Productivity growth: Gaza 1 percent; West Bank 2.7 percent. - Capital stock growth (adjusted for conflict): Gaza declining by 2.6 percent per year; West Bank increasing by 1.8 percent per year. - These imply average annual real GDP growth: Gaza 2.8 percent; West Bank 6.7 percent. - Counterfactual: "Had the capital stock accumulation and productivity growth rates been similar to those in the West Bank, output growth in Gaza could have reached 9 percent." - Policy implication: "The constraints imposed on the economy for political and security reasons have changed its structure, held back its development, and substantially undermined its potential." A "political breakthrough" is described as necessary to overcome structural constraints. ### Key socio-economic indicators for 2017 (West Bank versus Gaza) - Population, thousands: West Bank 2,882; Gaza 1,899. - Population (0–17) years: West Bank 42%; Gaza 47%. - Population (18–29) years: West Bank 22%; Gaza 23%. - Population 60 years and over: West Bank 5%; Gaza 4%. - Registered refugees, thousands: West Bank 810; Gaza 1,300. - Population density (Persons per Km2): West Bank 509; Gaza 5,203. - Population projection by 2030, thousands: West Bank 3,969; Gaza 3,081. - Population projection by 2050, thousands: West Bank 5,690; Gaza 5,017. - Number of households: West Bank 594,429; Gaza 334,710. - Average household size: West Bank 4.8; Gaza 5.6. - Mean number of children born: West Bank 4.3; Gaza 4.5. - Youth (19–24 years) unemployment rate: West Bank 25.5; Gaza 57.9. - Share of illiterate population: West Bank 2%; Gaza 2%. - Completed Associate Diploma and Above: West Bank 13%; Gaza 14%. - Percentage of individuals who use improved drinking water: West Bank 95.1; Gaza 11.4. - Average Monthly Expenditure per Capita (in USD): West Bank 310; Gaza 128.5. - Average Monthly Consumption per Capita (in USD): West Bank 312; Gaza 134.0. - Poverty percentage: West Bank 14%; Gaza 53%. - Deep Poverty: West Bank 6%; Gaza 34%. - Percentage of individuals that earned an income less than the deep poverty line: West Bank 15%; Gaza 54%. - GINI Index: West Bank 32%; Gaza 34%. - Total number of ATMs: West Bank 560; Gaza 84. - Total number of bank branches: West Bank 279; Gaza 58. - Notes from source: - UNRWA dates: "as of 31st of Dec 2016 for West Bank and as of October 31, 2016 for Gaza." - Population projections source: "United Nations Population Fund; projections using high variant." - Poverty line and deep poverty line for reference household (two adults and three children) stood at "NIS 2,470 (USD 671) and NIS 1,974 (USD 536) respectively." - Exchange rates used: "3.68 USD/NIS and 5.19 JOD/NIS." *Source: Annex III . West Bank and the Gaza Strip—Growing Apart* ### 1. WBG’s large external current account deficit is expected to remain high over the ### 1. WBG’s large external current account deficit is expected to remain high over the ### Overview and key findings - The CA deficit (excluding official transfers) has averaged more than 20 percent of GDP over the past decade, driven by a profound imbalance in merchandise trade. - Primary reasons for the high trade deficit: - (i) significant export market access constraints; - (ii) import restrictions from the “dual use list” of restricted products affecting the production process; - (iii) a deterioration of the capital base that underpins production processes, especially in Gaza; - (iv) crippling restrictions on access to land and water for agriculture, and fishing grounds; and - (v) the steady real appreciation of the main currency in use in WBG, the Israeli shekel. - High net income inflows mitigate the impact of the trade balance on the CA, but low private savings and public dissaving underpin WBG’s dependence on aid and small investments from abroad. - Staff expects the CA deficit will average around 16.5 percent of GDP over the medium term, reflecting ongoing restrictions, slowing construction employment opportunities in Israel, and a domestic economy constrained by the withholding of a large part of clearance revenue. - Staff’s baseline macroeconomic framework assumes donor support at the current low level, which is inadequate to meaningfully address fiscal risks. ### Methodology - The EBA-lite methodology includes three approaches: current account model, real exchange rate model, and external sustainability approach. Based on available data, staff used the first two approaches for this ESA. - The CA Balance and REER models are based on two panel regressions of the current account and the real exchange rate, respectively, on policy variables and variables not directly within the authorities’ control. - External gaps are assessed by