41040 In This Issue 1. Editorial: Solidarity and Hope /3 2. The World Bank's Country Economic Memorandum /4 3. Avian Influenza: A challenging Threat in West Bank and Gaza /7 4. Recent Economic Developments /10 5. Fiscal Developments in 2006 /21 6. The World Bank's Operations 7. The World Bank Investment Climate Assessment /32 8. Private Sector Development and Trade Group /33 9. The Public Expenditure Review ­ "From Crisis to Fiscal Independence" /34 A Quarterly Publication of the West Bank and Gaza Office 10. An Interview with a World Bank Managing Director /35 September 2006 Contact Numbers West Bank Office Numbers: Switchboard 02-2366500 Fax: 02-2366543 Country Director Legal Reform External Affairs A. David Craig Paul Prettitore Saida Hamad Tel. 02-2366506 02-2366534 Tel. 02-2366504 Deputy to Country Director Water and Energy Public Information Faris Hadad-Zervos Khairy Al-Jamal Mary Koussa Tel. 02-2366549 08-2823422 Tel. 02-2366529 Education Infrastructure Development Adriana Jaramillo Ibrahim Dajani 02-2366514 Tel. 02-2366553 Health Financial Management Imad Dweik Siaka Bakayoko 02-2366501 Tel. 02-2366541 Gaza Office: International Finance Corporation Coordinator Country Officer Husam Abu Dagga Youssef Habesch Tel. 08-2823422/2824746 Tel. 02-2366517 Fax: 08­2824296 Fax: 02-2366521 Free Subscription: mkoussa@worldbank.org Newsletter at Internet: http://www.worldbank.org/ps Cover Photo: Dave Mckee 3 Editorial: Solidarity and Hope help tackle a possible outbreak of Avian Influenza when migrating birds pass through Palestine again in the fall. We will finance urgent equipment and materials to ensure that the Palestinians authorities are ready to contain the outbreak and provide compensation to poultry farmers. We have also reinstated one of our previous projects that We are now facing a severe economic crisis in Gaza and has offered a critical lifeline for the health, education and the West Bank -- one that risks reversing the combined social service sectors since 2002. Thanks to the support efforts of the past thirteen years towards a sustainable of the European Commission, Austria, UK and Spain and economy. In fact, a recent World Bank study predicts that, other donors, we are managing an Emergency Services if the current situation continues throughout 2006, this may Support Multi-Donor Trust Fund (ESSP) that is now be the worst year in the Palestinian economic history. The financing urgent supplies and running costs in schools, average Palestinian's personal income will fall by 40%, hospitals, primary health clinics and shelters. These and 67% of the population will fall into poverty. include emergency drugs and vaccines, school supplies, utility bills for schools and hospitals, and operating costs Since 1994 and still today in the midst of the current crisis, for shelters, among many other expenses. the World Bank remains on the ground, working with our partners in the Palestinian and donor community to These projects are just one part of the overall partnership implement nine ongoing projects worth almost USD 100 that the World Bank, the donors and the Palestinians million -- bringing our total assistance over the years to 34 have embarked on over the years. The overall goal must projects worth about $500 million. Current projects include remain that of a strong and sustainable economy, where grants for Water and Sewage Treatment in Gaza, Solid Palestinians are free to exploit their immense talent for Waste Management in Jenin, Electricity Sector Investment, private business and trade, with the support of their Social Safety Nets and Tertiary Education, among others. own public and private institutions. Despite the recent We regard these projects as vital to improving the living setbacks, a great deal has been achieved since 1994. And conditions of the population the World Bank Group will remain a committed partner as this journey continues. Our mission remains clear. In a recent international forum, the President of the World Bank reiterated the institution's A. David Craig goal "to continue implementing all [...] projects and that it will do so with its Palestinian counterparts." Our main objective, he added, is that "Palestinians would not suffer from a lack of social services, particularly in the health and social sectors." In addition to our nine active projects, we have been working with our Palestinian counterparts and the UN on an Avian Flu Project. This project will provide grants to September 2006 4 The World Bank's Country Economic Memorandum for the West Bank and Gaza In June 2006, the World Bank issued a Country Economic Memorandum (CEM) on the Palestinian Economy. The CEM consists of a detailed analysis of the status, prospects and challenges of the Palestinian Economy, and presents recommendations to address these issues. The World Bank prepares CEMs for all of its member countries and territories. These documents are used a key tools by World Bank staff, donors and Government Policy makers. authorities. Second, while fiscal policy is typically used to tide over "periodic" fluctuations in the economy, this tool Summary has been exhausted- most public spending goes to the expanding public employment and wage bill, and the PA More than five years after the outbreak of the second has become the "financier of last resort" to cover unmet Intifada, the West Bank and Gaza (WBG) remains mired in obligations of Palestinian utilities and public institutions. an economic crisis. Israeli military and security measures As a result, public spending is around 50 percent of GDP. have imposed major costs on the WBG economy, Third, while exchange rates provide an effective way to undercutting its current and future development prospects. deal with shocks in the economy, this tool is also not The closure regime--i.e. the system of restrictions on the available--the WBG is in a currency union with Israel and movement of goods and people both within the WBG monetary policy is beyond the PA's authority. and through Israel to the rest of the world--along with the construction of the separation barrier have fragmented In the medium term, the WBG economy faces many the Palestinian economy and reduced its potential. Recent challenges. First, the labor link with the Israeli economy decisions by the Government of Israel to suspend the has not generated sustainable gains due to the absence of transfer of clearance revenues collected on behalf of the movements of `capital' to the WBG, but has raised domestic Palestinian Authority (PA), and by donors to cease budget wages above a healthy level. As a result, the WBG economy support, have led to a fiscal crisis that may undermine faces high production costs and low productivity, which public institutions and send the already fragile economic severely undercuts its competitiveness. recovery of 2003-2005 into a tailspin. Second, the political insecurity and uncertainties have The current situation presents the WBG with two prevented the WBG economy from tapping into financial challenges; one short term and one medium-to-long term. resources and investments from neighbouring countries In the short run the key problem is that WBG has few, and from Palestinians living abroad. The investment if any, policy tools to deal with the volatility and low environment is perceived as being too uncertain, too level of economic activity; and the current fiscal crisis can lacking in infrastructure and not sufficiently attractive. easily bring down the machinery of government, undoing Third, the recent conflict in Gaza and parts of the West almost all of the post-Oslo institutional gains. Bank does not fare well for the WBG's economic future. In First, the number of Palestinian workers in Israel has fact, the combination of internal instabilities and funding declined substantially in response to closures and problems has threatened the PA's capacity to govern. It the reduction in work permits issued by the Israeli also threatens to undo any progress so far on institutional reform. 5 Particularly damaging to Palestinian businesses is Israel's Last but not least, the fiscal crisis has forced the PA to control over their access to Israeli and other external spend on `pro-social stability' rather than `pro-growth' markets. International evidence suggests that economic areas. This has led to a worsening business climate and welfare of small countries goes hand in hand with a reduced investments--placing more obstacles to fiscal country's involvement in the global economy. Palestinian adjustment. recovery and medium term productivity growth critically depends on establishing stable and reliable foreign trading Therefore, the key challenges and priorities facing the relations. The closures regime makes it extremely difficult, Palestinian economy include: if not impossible, to achieve this. · Theneedtoshiftfrom`interindustry'to`intraindustry' trade, requiring a more sophisticated division of labor based on a narrower industrial specialization of Palestinian firms. Providing specialized inputs into the global economy and its `supply chains' The CEM'S Main Findings and requires short and predictable delivery schedules Recommendations which are difficult under the current closure regime. So far, Palestinian firms have focused Economic growth over the last fifteen years has been exclusively on supply chains in Israel--the main dismal, with the high population growth outstripping destination for their exports. Moving forward, the real GDP growth during most of this period. Looking these firms have to establish direct commercial forward, economic prospects remain grim, and highly contacts with global retailers. Benefits from a direct dependent on political outcomes. Unfortunately, there relationship can be significant, as global retailers are signs of a reversal of economic gains realized in the often provide assistance in organizing production second half of the 1990s, eroding the WBG's capacity and management systems that can improve the to generate economic growth even if the Israeli closure productivity and competitiveness of Palestinian regime is loosened. firms. First, as the economy has become more inward-oriented, · The need for foreign and domestic investment in its industrial capacities have been depleted. Consumption more sophisticated manufacturing. This relies on rather than exports has been the key source of growth of the ability to import inputs. However, the need for the economy. At the same time, the export of labor has Palestinian firms to maintain large inventories of declined with workers' remittances from Israel steadily imported inputs to ensure smooth production makes declining. The export of labor has historically crowded it non-competitive. For instance, firms