The Effects of the War on the Israeli Economy And Necessary Policy Measures

On October 7, 2023, Israel was subjected to a murderous terror attack, perpetrated by thousands of terrorists belonging to the Hamas organization which rules the Gaza Strip. In response, Israel went to war with the aim of returning those kidnapped by Hamas and destroying its offensive capabilities. The aftermath of the massacre and the destruction caused by the attack, alongside the ongoing war, have a significant economic impact on the Israeli economy; it involves a widescale deployment of military reserves which encompasses some 250,000 reservists, the evacuation of around 200,000 residents from communities in the Gaza Envelope area and along the northern border, restrictions imposed by the Homefront Command and disruptions in the school system, a general decline in personal safety, and decreased consumption of goods and services. At the same time, expenditure has risen significantly due to the defense expenses required to maintain the war effort; the payment of compensation for property damages; the allocation of civilian emergency budgets including financial relief for evacuees and additional funds for the healthcare, education, and welfare systems; financial support for businesses and for furloughed employees; and the reconstruction of communities destroyed by the attack.

This paper aims to present an economic analysis of the effects of the war on the Israeli economy, and to propose economic policies which are currently necessary. Any economic estimate of the economic effects of the war is subject to great uncertainty, as it is not clear how the war will further develop in terms of intensity, duration, and outcomes, and whether it will expand to additional fronts. To estimate the impact of the war on the national economy, we assume two scenarios: a reference scenario and an extreme scenario. These scenarios were devised by a team of researchers in Mind Israel Ltd., headed by Amos Yadlin and Giora Eiland. Based on a scenario which assumes fighting in the Gaza front along with targeted military activity along the northern border and in the West Bank – as we have seen unfolding in recent weeks – the forecast made by Aaron Institute predicts that GDP growth in 2023 will be 1.5%, significantly lower than the forecast issued by the Bank of Israel (BoI) on the eve of the war, which was 3.0%, and lower still than the growth of the Israeli economy between 2017 and 2022, which had been 4.2%. As for 2024, our forecast is that the economy will grow at a rate of just 0-1 percent, meaning a decrease of around 1%-2% in GDP per capita. In a scenario which assumes escalating warfare on the northern border in the first quarter of 2024, Aaron Institute’s forecast predicts a GDP growth of minus 2% in 2024. This scenario depicts a northern campaign lasting around a month, which would include a widespread offensive by the IDF against Hezbollah, followed by massive rocket fire on Israel’s northern communities.

Given the ongoing fighting, and the uncertainty surrounding it and its possible outcomes, the government’s responsibility is to reduce the damage to the economy and to support its readiness to resume full economic activity once the war ends. The economic strength of the national economy is essential to maintaining Israel’s independence and national security. We propose several policy measures for immediate implementation, primarily improving the government’s executive capabilities, establishing an economic inner cabinet, and designing a new state budget for 2024 which would be adapted to the new economic reality. Carrying out a responsible fiscal policy is imperative to maintain the trust of financial markets, credit rating agencies and high-tech investors in the economic robustness of the Israeli economy.