the difference between the cyclically-adjusted actual current account and real exchange rate and their corresponding norms. ### Assessment of external competitiveness (quantitative results) - Both CA Balance and REER approaches suggest WBG’s external position is weaker than warranted by fundamentals and desirable policy settings. - CA Balance approach: - For 2017 the gap between the actual current account deficit and the norm is relatively high and within the range of -5.3 percent plus or minus the standard deviation for the CA Balance approach regression. - The CA balance’s projected deterioration beyond 2017 will increase that gap further. - The contribution of policy variables (the “overall policy gap”) is negligible: 0.1 percent of GDP. - Fiscal policy gap: -0.3 percentage point of GDP (reflects a rate of adjustment of 0.5 percentage points of GDP per year for 5 years). - Substantial negative unexplained residual gap of -5.4 percentage points likely captures underlying structural policy gaps and impediments. - REER approach: - For 2017 indicates significant overvaluation of the shekel, milder than the CA Balance approach; it is within the range of 9 percent plus or minus the standard deviation for the REER approach regression. - Analysis assumes a relatively high notional policy rate of 6 percent for WBG (compared with less than 1 percent for Israel). A policy rate decrease of 1 percent causes a 0.2 percentage point increase in overvaluation. - Summary table results (as presented): - Current Account - Actual-13.8% - CA - Cyclically Adjusted (a)-14.1% - Current Account Norm-8.6% - CA Norm - Cyclically Adjusted (b)-8.8% - Current Account Gap (c = a - b) -5.3% - o/w Overall policy gap (d = e + f)0.1% - Fiscal policy gap(e)-0.3% - Residual policy gap (f)0.4% - Elasticity to REER-0.24 - Implied REER Gap22.2% - REER Gap9.1% - Taking into account all factors and uncertainty, staff assesses: - CA gap to be -2 to -6 percent of GDP - REER to be overvalued by 5–25 percent ### Qualitative competitiveness indicators and constraints - Data limitations (short data spans, missing variables) warrant prudence; regional averages substituted for two variables where no country data could be found, with limited effect on the regression findings. - Doing Business 2018: WBG ranked 114th of 190 countries, up 26 places from the previous year; caveats: - Ramallah-only coverage biases results toward favorable outcomes and does not capture constraints across the entire Palestinian economy, especially Gaza. - Ease of “getting credit” was a key driver of improvement due to the Secured Transactions Law and a new collateral registry in 2017; rapid credit growth is a watch point for the financial sector amid pressures on banks in Gaza. - Labor and productivity: - According to the ILO, more than 100,000 Palestinian day laborers in Israel (more than 12 percent of Palestinians employed in the West Bank) earn wages more than twice what they earn in WBG. - Average wages in the West Bank are around 40 percent of what they are in Israel; labor productivity of workers in Israel is around twice that of workers in the West Bank. - Only half the working age population in the West Bank has a job. - Governance indicators (2016 Worldwide Governance Indicators): - “Control of corruption” score: -0.15 - “Rule of law” score: -0.31 - Both scores are marginally better than Emerging Markets and Developing Economies averages of -0.3 and -0.5, respectively. ### Issues and policy options - Significant structural constraints and policy limitations prevent WBG from fully exploiting competitive advantages (low wages, young and well-educated workforce, relatively easy access to banking, geographic proximity to large markets). - Many key policy levers are wholly or partly in the hands of Israel as set out in post-Oslo documentation. - Specific policy levers: - Monetary policy: not a policy option for WBG authorities; Bank of Israel monetary policy is geared to the Israeli economy, for which the shekel does not appear overvalued. - Fiscal policy: WBG authorities have significant control but limited scope. Controlling the large fiscal deficit would help the external position, but adjustment must be gradual and limited to minimize harm to growth and address emergency needs in Gaza. - Lack of progress on reducing ‘fiscal leakages’ from clearance revenues and prospective CR withholding by Israel constrain PA’s fiscal adjustment options. - More active Israeli support on resolving “fiscal files” could improve PA revenue significantly and sustainably. - Structural reforms: WBG authorities can advance reforms (infrastructure quality and price, business environment improvements, other