operating out the export of goods. Together with the considerable in the wood furniture industry now export and donor fund inflows over the years, this delayed Palestinian import only a few times a year, which leads to high industrialization by driving up the cost of labor and inventories of both inputs and final products. nontradables. · Competing on a level playing field. Whereas their Second, the economic recovery in 2003-05 revealed some location within the existing "customs envelope" structural weaknesses in the economy. The construction with Israel might imply that Palestinian firms can and agriculture sectors, along with public administration, compete with their Israeli counterparts in domestic have emerged as key sources of growth in the economy. and international markets, the security regime puts Although manufacturing has also contributed to recovery, Israeli and other firms in a far more advantageous its share of GDP increased modestly and remained below positosition. Moreover, local firms remain small and its level in 1995, with competitiveness of the sector use outdated technologies, whereas Israeli firms deteriorating throughout the decade. operate in larger markets, have access to modern technology and expertise, and therefore tend to Thirdly, changes in the types of exports and imports have significant cost and productivity advantages reveal a progressive deindustrialization of the Palestinian economy, as both of them have moved to goods at lower over WBG firms. levels of the technology ladder. Furthermore, many · Expansion of existing firms through tapping businesses have lost external markets due to uncertainty economies of scale. Without easy access to external of their deliveries and growing transport costs due to the markets, firms operating in small markets cannot closure regime. grow, as is the case in WBG economy, where most September 2006 6 firms are small, family-owned businesses. and airport, a key priority may be to enable the Rafah Crossing to be used for exports through Egypt. This While prospects for growth are few in the absence of a would require agreements with the Egyptian government relaxed closure regime, the critical next steps are primarily for a transit regime from Rafah to East Port-Said port or related to the political situation. Implementation of the Al-Arish. November Agreement on Movement and Access is a key first step, combined with a rethinking of the balance On its side, the Palestinian Authority must continue its between security and trade facilitation of border crossing reforms in areas critical to the quality of governance facilities. and the business climate. Considering that Palestinian businesses already bear much higher trading costs than So would be the implementation of the Paris Protocol their Israeli counterparts and other competitors, every governing the customs and trade regime with Israel. This measure should be taken to lower the cost of doing is essential for the Palestinian economy, despite some business. The PA should take further steps to enhance weaknesses in the Israeli structure of tariff protection its laws and regulations, improve its dispute resolution (e.g., high levels of protection of agriculture driving up mechanisms and its judicial system. their prices). Lastly, the PA and donors should shift their focus to Other key measures are also inexorably linked to the the transfer of technology to Palestinian firms--defined political situation. The Gaza Strip, for instance, is a broadly to include new ideas, equipment, management landlocked economy politically, but not geographically. practices, marketing strategies, and the like--from other Leaving aside the contentious issue of opening its seaport countries. Ultimately, the competitiveness of Palestinian firms relies on their ability to acquire, adapt, and efficiently use new capital equipment and new ideas. 7 Fighting Avian Influenza: A challenging Threat in West Bank and Gaza The volatile political and security situation in West Bank and Gaza continue to block conditions for economic revival. Under these conditions, the agricultural sector in large, and poultry production in particular, offer more secure sources of income and nutrition for Palestinians. Many families, especially the poor, depend on poultry as their most main source of protein. Almost 88% of the total animal protein intake for Gazans is derived from poultry. According to the World Food Programme (WFP), the lack of affordable alternative protein sources can have potentially severe nutritional implications, particularly on children. An outbreak of Avian Influenza (AI) in Gaza, with its associated economic, social and environmental risks, is likely to compound an already fragile situation. Despite a willingness to cooperate between the Israeli and Palestinian veterinary authorities, extremely strict safety A Challenging AI Agenda procedures on the Israeli side render adequate testing and confirmation very difficult for Palestinians to undertake. From the viewpoint of AI risk management and control among poultry, the West Bank and Gaza need to be dealt with as two distinct areas in terms of geography, logistics and the risk profiles for each. The Initial Outbreak: What Next? The West Bank is situated in the zone of major bird Since the first outbreak in Gaza at the end of March 2006, migration routes, positioning certain areas at high risk for eight cases have been confirmed in chicken holdings virus introductions. No outbreaks have been reported so and among ducks, with additional unconfirmed clinical far. Yet, one case was reported by the Israeli authorities cases. Culling was performed on 400,000 farm birds. in an area located very close to the border, and another FAO experts confirmed that administration and culling one in an Israeli settlement on the West Bank. Within the procedures and disposal of carcasses were completed surveillance zone, the PA may not always have the full according to international standards, despite difficulties authority nor the financial means to operate effectively. imposed by the current situation. As a consequence, full compliance with the World Nevertheless, any new outbreak, of a major magnitude Organization for Animal Health (OIE) rules might not be in the near future, particularly in Gaza, could lead to possible. Some culling has been done, but could not be a humanitarian disaster. At direct risk will be people fully completed. Clinical surveillance on the West Bank involved in backyard farming, followed by children who was conducted to a considerable extent with small-scale will suffer the nutritional consequences of the lack of antigen testing carried out using services offered by the dietary protein. Kimron Veterinary Institute in Israel. The authorities in Gaza have recently put in place, in In Gaza, the threat of virus introductions from wild birds cooperation with the local medical laboratory, a temporary is also significant. The borders of the area are almost mechanism to protect against a possible human outbreak. completely inaccessible to any direct contact by people, Additional aid, however, is urgently needed for training animals or materials, but poultry farms in Israel are very and to ensure an adequate supply of test kits and nearby. Clinical surveillance has been conducted to some expendables. extent but no laboratory testing could be carried out. September 2006 8 As a follow up and before restocking of farms can start, an AI control policy among animals needs to be clearly defined. Among its key features, the policy should Challenges to a Sustainable address vaccination, taking into account the capacity AI Response in West Bank and of veterinarian institutions to guarantee vaccination and reduce virus spread among chickens, and hence reduce Gaza possible transmission to humans. Providing an effective response to an Avian Influenza Clearly, the capacity of the PA to address the AI threat outbreak under these circumstances is, and will continue is seriously constrained due to, largely, the international to be, a major challenge. Ensuring speed, flexibility and response to the transition in government. Despite the close coordination in intervention is critical. situation, coordination on the AI agenda between the Palestinian ministries of Health and Agriculture (MoH, The Ministry of Agriculture (MOA) does not yet have MoA) and relevant regional and international organizations the adequate capacity to contain the spread of an Avian has been remarkably efficient. MoH is taking the lead Influenza outbreak throughout the WBG areas. This is -given its relatively more developed infrastructure and mainly due to shortages in human and financial resources capacity of public health institutions- while MoA as well to implement activities of such magnitude. While the as veterinary institutions are responsible for the main institutional capacity of the Ministry of Health ­ as part operations on the ground. of an effective Avian Influenza response- is somewhat better, the current fiscal crisis has taken its toll. The AI National Committee -headed by the MoH- is currently playing a leading role in coordinating national Successful containment of the outbreak relies primarily on and international efforts to combat AI. The Committee the massive culling of poultry. During the initial outbreak, also coordinates the development and communication culling was successfully completed. Nevertheless, the PA of policies, assessment reports, protocols and guidelines, suffered a partial loss of credibility due its initial inability as well as follow-up measures to carry out the National to fully compensate farmers for their economic losses. Plan. Brochures and telephone hotlines have been set up Much of the farmers' trust has been restored as a result of to respond to public and animal health inquiries, yet a a recent initiative­financed by the Russian Government- stronger public awareness and communications campaign that supported the PA to complete compensation payments is required. of US$1.7 million to poultry producers. In addition, a UN interagency plan was prepared by UNDP -in cooperation with other UN Agencies such as FAO, WHO, UNICEF, WFP, among others. The plan is based on a comprehensive approach that addresses food security, public and veterinary health control, risk management, and finally restructuring of the poultry sector. Within the context of an internationally-supported response, several organizations undertook assessments to identify areas in need of support. These included a Rapid Expert Mission by WHO and a FAO mission to address veterinary health aspects. The Islamic Development Bank (IDB) financed the purchase of equipment for the MOA veterinary labs. Cash compensation was