structural reforms) but Israel retains formal control over key structural policy levers (market access for goods and services, electricity and water provision). - Table IV.3 highlights key limits under the Oslo Process Agreements, including: - Monetary and financial policy limits (Palestinian currency introduction requires agreement with Israel; minimum liquidity requirements on NIS deposits tied to Israel; limits on converting NIS held by PMA into FX and vice versa). - Fiscal policy limits (Israel administers clearance revenues and deducts a 3 percent handling fee; WBG VAT rates tied to Israeli VAT rates). - Trade and structural policy limits (Israel administers border transactions; limits on imported and exported goods per A1/A2/B lists; West Bank Areas A/B/C division; Committee for co-operation covering water, electricity, energy, finance, transport, trade, labor and social welfare issues). ### IMF technical assistance (2013–18) — priorities and areas - TA focused on public financial management, revenue administration, banking supervision, and national accounts. - Medium-term priorities: public financial management, tax policy and revenue administration, and banking supervision and stability. - Need to periodically review and enhance statistical capacity, especially GFSM 2001, the external sector, and national accounts (expenditures side). - IMF FAD and MCM expected to continue providing TA, supported by METAC, dependent on authorities’ commitment and progress. - Examples of TA activities and dates (selection from 2013–2018): - Public Financial Management: Jan. 22–31, 2013; Jun. 25–Jul. 8, 2013; Nov. 24–Dec. 5, 2013; Jan. 8–21, 2014; Nov. 9–20, 2014; etc. - Monetary and Financial Systems: Jan. 13–17, 2013; Mar. 31–Apr. 11, 2013; Jun. 30–Jul. 10, 2013; Nov. 3–14, 2013; Nov. 16–26, 2013; May 25–29, 2014; etc. - Statistics: Jan. 27–31, 2013; May 18–29, 2014; May 21–June 3, 2014; Dec. 7–18, 2014; Feb. 1–12, 2015; Feb. 22–26, 2015; April 17–24, 2016; etc. - Noted technical progress: modernization of PFM, adoption of Public Financial Management Strategy 2017–22, creation of a single Taxpayer Identification Number, operationalization of the Large Taxpayer Unit, establishment of a credit registry, periodic bank stress testing, deposit insurance scheme, contingency crisis management planning, and steps to strengthen AML/CFT framework. *Prepared by Jean van Houtte (MCD), with Mohammed Saleh (SPR). IMF staff assessments and data as presented in the source document.* ### Annex VI. Statistical Issues ### Annex VI. Statistical Issues ### I. Assessment of Data Adequacy - Overall assessment - Data provision in the West Bank and Gaza (WBG) has some shortcomings, but it is broadly adequate for economic analysis and policymaking. - Priority areas for improvement: statistics on government finance and the external sector. - Government finance: comprehensive and timely reporting of liabilities is an important issue. - External sector: main issues involve inconsistencies between BOP and IIP data. - National Accounts - The Palestinian Central Bureau of Statistics (PCBS) compiles and disseminates annual and quarterly GDP estimates. - Annual estimates of changes in inventories, although based on source data, lack credibility. - Quarterly GDP: - Mainly based on volume indicators, including an index of industrial production, and quarterly labor force statistics. - Quarterly GDP by production, available since 2000, is calculated only at constant prices. - Expenditure components, available since 2011, are calculated at current and constant prices. - Proper quarterly indicators for several components of GDP by expenditure are lacking; changes in inventories are derived as residual. - Revisions and improvements expected with new source data and methods: - PCBS has rebased the annual and quarterly GDP from 2004 to 2015, but the estimates require improvements. - Revisions expected in the near term with availability of new source data, including the 2016/17 Palestinian Expenditure and Consumption Survey (PECS) and the 2017 establishment census. - Adoption of improved compilation methods (including chain-linked volume measures) and calculation of quarterly GDP by production at current prices are planned. - IMF technical assistance supports PCBS in improving annual and quarterly national accounts. - Price Statistics - Consumer Price Index (CPI): - PCBS has compiled and disseminated a CPI for WBG since January 1996. - In January 2014, the weights and index reference period were updated to 2010 using expenditure weights compiled from the 2010 PECS. - PCBS plans to publish a rebased CPI during 2018 based on the 2016/2017 PECS, following