provided by the Russian Government. FAO and WHO have also been using their own funds to assist the PA in carrying out capacity building activities, staff training, and the provision of specialized technical advice. The World Bank conducted a Rapid Assessment based on extensive consultations with several UN agencies (including WHO, FAO, UNRWA and UNDP) in order to 9 consolidate efforts. As an output, the UN Interagency Framework for Avian Influenza and Pandemic Response was developed; yet with modest funds to implement it. The UN Interagency Framework for Avian and Pandemic Response includes a budget of around US$30 million. Within this framework, the World Bank will provide a grant of US$10 million which will be implemented through the Palestinian line ministries in cooperation with the Avian Influenza National Committee. In addition, the Bank will provide US$3 million from its Avian and Human Influenza Facility Trust Fund to address emergency needs. The latter will be implemented directly through the UN system. The World Bank resources will be used to limit the spread of AI to humans through better preparedness, control, and response. The resources are also intended to partially contribute to farmers' compensations. Beyond the Bank's funding, medium and long term investments are needed to restructure the poultry sector and the supply chain of poultry products. Building cold stores and cold chains offer a sustainable tool for a better level of food security, food safety and self support in the West Bank and Gaza strip. Long Term Challenges to the Poultry Sector International experience highlights the need to focus, on the long term, on the rehabilitation of the Palestinian poultry sector. For example, FAO experts recommend that the Palestinian Authority and donors work together to facilitate the creation of the Guarantee or Collateral Fund needed to kick-start microfinance schemes. In addition, technical assistance in quality management needs to be addressed within the scope of microfinance lending schemes. The establishment of farmers' associations and the creation of an Agricultural Marketing Company offer opportunities for trade partnerships between Israeli and Palestinian agricultural industries, and for secure marketing through Israel. There is clearly an urgent need for resources to support the PA's efforts in financing and managing a comprehensive and long-term national surveillance, culling, and compensation program. The regional impact of a possible spread of Avian Influenza may not be fully overcome by the initial UN Interagency Framework. This calls for more regional cooperation in addressing this public health and economic threat. Photos: Avian Flu Control Committee, Gaza Governorate September 2006 10 Recent Economic Developments Table 1. Macroeconomic Projections 2005-2008 Economic Output 2005 2006 2007 2008 Recent economic data from a variety of sources (Palestinian GDP (US$ million) 4,044 2,910 2,835 2,851 imports from and exports to Israel through the first quarter real growth rate 6.3% -24.5% -4.3% -1.0% of 2006; Palestinian employment data through the first quarter of 2006; banking sector data through end-May; GDP per capita (US$) 1,152 802 754 735 fiscal data through end-April; price data through June real growth rate 2.7% -27.1% -7.4% -4.2% 2006) suggest that the economic slowdown that began in the second half of 2005 continues. GDI per capita (US$) 1,657 1,199 1,089 1,020 Looking forward, continued restrictions on movement real growth rate 4.3% -30.0% -10.8% -8.3% between Gaza and the West Bank and, in particular, on goods both to and from Gaza through Israel, suspensions Unemployment Rate 23% 40% 44% 47% in the transfer of clearance revenues (import tariffs Poverty Rate 44% 67% 72% 74% and VAT collected by Israeli customs on behalf of the Palestinian Authority) by the Government of Israel and World Bank staff projections, March 2006. Gross Domestic Product reductions in donor assistance to the Palestinian Authority, (GDP) measures productive activity within West Bank and Gaza; as well as likely reductions in the number of Palestinian Gross Disposable Income (GDI) measures total income, including workers granted work permits for work inside Israel all workers' remittances, foreign aid, and other current transfers. point to a further decline. As a consequence, economic performance in 2006 is expected to fall at rates similar to those witnessed during the early years of the Intifada, particularly in the Gaza Strip. In March 2006, World Bank staff undertook an analysis of the potential macroeconomic impact of a number of measures then under active consideration (and now being implemented) by Israel and the donor community. Under this scenario, real GDP per capita declines by 27 percent in 2006 and personal incomes (real GDI per capita) by 30 percent ­ a one-year contraction of economic activity equivalent to a deep depression. Further declines 1 in the next two years bring unemployment to 47 percent For further information regarding this scenario and its underlying assumptions, see "Economic Update and Potential Outlook", World Bank, and poverty to 74 percent by 2008. By 2008 the cumulative March 15, 2006 and West Bank and Gaza Update, April 2006. Unfortunately, decline in real GDP since 1999 would reach 55 percent this estimated decline may, in fact, turn out to be too optimistic given the extent of Israeli military operations in Gaza and the impact of the PA's (Table 1).1 inability to pay salaries of government workers; as data from the second quarter becomes available, the World Bank's projections will be revised. 11 Foreign Trade The importance of trade in promoting economic growth has been demonstrated time and time again, particularly for small, developing countries. For West Bank/Gaza, international trade is already important and is destined to play an ever increasing role in the future. During the past six years, imports of final goods, services, equipment, and intermediate inputs used in domestic production represented approximately 70 percent of GDP, while exports of goods and services represented between 15 and 20 percent of GDP. Such a large degree of openness is not without risk, however, leaving West Bank/Gaza vulnerable to external closures by Israel under the current Source: Israeli Central Bureau of Statistics. security environment ­ thereby cutting off a vital lifeline to the outside world. Unfortunately for statistical analysis, trade is badly Trends in merchandise exports to Israel have followed registered since most of it takes place between the a somewhat similar trend, although at much lower levels. West Bank and Israel where no custom stations exist Averaging approximately NIS 325 million (US$80 million to record the quantity and value of goods that cross equivalent) in pre-Intifada 2000, exports decline steadily (unlike trade between Gaza and Israel which can be through summer 2002 before rebounding in the second half counted). Nevertheless, the Israeli Central Bureau of of that year and in 2003 ­ only to hit their low point in Statistics estimates such flows, and we rely on their data the fourth quarter 2003 at NIS 207 million (US$47 million). to help understand the evolution of trade since 1998. As with imports, 2004 saw very strong growth ­ over 40 Although ICBS estimates only cover Palestinian trade percent compared to 2003. Peaking in second quarter 2005 with Israel and not directly with the rest of the world, at NIS 374 million (US$85 million), three continued quarters trade with Israel represents the bulk of total Palestinian of decline has brought the export level to NIS 291 million trade.2 Furthermore, significant shares of imported goods (US$62 million) in first quarter 2006 ­ a drop of 22 percent from Israel are actually originating from third countries (27 percent in US dollars) over nine months. (Figure 2). ­ "indirect imports". The impact of closures that followed the outbreak of the Intifada in September 2000, and their progressive tightening through summer 2002, was clearly reflected in the reduction of Palestinian trade with Israel. Merchandise imports, which had reached their peak in third quarter 2000 at NIS 1.9 billion (US$478 million equivalent), fell below the NIS 1 billion level (US$201 million) in second quarter 2002. From that point on, import growth was consistently steady, reaching NIS 2.4 billion (US$545 million) in second quarter 2005. From that point on, however, the value has declined to stand at NIS 2.1 billion (US$456 million) in first quarter 2006 ­ an 11 percent decline in shekels (16 percent in US dollars) ­ evidence of weakened demand (Figure 1). 2In 2002, exports from West Bank/Gaza to Israel represented 90 percent of total exports, while imports from or via Israel amounted to 98 percent of total Palestinian imports. (Approximately 55 percent of these imports were of Israeli goods, with the rest coming from third countries.) Source: Israeli Central Bureau of Statistics September 2006 12 At least three factors explained the reduction in exports US$321 million. In first quarter 2006, US$105 million witnessed during the first three years of the Intifada: ­ a decline of 67 percent (see Figure 3) ­ was remitted. increased costs in transportation resulting from internal The considerable decline during the second half of 2005 closure made Palestinian products less competitive completely erased the growth in remittances seen in the (see Figure 14); in the face of production and shipping first two quarters: second quarter 2005 remittances were interruptions due to both internal and external closure, US$113 million (their highest level in four years); the foreign purchasers switched to more reliable, alternative increase in first quarter 2006 is somewhat surprising and sources of supply; and Palestinian producers switching to merits closer attention as more data becomes available. service domestic markets. Although the closure regime remained in place in 2004, its administration by then had become far more predictable ­ a key factor in the economic recovery of these years. Since then, closures again tightened. Looking forward, the degree of external access permitted by the Israeli authorities ­ particularly out of Gaza ­ will determine whether the fall in Palestinian exports witnessed in the second half of 2005 and first quarter 2006 will continue or if export growth rates can be reversed and then sustained. Employment and Unemployment As a result of external closures nearly 100,000 Palestinian workers have lost their jobs in Israel since September Source: Israeli Central Bureau of Statistics. 2000. According to Palestinian Central Bureau of Statistics (PCBS) data, 146,000 Palestinians (116,000 from the The decrease from pre-Intafada levels has had West Bank, incl. East Jerusalem, and 30,000 from Gaza) considerable direct consequence on the income of were working in Israel and Israeli industrial estates and Palestinian households; workers' remittances from Israel settlements during the third quarter 2000. At its low point represented some 18 percent of total disposable incomes during the second quarter of 2002, this number had fallen in 1999. Reduced income, in turn, meant reduced to 33,000 before rebounding in the following quarter to demand for domestic goods, and therefore lower levels of 53,000; since then, the number of Palestinian workers in domestic employment within the West Bank and Gaza. Israel and settlements has been relatively stable, increasing This negative impact that job losses in Israel has had on (or decreasing) with the extent of closure imposed in the domestic employment was aggravated by the difficulties wake of specific terror incidents. In second quarter 2005 in conducting business within the West Bank and Gaza as their number peaked at 67,000; by first quarter 2006 it had a result of internal closures and curfews, particularly in fallen to 60,700 (virtually all from the West Bank including East Jerusalem) (Table 2).3 2002, which resulted in significant increases in transaction costs, disruptions in production cycles, losses of perishable Fewer jobs in Israel have meant a significant decline output, and lower economies of scale. in workers remittances. According to the Israeli Central At its low point in third quarter 2002 domestic employment Bureau of Statistics, third quarter 2000 remittances totaled stood at 387,300 ­ a drop of 25 percent from pre-Intifada third quarter 2000. By second quarter 2003 domestic employment had recovered to the extent that the number of Palestinians employed within the West Bank and 3Of these 60,700 nearly half held an Israeli-ID or foreign passport; the World Bank estimates that 85 percent of Israeli-ID holders reside in East Gaza surpassed the levels prior to the Intifada. At the Jerusalem. The balance in the number of workers in Israel from the West Bank excluding East Jerusalem are believed to be divided roughly equally same time, however, the number of unemployed grew between those holding work permits (estimated at 15,700 in first quarter considerably, from 73,600 in the pre-Intifada third quarter 2006) and those working illegally ("clandestine" workers, estimated at 14,500). 2000 to 210,300 currently (see Table 2). 13 In first quarter 2006 the number of Palestinians working Because a large number of persons without employment inside the West Bank was 392,100 compared to 357,500 have stopped looking for jobs (so-called "discouraged just before the Intifada, an increase of 9.7 percent. At its workers"), they are not considered part of the labor force low point in second and third quarter 2002, their number and not included in ILO-standard definition unemployment had fallen to 282,200 and 280,900 respectively. Although rates. If such persons are counted, the "relaxed definition" generally growing from that point forward, seasonal unemployment rate for the West Bank during first quarter variations can be seen. 2006 was 27.2 percent. (This rate reached its highest level in second quarter 2002, at 42.4 percent.) Inside the Gaza Strip 157,700 Gazans were employed during third quarter 2000. By third quarter 2002, the low point during the Intifada, this number had fallen to 106,500 (a 33 percent decline). Four quarters (one year) of continuous job growth found 170,900 Gazans employed domestically, before the decline registered during the fourth quarter of 2003 reduced the number of employed to 163,200. Since then job levels within Gaza have fluctuated (falling as low as 146,100 in second quarter 2004 due to a severe deterioration in the security situation during that period), before resuming an upward path. By the fourth quarter 2005, domestic employment in Gaza had reached 187,700 only to fall back again to 168,200 in first quarter 2006. Despite the recent increases in employment, with population growing at just above 4 percent per year, Source: PCBS. Data for West Bank includes East Jerusalem dependency ratios ­ the total population divided by the number of employed persons ­ have increased Focusing instead on the number of unemployed and significantly over the Intifada period. the number of "discouraged workers" rather than on unemployment rates shows how much joblessness has Whereas in the third quarter of 2000 each job holder in grown. From a total of 95,300 in pre-Intifada third quarter the West Bank was supporting 4.3 persons, by the first 2000 (37,900 unemployed and 57,400 discouraged), quarter of 2006 each employed person was supporting their number peaked at 228,700 in second quarter 2002 5.6 persons. In Gaza the dependency ratio increased (131,200 unemployed; 97,500 discouraged). more dramatically, from 5.9 in the last quarter prior to the Despite recent employment growth (and declining Intifada to 8.2. unemployment rates), their number remains large ­ in A growing population, declining levels of Palestinian fact, grew significantly in the second half of 2005. By first employment in Israel and Israeli settlements, and a lack quarter 2006, 122,900 West Bankers were unemployed, of domestic job creation during the first two years of the and a further 46,300 had stopped looking ­ a "relaxed Intifada, led to dramatic increases in unemployment and definition" unemployment level of 169,200 (Table 2 and unemployment rates. Despite the job growth in recent Figure 5). years, the absolute number of unemployed remains far in excess of pre-Intifada levels. (Under International Labor Organization (ILO) standard definitions, a person must be actively seeking work in order to be considered "unemployed".) The unemployment rate in the West Bank peaked at 31.2 percent in the first quarter 2003. For the next two years, the rate fluctuated between 21 and 25 percent, falling below the 20 percent line in second quarter 2005. Such a level was short-lived, however, as unemployment rates grew in the second half of the year, reaching 21.4 percent in first quarter 2006 (Figure 4). September 2006 14 Source: PCBS. Data for West Bank includes East Jerusalem. Source: PCBS. In Gaza, the first quarter 2006 unemployment rate increased Including "discouraged workers" produces a relaxed to 34.1 percent (87,400 individuals). This followed six definition unemployment rate of 39.6 percent in Gaza consecutive quarter of reduced unemployment, both in for first quarter 2006; the number of unemployed by terms of rates and absolute numbers. (Second quarter 2004 this definition increases from 87,400 to 111,200. As saw the highest number of unemployed in Gaza ­ 96,600 mentioned above, such numbers are only slightly below ­ and a near record unemployment rate of 39.7 percent) the 115,100 in second quarter 2004 and approach the peak .Prior to the Intifada the unemployment rate in Gaza was levels recorded during the first two years of the Intifada 15.5 percent (35,700 persons) (Figure 6). (Figure 7). Table 3. Number of Palestinians Employed and Unemployed (thousands) Q-1 Q-2 Q-3 Q-4 Q-1 Q-2 Q-3 Q-4 Q-1 Annual Averages 2004 2004 2004 2004 2005 2005 2005 2005 2006 2000 2001 2002 2003 2004 2005 Employment Working in West Bank 349 367 371 394 359 412 405 384 392 334 310 297 343 370 390 Working in Gaza 167 146 154 163 167 177 186 188 168 145 125 128 166 157 180 Working in Israel 47 45 53 48 60 65 64 60 60 94 67 45 49 48 62 ­ from West BankWorking in Israel ­ from Gaza Strip 6 0 1 1 0 2 1 0 1 22 2 3 5 2 1 Total Employed 569 559 581 605 586 656 657 632 621 595 505 474 565 578 633 Unemployed (ILO) 202 224 212 208 209 176 193 198 210 100 170 216 194 212 194 Discouraged Workers 68 67 69 64 64 58 68 65 70 98 113 117 89 67 64 Total, Unemployed 271 291 281 272 272 235 261 263 280 198 283 333 283 279 258 and Discouraged Dependency Ratios West Bank 5.7 5.6 5.4 5.3 5.6 5.0 5.1 5.4 5.6 4.7 5.6 6.3 5.7 5.5 5.2 Gaza Strip 7.6 9.1 8.7 8.3 8.2 7.7 7.4 7.5 8.2 6.6 9.1 9.3 7.5 8.4 7.7 Source: PCBS. Note: Employment data for workers in Israel includes employment in Israeli settlements and industrial estates. West Bank data includes East Jerusalem. Annual averages are averages of the four quarters that year. Due to rounding errors, totals in table may not equal sum of components. 15 Wage employment represents approximately 55 percent of total employment in the West Bank, and two-thirds of total employment in Gaza ­ percentages that have remained fairly stable since the outbreak of the Intifada.4 Source: World Bank staff calculations based on PCBS data. West Bank includes East Jerusalem. Averages are 95 percent trimmed means; see footnote 4. 2006 data is for first quarter only; other years are averages for all four quarters. Source: PCBS Wage behavior in 2001, 2002, and the first half of 2003 Prior to the Intifada nominal wages were rising steadily; is less obvious, as employers adopted a combination of with the economic growth witnessed from summer 2003 strategies to cope with the considerable drop in demand through summer 2005, average daily wages again rose witnessed during this period. Some employers reduced (see Figure 8). By first quarter 2006 the average daily salaries in order to try and preserve their workers' jobs wage received by wage employees working in the West ­ in effect, trying to share the pain. Bank was NIS 73.3 (equivalent to US$15.73); for wage employees working in Gaza, the average daily wage stood Most, however, reduced employment. Between third at NIS 66.6 (equivalent to US$14.29); by comparison, quarter 2000 and fourth quarter 2000 the number of wage wage employees working in Israel and Israeli settlements employees working in the private sector in the West Bank received on average NIS 129.1 (US$27.70) daily.5 fell by 28,500; by second quarter 2002 a further 27,900 West Bank private sector wage employees were no longer working ­ a decline of 48 percent from the last quarter prior to the Intifada when 117,600 workers enjoyed regular wage employment. 3 The other three types of employment (broken down by status) are 4 The other three types of employment (broken down by status) are "employer", representing approximately 5 percent of total employment "employer", representing approximately 5 percent of total employment in in the West Bank and 3 percent in Gaza; "self-employed", amounting to the West Bank and 3 percent in Gaza; "self-employed", amounting to roughly roughly 28 percent in the West Bank and 23 percent in the Gaza Strip; 28 percent in the West Bank and 23 percent in the Gaza Strip; and "unpaid and "unpaid family member", approximately 11 percent of employment family member", approximately 11 percent of employment in the West Bank in the West Bank and 9 percent in Gaza. Nearly 70 percent of unpaid and 9 percent in Gaza. Nearly 70 percent of unpaid family members are family members are engaged in agricultural work (for women, roughly 90 engaged in agricultural work (for women, roughly 90 percent); roughly 20 percent); roughly 20 percent work in commerce (e.g., a family member's percent work in commerce (e.g., a family member's store or repair shop). store or repair shop). The rest are scattered among the remaining economic The rest are scattered among the remaining economic sectors. sectors. 