completion of field work undertaken with support from the World Bank. - Need to improve CPI compilation methods: regularly updating the weights, fully implementing the Jevons formula at the lower level, treatment of seasonal items, insurance weights, quality adjustments, and inclusion of housing rent expenditures. - Producer Price Index (PPI): - PCBS has disseminated a PPI since 1997. - Current weights are based on data collected in 2013. - An updated PPI was released in January 2016 with the base period as December 2015. - Weights are updated every 5 years. - Government Finance Statistics - Data compiled by the Ministry of Finance and Planning’s (MoFP) Financial Reporting Department are broadly aligned with the recommendations of the GFSM 2001/2014. - General government sector comprised of the budgetary central government, the social security fund, and some local government units. - Latest annual data reported to the IMF Statistics Department (STA), with reference to 2015, excluded the social security subsector. - Reported data lack information on stock positions in financial assets and liabilities. - Areas needing attention: - Reconcile the stocks and flows of arrears. - Develop an accurate record of gross and net public debt. - Produce real-time detailed debt statements. - Quarterly and monthly series are disseminated by the authorities (http://www.pmof.ps/en/web/guest/43). - Provision of institutional, transaction, and balance sheet information needs enhancement to fully meet reporting requirements outlined in Government Finance Statistics to Strengthen Fiscal Analysis (February 2010) and the related Board decision on the use of the GFS analytical framework for fiscal analysis. - Monetary and Financial Statistics - The Palestine Monetary Authority (PMA) compiles and reports to STA monthly monetary data for the central bank, other depository corporations (ODCs), and other financial corporations (OFCs) using the standardized report forms (SRFs). - SRFs data for OFCs are on a quarterly basis and include insurance companies only. - Monetary data for WBG based on the SRFs are in broad conformity with the recommendations of the Monetary and Financial Statistics Compilation Guide (MFSMCG), except: - Source data for ODCs do not provide complete breakdowns by counterpart sector. - Consequences noted in metadata (country notes): - Claims on public nonfinancial corporations include some claims on OFCs and extra-budgetary central government units. - Claims on the private sector include some claims on OFCs. - Deposits included in broad money include some deposits of extra-budgetary central government units. - Financial Soundness Indicators (FSIs) - Following assistance from STA, the PMA reports quarterly FSIs to the Fund, which are published on the IMF’s FSI website. - Reported FSIs comprise: - 11 core FSIs, - 6 encouraged FSIs for deposit takers (with some delay), - 2 encouraged FSIs for other financial corporations (OFCs), - 3 encouraged FSIs for non-financial corporations (NFCs), - 2 encouraged FSIs for real estate markets. - External Sector Statistics (ESS) - WBG reports quarterly balance of payments (BOP) and international investment position (IIP) in the format of BPM6. - Inconsistencies between IIP and BOP due to gaps in coverage, misclassifications in both datasets, and inconsistencies in methodologies employed by PMA and PCBS for recording related activities. - July 2018 BOP statistics mission suggested revisions to improve ESS consistency, including: - Adding the stock of currency in circulation to currency and deposits (assets). - Revising non-financial sector stock data in the IIP and CPIS to ensure consistent recording. - Including accumulated reinvested earnings in the IIP. - Revised data are expected to be sent to IMF as well. - Additional reporting and participation: - WBG provides monthly International Reserves and Foreign Currency Liquidity data to STA (as prescribed by the SDDS). - WBG participates in the Coordinated Direct Investment Survey (CDIS) with annual data for the period 2010–16. - WBG participates in the Coordinated Portfolio Investment Survey (CPIS) with semiannual data from December 2017; however, CPIS data are currently not fully consistent with the IIP. - Revised estimates would ensure consistency of these statistics. ### II. Data Standards and Quality - West Bank and Gaza has been an SDDS subscriber since April 2012. - No data ROSC has taken place in West Bank and Gaza. *Prepared by the IMF’s Statistics Department, with inputs from the Middle East and Central Asia Department. (As of August 15, 2018)* --- _Source: https://www.imf.org/-/media/files/publications/cr/2018/wbg091718.pdf_