5Because a "simple average" can be strongly affected by large or extreme 4Because a "simple average" can be strongly affected by large or extreme values ("outliers"), this section uses a "95 percent trimmed mean" in order values ("outliers"), this section uses a "95 percent trimmed mean" in order to reduce their impact. The top 2-1/2 percent and bottom 2-1/2 percent to reduce their impact. The top 2-1/2 percent and bottom 2-1/2 percent of the data are excluded (thereby removing the most extreme responses, of the data are excluded (thereby removing the most extreme responses, which in some cases are simply the result of incorrect data entry), and the which in some cases are simply the result of incorrect data entry), and the remaining 95 percent of observations are then averaged. remaining 95 percent of observations are then averaged. September 2006 16 In Gaza, the reduction was more sudden: whereas 43,000 Gazans held regular wage employment in third quarter 2000, that number fell to 22,600 in the fourth quarter 2000; a further 2,900 were without regular private sector wage jobs by third quarter 2002 ­ a decline of 59 percent. Often it was lower skilled (and lower paid) workers, or workers with fewer years of job experience (again, often lower paid as a result of less time on the job), who were the first to be dismissed. Consequently, the average daily wage received by those who continued to be employed could actually increase from one quarter to the next. Focusing on average wage data for all wage employees, therefore, can be a somewhat misleading indicator because Source: World Bank staff calculations based on PCBS data. it does not take into consideration what is known as the Averages are 95 percent trimmed means; see footnote 4. "composition effect" ­ the impact of changes in the number of persons employed, or changes in the distribution of This is particularly true in Gaza where there has been not wage employment by sector (for example, agricultural only a large increase in PA employment (which occurred workers receive lower salaries than do manufacturing in the West Bank as well) but also a significant difference workers), or by type of employer (PA vs. private sector in PA versus private sector wages.6 Thus, looking at the for example; see Figures 9 and 10). average wage rate overall in Gaza blurs together two very different dynamics. For wage earners who continued to be employed, the impact of the increase in dependency ratios during the course of the Intifada (and the implied obligation on working Palestinians to support greater numbers of extended family member) was exacerbated by the decline in average real wages over much of the period. Inflation has meant a considerable reduction in purchasing power for private sector wage employees although their nominal wages remained roughly steady, while the increase in public sector wages over the past two years has more than made up for inflation's impact. Source: World Bank staff calculations based on PCBS data. West Bank includes East Jerusalem. Averages are 95 percent trimmed means; see footnote 4. 6In the West Bank, the average daily wage for PA employees was roughly NIS 11 below the average of private sector wage employees through the third quarter of 2003. For the next two years they were approximately equal. In the fourth quarter of 2005 a gap appeared in favor of PA wage employees, with a daily wage NIS 4.4 higher than that of private sector workers; this spread continued in first quarter 2006. In Gaza, the PA average daily wage was NIS 12 above the private sector average through third quarter of 2003. Starting in fourth quarter 2003 the difference between PA and private sector wages widened, until it reached NIS 33.8 in the fourth quarter of 2005 and NIS 36.5 in first quarter 2006. PA daily wages in West Bank have generally exceeded PA wages in Gaza by about NIS 4 throughout the past six years, although this spread narrowed ­ and then reversed ­ in 2005. By fourth quarter 2005 PA wage employees in Gaza received on average NIS 1.2 more than their West Bank counterparts; in first quarter 2006, the spread widened further, to NIS 4.2. 17 Prices and Inflation Consumer prices (measured in NI shekels) increased in both the West Bank and in Gaza in 2005, by 2.9 percent in the West Bank and 1.2 percent in Gaza. This represented no change from 2004's inflation rate in the West Bank (also 2.9 percent), and a decrease from the 3.2 percent recorded in 2004 in Gaza. Source: World Bank staff calculations based on PCBS wage data. West Bank includes East Jerusalem. Averages are 95 percent trimmed means, deflated by PCBS consumer price indices for Remaining West Bank and re-based to Fourth Quarter 2000 = 100. In the West Bank, average private sector real wages have declined 18.5 percent since fourth quarter 2000 while average public sector real wages increased by 4.3 percent (Figure 11); in Gaza, the decrease for the private sector Source: World Bank calculations based on PCBS data. Figure shows was 15.1 percent against an increase of 25.9 percent of changes in three-month moving averages, relative to previous year. public sector wage employees (Figure 12). During the first six months of 2006, consumer price inflation rates in the West Bank and Gaza have been virtually identical (4.2 percent in the West Bank and 4.1 percent in Gaza, compared to the January-June 2005 period.) However, these are noticeable increases compared to the 2004 and 2005 full year rates, especially in Gaza (Figure 13). Leading the increase in the overall CPI for 2005 in the West Bank were Beverages and Tobacco (up 5.7 percent), Miscellaneous Goods and Services (up 4.1 percent), and Housing (up 4.0 percent). This is the first year since the Intifada that the Transport and Communications price index has not been either the number one or number two contributor to West Bank consumer inflation. In 2004 this component was up 5.6 percent; in 2002 it rose 21.9 percent largely due to the impact of internal closure (see below). For the first six months of 2006, Transport and Communications costs have again accelerated, up 6.1 Source: World Bank staff calculations based on PCBS wage data. percent compared to the first six months of last year. Averages are 95 percent trimmed means, deflated by PCBS consumer (Much of this year's increase to date appears to be the price indices for Gaza Strip and re-based to Fourth Quarter 2000 = 100. result of increasing world prices for gasoline.) Other September 2006 18 leading contributors thus far in 2006 continue to be Miscellaneous Goods and Services (up 7.7 percent), Beverages and Tobacco (up 6.1 percent), and Food (up 4.3 percent) compared to January-June 2005. In 2004 in Gaza, the Food Index represented the second largest increase among the components of the consumer price index, rising 4.8 percent (compared to a 3.5 percent increase in 2003.) Food costs stabilized in 2005, increasing just 0.5 percent above 2004's level. Leading the increases this past year were Housing and Beverages and Tobacco; both components were up 5.0 percent. The Transport and Communications price index rose 2.8 percent, a rate roughly half of what was witnessed in 2004 when this component led the increase in Gaza's CPI, increasing by 5.7 percent. Thus far in 2006, Transport and Communications prices and Food prices are again the leaders, both up 6.4 percent compared to the first six months of 2005. Source: Central Bank of Israel. Because so much of what is consumed in West Bank and Gaza are imported goods, changes in the shekel- During 2004, the shekel first weakened against the dollar, dollar exchange rate can impact prices domestically. depreciating by 4.6 percent through May, and then For example, the depreciation of the Israeli shekel in strengthened; by year's end, the shekel had gained 1.2 2001 and early 2002 (particularly strong in the period percent. In 2005 the shekel's value against the dollar November 2001-April 2002; depreciation is represented was largely stable during the first half of the year and as an upward movement in Figure 14) and its subsequent then weakened, losing 6.5 percent from December 2004 appreciation (especially in the period February-July 2003; to December 2005. For the first three months of 2006 seen as a downward movement in the figure) corresponds the NIS-USD exchange rate has been largely stable, to a period of accelerating inflation during 2002 and its appreciated in April to 4.45 and remained roughly at that subsequent slowing down in 2003. level, closing at 4.46 end-June. Should this rate not hold, and NIS depreciation again accelerate, inflation tendencies From December 2000 to December 2001 the shekel lost in the West Bank and Gaza might be expected to pick up 4.9 percent of its value with respect to the US dollar; from as well. December 2001 until May 2002 the Shekel weakened a further 15.9 percent. As a result, prices of goods that are As Figure 13 indicated, there is a degree of regularity and imported into Israel from overseas ­ and by extension, seasonality in the pattern of price increases during the into the West Bank and Gaza ­ go up when expressed course of the year. in shekels. Similarly, the consumer price index (which is also measured in shekels) increases, not only because the Food prices generally exhibit strong seasonality effects, CPI market basket contains a number of imported goods, peaking during the first quarter followed by declines in but some non-traded services that priced in dollars (such the second and third quarters before rising modestly in as many rents and education fees). the final quarter of the year ­ a pattern that is likely to continue through 2006. Over the course of 2005, the With an appreciating shekel ­ from February 2003 through food price index increased 2.7 percent in the West Bank December 2003 the shekel strengthened 9.7 percent and 0.5 percent in Gaza; comparing January-June 2006 to against the dollar (11.7 percent since the shekel's weakest the first six months of 2005, food prices have increased point in May 2002) ­ imports become cheaper and, to the 4.3 percent in West Bank and 6.4 percent in Gaza (Figure extent that importers actually pass on these reductions to 15). consumers as opposed to increasing their profit margins, inflation measured in shekels lessens. 19 in Gaza and 3.0 percent in the West Bank were observed. Thus far in 2006, the transportation index is up 6.1 percent in the West Bank and 6.4 percent in Gaza ­ higher than last year and comparable to those seen in 2004. Source: World Bank calculations based on PCBS data. Figure shows changes in three-month moving averages, relative to previous year. While food prices explain much of the seasonality reflected in the CPI and exchange rate movements help explain basic trends in tradable consumer goods prices Source: World Bank calculations based on PCBS data. Figure shows (particularly in non-food prices, which are less affected changes in three-month moving averages, relative to previous year. by seasonality), tightened closure also impacts consumer prices overall. Excluding food (in order to remove the impact of food's seasonality), the consumer price index in the West Bank This effect comes through both direct and indirect rose by 4.0 percent in the first half of 2006 and by 2.4 channels: directly through changes in the transportation percent in Gaza, compared to the first six months of 2005. component of the consumer price index (which measures Although these non-food CPI inflation rates are higher transportation prices that have increased as a result of than those recorded for the full year 2005 (compared to heightened closure, such as taxi fares) and indirectly 2004) of 2.8 percent in the West Bank and 1.5 percent in through increased costs of shipping for producers and Gaza, they are comparable to non-food CPI increases in distributors, which are in turn passed on as increases in the recent years. (In 2001, non-food prices rose 4.4 percent final price of all goods faced by consumers in the market in the West Bank and fell 0.2 percent in Gaza; in 2002, place. These effects can be seen as increases in other CPI non-food prices rose 8.6 percent in the West Bank and by components' price indices (for example, increases in the 2.3 percent in Gaza; in 2003, 4.4 percent in the West Bank price of food resulting from higher shipping costs and and 2.1 percent in Gaza; in 2004, they rose 3.7 percent in greater perishability because of delays and damage due the West Bank and 1.9 percent in Gaza.) to off- and on-loading at back-to-back platforms). Finally, to the extent that closure policies lead to supply shortages When the Transportation and Communication price index in local markets, prices (and price indices) will also rise. is also excluded ­ transportation prices being most affected by changes in the closure regime (and also by changes The tightening of closure associated with the outbreak in world energy prices, which can be quite volatile) ­ a of the Intifada in fall 2000 affected both Gaza and the clearer portrait of general price changes emerges. Such West Bank, while relatively more intense Israeli military an index can be seen as a measure of "core inflation." interventions in the West Bank (compared to Gaza) in Non-food, non-transportation prices in the West Bank autumn 2001 and spring 2002 explain the difference in increased 3.5 percent during the January-June 2006 period movement in the transportation price index in the West and 1.5 percent in Gaza; these are slight accelerations Bank and Gaza during these years. over the full year figures for 2005 (2.9 percent in the West Bank and 1.3 percent in Gaza). In effect, these were negative shocks that raised the level of the West Bank transportation price index (seen as These core inflation rates are in line with those of upward steps in Figure 16). In 2004, both West Bank and previous years. In 2004, non-food, non-transportation Gaza witnessed proportional increases in transportation prices rose 3.0 percent in the West Bank and 0.9 percent prices: 5.6 percent in the West Bank, and 5.7 percent in in Gaza; in 2003, they rose 2.9 percent in the West Bank Gaza. In 2005, roughly parallel increases of 2.8 percent and 1.8 percent in Gaza. (During 2002, non-food, non- September 2006 20 transportation prices rose 4.7 percent in the West Bank and 2.2 percent in Gaza; the higher rate in the West Bank was largely the result of the indirect impact on prices due to closures. In 2001, non-food, non-transportation prices rose 2.0 percent in the West Bank and fell 1.6 percent in Gaza). (Figure 17). Source: World Bank calculations based on PCBS data. Figure shows changes in three-month moving averages, relative to previous year. 21 West Bank and Gaza: Fiscal Developments in 2006 By the International Monetary Fund During the first quarter of 2006, the fiscal position of the Palestinian Authority (PA) was shored up by a relatively generous level of donor support, which somewhat compensated for the suspended payments of indirect taxes collected by the Government of Israel (GoI) on behalf of the PA--in response to the victory of Hamas in the January legislative elections. The situation deteriorated quickly following the transfer of powers to the Hamas government at end-March 2006. Not only did key donors withdraw their support to the PA, but domestic banks reduced unsecured overdrafts and refused to operate the PA's Single Treasury Account. As a result, government wages were not paid and other expenditures were dramatically compressed. At the end of 2005, the deficit for 2006 was projected at about US$1 billion; however, no clear deficit projection now emerges from the currently complicated fiscal situation. I. First Quarter Developments A. Overview 1. By the end of 2005, the PA's fiscal situation had already become unsustainable due to the full year effect of the mid-2005 wage increases, larger social transfers and pension contributions, and the high costs of energy consumption (Figure 1). With unchanged policies, the fiscal deficit for 2006 was projected, at end-2005, at close to US$1 billion--almost three times the annual amount secured in external budget support in 2004 and 2005. This would likely have resulted in considerable arrears accumulation. Projected gains in revenue would have been more than offset by higher expenditures. 2. Following the victory of Hamas in the legislative elections of January 2006 and its formation of a cabinet at end-March, key donor countries reevaluated their support of the PA. After the elections, the Quartet--representing the UN, the US, the EU, and Russia--stated that a new government must recognize Israel, renounce violence, and accept all previous agreements between Palestinians and Israel. At the same time, the Quartet urged support for the caretaker government. The government program presented along with the new cabinet in late March fell short of the Quartet conditions. Consequently, lead donors decided not to provide the PA with budgetary assistance and started exploring alternative ways to provide humanitarian and 1The full year effect of the wage increase was estimated, at end-2005, at about $170 million September 2006 22 project assistance that would bypass the Hamas- to wages and utility expenditures, at the expense led PA (see section II). of operating expenditures and transfers. Average monthly non-wage expenditures were cut in half 3. The GoI considered Hamas to be effectively compared to the second half of 2005. in control of the Palestinian government with the inauguration of the new legislature in mid- 6. Overall, the PA's average monthly fiscal February. In response, it stopped the transfer of deficit was lower in the first quarter of 2006 indirect tax revenues (so-called clearance revenues) than in the second half of 2005, but higher it collects on behalf of the PA, thereby depriving than the monthly average of $61 million for the PA of one month of clearance revenue during 2005 as a whole (Table 1). The deficit would January­March 2006. The impact of the Israeli have been higher in early 2006, however, if net decision was large, since clearance revenues lending and operating expenditures had been fully amount to almost two-thirds of the PA's budget accounted for on a commitment basis. While the revenues and had, on a gross basis, averaged some wage bill and pension contributions are recorded $65 million per month in 2005. on a commitment basis, payments to suppliers, some transfers, and net lending expenditures are 4. Donors, however, increased their financial recorded on a cash basis. Data on new arrears are support to the caretaker government. OECD donors disbursed $76 million in the first quarter, Table 1. Central Government Fiscal Operations including $42 million from the World Bank- Monthly averages 2005­2006 administered Reform Trust Fund. Arab League 2005 2006 2006 countries increased their support to $78 million in July-Dec Jan.-March April the first quarter, up from $46 million in the last (In millions of U.S. dollars) quarter of 2005. As a result, the total envelope of revenues and external budget support available to Net revenue 1/ 105 79 16 the PA in the first quarter of 2006 was only slightly lower than in the last quarter of 2005. Expenditure, of which 152 124 116 Wages 88 93 95 5. Despite this still relatively strong resource envelope, the PA was already forced to Operations 18 7 5 compress non-wage expenditures, since Transfers 41 24 16 access to domestic financing sources became Net Lending 32 23 4 increasingly problematic. Domestic banks also began to reevaluate their relationship with the Balance -79 -68 -104 PA, initially largely out of concern over the PA's financial viability, but increasingly also out of fear External budget support 17 51 41 over possible legal repercussion under foreign Total other financing, of which: 62 16 63 anti-terror laws. Banks required the caretaker Net domestic bank financing 21 -7 -30 government of the PA to reduce unsecured Exceptional profits and advances 29 25 0 overdrafts. Adding to this was the repayment of $50 million of unused project financing to the Other, including arrears 2/ 12 -2 93 US2, which had, in effect, functioned as collateral Source: Ministry of Finance, and IMF estimates. for earlier bank financing. Thus, from a source of 1/ Net of deductions for VAT refunds. finance, the domestic banking system became a 2/ In 2005, includes a monthly average of US$14 million in clearance revenue previously withheld by the Government of Israel. drain on the budget. Furthermore, resources from the Palestine Investment Fund (PIF) were becoming scarcer following the large advances and dividends not available. received from the PIF in 2005.3 In the face of a 7. The deficit was financed mostly by external tighter financing constraint, the PA assigned priority budget support and some advances, including from the PIF. Three-quarters of the recorded budget deficit were covered by external grants, 2Previously lent to the PA by USAID for infrastructure development. which totaled $154 million in the first quarter, with 3Additional PIF resources were used to repay a large part of the US funds. about half, as noted, provided by Arab League 23 countries and the other half by OECD countries full month of these revenues in the first quarter, (Table 2). This compares with only $52 million which had averaged over $60 million during per quarter of external budget support during January­February 2006. In addition, the PIF was the second half of 2005. Advances from the PIF not in a position to disburse dividends, in contrast and the local telecommunications company Paltel to 2005, as PIF profits were not yet assessed.4 reportedly totaled $76 million, while on balance Yet, the performance of domestic tax revenues $21 million in loans were repaid to banks. The was stronger relative to end-2005, owing to large latter was the balance between some additional prepayments of estimated income tax liabilities bank financing obtained in the first two months by key large enterprises, as well as the impact of and large repayments in March. the mid-year salary increases for PA employees on their income tax liabilities.5 Table 2. External Budget Support, 2004­06 2004 2005 2006 Jan.-March C. Government Wage Bill and (In millions of U.S. dollars) Employment Total Budget Support 353 349 154 Multilateral assistance 333 349 144 9. The wage bill has remained at its end-2005 level in the first quarter of 2006 even though Arab league, of which: 98 194 78 the number of government employees seems Saudi Arabia 77 31 57 to have increased further. The number of PA Kuwait 0 40 0 civil servants was reported to have increased by Oman 0 1 7 1,338 persons between end-December 2005 and Qatar 0 11 14 end-March 2006, while there was apparently no Libya 14 0 0 net increase in security personnel--not counting Egypt 3 1 0 security trainees who are not included in the Algeria 0 104 0 payroll but whose numbers continued to rise Tunisia 2 0 0 sharply.6 This rise in employment reflects mostly Other Arab 2 7 0 the recruitment of new teachers, hired in September 2005 and confirmed in early January 2006. The PA European Union 1/ 50 0 24 wage bill was 26 percent higher, in local currency, World Bank (ESSP) 67 23 0 than in the first quarter of 2005, following the mid- World Bank Reform Trust Fund 118 132 42 year salary increases granted to both civilians and Bilateral assstance 20 0 10 security personnel.7 Source: IMF staff, and Ministry of Finance. 10. Since March 2006, due to the shortfalls of 1/In March 2006, includes about EUR 20 million for the purchase of fuel for the production of electricity. budgetary revenue and financing resources, the wage bill dramatically exceeded revenue and could not be paid. Without the transfer of clearance revenues and PIF dividends to the PA, B. Revenues the wage bill was almost three times total revenues 8. Despite still relatively strong domestic tax in March. But even with the receipt of clearance collections in the first quarter, budgetary revenues, the wage bill would now broadly revenues suffered significantly from a lack of dividends from the PIF and the withholding of clearance revenues by Israel since mid- 4 In 2005, the PA received $10 million in PIF dividends in the first quarter February. Total revenues fell by over 30 percent and $60 million in the final quarter. in U.S. dollar terms compared to the last quarter 5The income tax on the salaries of PA employees is withheld at source. of 2005. Overall, domestic revenues (tax and non- 6 There were 13,966 security trainees at end-2005; 20,839 trainees at end- tax) averaged $33 million per month during the January; and 20,793 trainees at end-March 2006. Payments for security trainees are recorded as transfers. first quarter of 2006. The interruption in clearance 7 The increases in civilian and security wage bills from the first quarter of revenue transfers deprived the PA Treasury of one 2005, in NIS, were 19 percent and 39 percent, respectively. September 2006 24 equal revenues, underscoring the importance of security recruits, averaged about $5 million per measures to reduce the wage bill after the situation month in January-March 2006.10 normalizes. The last actual full payment of the wage bill was in mid-March, shortly before the new cabinet was sworn in, aided by the large external E. Net lending budget support disbursed that month.8 13. During the first quarter of 2006, net lending expenditures11 were lower than in late-2005. The D. Non-wage Expenditures shortfalls in resources forced the PA to delay paying suppliers of energy products and utilities. It is 11. The PA responded to the growing financial thereforelikelythatpendingbillswereaccumulating crisis by compressing operating, capital, and without being reflected in net lending accounts.12 transfer expenditures (Figure 2). Total non- Some payments have not been recorded by the PA, wage expenditures were cut by half, from a monthly but have been added in this note.13 These include average of $60 million in the last quarter of 2005 an amount of about $24 million paid out in March to $31 million in the first quarter of 2006. Interest by the EU for the delivery of fuel to the Gaza payments on PA debt, at $3.5 million per month for Electricity Generation Company and an estimated January­March 2006, accounted for an increasing $11 million in payments to Israeli utility suppliers share in operating expenditures from about 20 to out of clearance revenues (the average monthly 50 percent between these two quarters. Spending deduction in 2005), as Israeli companies continued agencies that suffered a proportionally smaller cut in to provide water and electricity to WBG. With these operating expenditures were the President's office, additions, net lending in the first quarter reached the Ministry of Interior, and social ministries. $68 million--less than two-thirds the amount paid out in the last quarter of 2005. ) II. DEVELOPMENTS SINCE APRIL 200614 14. Following the formation of the Hamas-led government on March 29, 2006, the resource flow to the PA all but dried up. In addition, the PA virtually lost access to banking services, making it very difficult to make payments or receive 12. Social safety net programs bore the brunt of the financial squeeze faced by the PA in early 2006. Total transfers were cut by almost half. Transfers for the temporary unemployment 10Monthly transfers to the ministry of interior increased sharply in August program (which averaged about $8 million per 2005, reportedly due to the implementation of the security trainee program and, following the Law on Security Services, due to the PA obligation to pay month in late 2005), along with those from the the employer contribution for the pension plan for security services. Financial Reserve and for the families of detainees 11Mainly, fuel oil expenses paid by the PA to the Gaza Electricity Generation Company, loans to the municipalities for the delivery of water services, were reduced the most.9 Partial data indicate that electricity and water bills unpaid by households but owed to the Israeli social safety net transfers amounted to at least $9 companies, and price subsidies for petroleum products. Additional details are provided in "Macroeconomic Developments and Outlook in the West million in the first quarter. Transfers to the ministry Bank and Gaza--Ad Hoc Liaison Committee Meeting", London, December of interior, which include amounts for training 14, 2005 (available at IMF.org). 12Net lending is recorded on a cash basis. 13Based on information from senior officials or on estimates based on past history. 8Wages are reported by the PA and here on a commitment basis. 14The data provided since April must be viewed with caution since the 9Transfers, as presented in the attached fiscal table, include PA pension ministry of finance focused more on finding resources and prioritizing contributions, which are recorded on a commitment basis but are not paid. spending rather than reporting on its operations. Furthermore, banks no The amount of transfers effectively paid is therefore much smaller. longer provided written reports of their transactions. 25 assistance. Fearing possible anti-terror litigation 16. In this dire context, PA employees have not abroad, no bank appeared willing to lend to the received their full salaries since mid-March. PA or to hold its treasury account. Hence, new This has left between one-fourth and one third budgetary support--mostly from Arab League of the Palestinian population without their main countries-- intended for the PA failed to reach it source of income. The PA was just able to complete until very recently, accumulating instead in bank before mid-July one single payment of about accounts in Egypt. Relying only on domestic tax $300 to each employee, made in several tranches revenues and cash carried through the Egyptian starting with the lowest paid employees. To that border with Gaza, the PA's fiscal policy was effect, the PA used part of its domestic revenue, as reduced to carefully selecting which expenditures well as cash donations from abroad brought into to pay when scarce resources became available. Gaza through the border crossing with Egypt. The Under these circumstances, preparing a budget withholding of clearance revenue and the halting of for 2006 had become a meaningless exercise. The external budget support has resulted in removing Palestinian Legislative Council (PLC) extended until the equivalent of $85 million per month of liquidity September 2006 the rule for monthly executing one- from the Palestinian economy (about $1 billion twelfth of the expenditure of the 2005 budget. on an annual basis), with deep and widespread consequences for the entire Palestinian economy. 15. In April, the deficit widened as a result of depressed domestic revenue collections 17. In July, financial support from Arab countries adding to the loss of clearance revenues and reached the account of the President's office, lower nontax revenue.15 Total domestic revenues allowing another partial wage payment. The in April were estimated at about $20 million.16 Arab League and Kuwait managed to transfer, In these circumstances, nonwage spending was respectively, $91 million and about $45 million further compressed by virtually eliminating social to the account of the presidency. The President's transfers and keeping operating expenditures to a office was then able to cover some of the overdue minimum.17 Overdue bills for petroleum products wage bill, paying a full month's salary to PA delivered to the PA had accumulated to such an employees earning less than NIS 1,400 (around extent that the supplier, the Israeli company DOR, $300) monthly, while all others received half their threatened to interrupt the service. A fuel crisis salary. The funds to the President's office will also was narrowly avoided owing to both payments be in part allocated to the Presidential guard and out of PIF assets to cover the price difference on current expenses of the President's office. oil products between Israel and the West Bank 18. In June, the Quartet endorsed a Temporary and Gaza, and to the EU transferring an additional International Mechanism (TIM) to channel aid $6 million for the purchase of fuel for electricity directly to Palestinians, bypassing the Hamas- production in April (followed by an additional $7 led government. The arrangement, proposed million in May). External budget support of $41 by the European Commission (EC), is limited in million, which had been secured by the caretaker scope and duration. It consists of three windows, cabinet, was mostly used to further reduce PA debt of which the first two--envisaged to each provide to banks.18 According to data from the Palestinian some $6 million a month--are existing facilities Monetary Authority (PMA), gross PA debt to banks managed by the World Bank and the EU. The World was reduced from close to $614 million at end- Bank facility will cover essential operating costs of February to an estimated $480 million at end-May. the social sectors, and the EU facility will cover the cost of fuel oil for hospital generators, water pumps and water treatment plants in Gaza.19 The 15This figure is mostly on a commitment basis, due to the overwhelming weight of the wage bill in total expenditure. third window would fund allowances for health 16It is unclear whether or not this amount includes income tax liabilities care workers and for a needs-based social safety of banks which they are offsetting against debt service obligations due to them by the PA. 17In April, debt service, at about $2.8 million, was 62 percent of operating expenditures, and operating expenditures of the ministry of interior increased from $1.2 million to $1.5 million between March and April 2006, equivalent to an increase from 11 percent to 34 percent of operating expenditures. 18Of the total support, $35 million was received from Algeria and $6 million 19Following the destruction of the Gaza power plant. from the EU. September 2006 26 net. It is currently envisaged to disburse up to $25 the preference by some key donors to bypass the to $30 million monthly. The EC started paying PA, there is an increasing amount of expenditure allowances to health care workers in late July. being executed outside normal channels, including Payments are made directly into workers' bank through the PIF; the account of the President; accounts. The payment of social allowances has direct payments made by donors; and cash brought yet to start because of the difficulty in identifying into WBG and not deposited in PA accounts. beneficiaries. Furthermore, clearance revenues collected on behalf of the PA, but withheld by the GoI, and 19. In the current political context, key public direct payments from these clearance revenues to finance reforms implemented in recent Israeli utility suppliers are no longer reported to years are now critically compromised and the PA. In addition, the intensified restrictions of monitoring recent fiscal developments is passage between the West Bank and Gaza have becoming extremely difficult. The Single weakened interaction between PA employees of Treasury Account is not operational, due to the each area and, thus, the centralization of recording refusal by key domestic banks to handle the PA's between the two territories. For all these reasons, a accounts and to communicate formally with the comprehensive assessment of PA expenditures and Ministry of Finance. Consequently, combined with revenues is becoming very difficult. 27 Table 1. West Bank and Gaza: Central Government Current Fiscal Operations, 2004­2005 2004 2005 2006 Prel. QI QII QIII QIV Year QI Total Average April (in million of US dollars) Revenue 954 254 342 291 331 1,232 236 79 20 Gross domestic 337 86 152 95 142 476 99 33 20 Tax revenues 191 53 65 67 46 231 74 25 13 Non-tax revenues 146 33 87 28 96 245 25 8 7 Gross monthly clearance 1/ 617 167 190 196 203 757 137 46 0 Expenditure 1,355 320 407 445 466 1,638 371 124 116 Gross wages 870 236 235 253 278 1,001 278 93 95 Civilian 538 148 149 153 165 614 164 55 56 Security 333 88 86 100 113 387 114 38 39 Non-wage current expenditure 449 81 155 177 180 593 92 31 21 Of which Operating 193 36 72 57 53 218 21 7 5 Of which Transfers (incl pensions) 257 45 83 120 127 375 71 24 16 PA financed capital spending 36 3 17 16 8 44 1 0 0 Net lending 2/ 157 59 93 85 107 344 68 23 4 VAT refunds 16 1 1 5 4 12 0 0 4 Balance -574 -127 -160 -244 -232 -762 -203 -68 -104 External budget support 3/ 353 71 174 54 51 349 154 51 41 Balance after budget support -221 -56 14 -190 -181 -413 -49 -16 -63 Total other financing 221 56 -14 190 181 413 49 16 63 Exceptional and advances 4/ ... 0 0 109 64 173 76 25 0 Gross withheld clearance revenues 5/ 97 10 43 11 73 137 0 0 0 Net domestic bank financing 134 74 105 84 41 304 -21 -7 -30 Residual 6/ -9 -28 -162 -14 3 -202 -6 -2 93 (in percent of GDP) Gross revenue 23.4 5.7 7.6 6.5 7.7 27.5 ... ... ... Expenditure 7/ 33.2 7.1 9.1 9.9 10.4 36.6 ... ... ... wages 21.4 5.3 5.3 5.6 6.2 22.4 ... ... ... nonwages 11.0 1.8 3.5 3.9 4.0 13.2 ... ... ... Net lending and VAT refunds 4.2 1.4 2.1 2.0 2.5 8.0 ... ... ... Deficit before grants -14.1 -2.8 -3.6 -5.4 -5.2 -17.0 ... ... ... Deficit after grants -5.4 -1.2 0.3 -4.2 -4.0 -9.2 ... ... ... Memorandum items: Wages in percent of revenue 91.2 92.8 68.8 86.8 80.3 81.2 117.8 117.8 484.6 in percent of expenditure and net leading 57.5 62.2 47.1 47.7 48.4 50.5 63.3 63.3 79.2 Exchange rate NIS/$ (period average) 4.48 4.36 4.41 4.54 4.65 4.49 4.67 4.67 4.58 Government employment (end of period) 133,106 134,984 135,811 135,226 136,772 136,772 138,110 ... ... Of which: civilian 76,039 77,917 78,744 78,159 79,705 79,705 81,043 ... ... Of which: security 57,067 57,067 57,067 57,067 57,067 57,067 57,067 ... ... Sources: Ministry of finance, and Fund staff estimates. 1/ Includes payments deducted for dues owed to the Israeli utility companies, while the budget figure is on a net basis. For March 2006, includes an estimated US$11 million in clearance revenue which would be withheld for the payment of Israeli utilities. 2/ Transfers to electricity generation and distribution sectors as well as to the General Petroleum Corporation and to cover unpaid utility bills by households. In March 2006, includes an estimated US$11 million which would normally be financed through clearance revenues. 3/ In 2005, the budget includes US$240 million to finance social safety net and unemployment programs. 4/ Advances from the Palestine Investment Fund and the telecommunications company Paltel. 5/ Includes equalization tax transferred by the Government of Israel to the PA, earmarked for employment programs. 6/ Includes repayment of arrears, while accumulated arrears, other than on wages and pension contributions, are not recorded. 7/ Comprised of gross wages, nonwage expenditure, and PA financed capital spending (excluding donor financed). September 2006 28 The World Bank's Operations in West Bank and Gaza August 2006 On-going Bank Group Operations Project Name & Details Description Solid Waste and Environmental The Project is financing interventions in solid waste collection, transfer, Management Project (SWEMP). and disposal of waste for the District of Jenin. The Project is managed by World Bank: US$9.5 million the Joint Services Council for Solid Waste Management (JSU). The Project Approval Date: October 10, 2000. is assisting in strengthening capacity building of the Environmental Quality Closing Date: December 31, 2007. Authority. The EC is financing the supply of collection vehicles and transfer Task Team Leader: Andrew Mokakha stations relation set-ups. Electric Sector Investment and The objectives of this US$91 million Project are to rehabilitate the power Management Project (ESIMP). distribution systems in the central and southern West Bank, and to address World Bank: US$15 million. the institutional structure for longer-term sector management. EIB: US$38 million. Italy: US$35 million. PA: US$3 million. Approval Date: August 31, 1999. Closing Date: December 31, 2006. Task Team Leader: Somin Mukherji Emergency Water Project (EWP). The main objective of the project is to support investments that would help World Bank: US$12.5 million alleviate the chronic shortages of safe water supplies; reduce water costs and Approval Date: February 2004 health risks; and conserve scarce water resources by reducing system losses. Closing Date: June 30, 2007 The Project includes the following components: (a) emergency water supply Task Team Leader: Sana Al Nimer repair and rehabilitation in remote rural areas of the southern West Bank; (b) repair and rehabilitation necessary to maintain water and sanitation service levels in the Gaza Strip at the high levels achieved under the Gaza Water and Sanitation Project despite the deteriorating economic and security conditions; and (c) Technical Assistance and Capacity Building provided to the Palestinian Water Authority and the recently established Coastal Municipal Water Utility in the Gaza Strip and to form pilot joint services councils for smaller towns in the southern West Bank. Social Safety Net The objectives of the Project are to mitigate the impact of the present social Reform Project (SSNRP) and economic crisis on the most vulnerable, and to protect the human World Bank: US$10.0 million capital of poor children in the West Bank and Gaza. This objective is Approval Date: July 19, 2004 achieved through enhancing and modifying the existing Special Hardship Closing Date: December 31, 2008 Case (SHC) program of MOSA to include a component that will make eligible Task Team Leader: Sima Kanaan households' receipt of assistance conditional upon their compliance with a set of pre-determined criteria related to school attendance, attendance at scheduled health check-ups, and attendance at awareness session on pertinent social issues. The Project also aims to strengthen the institutional capacity of PA agencies involved in the implementation of the proposed project, in particular in Ministry of Social Affairs. 29 The Integrated Community The Project seeks to improve the quality and availability of basic social Development Project (ICDP). and economic services in poor and marginalized communities of West World Bank: US$10 million. Bank and Gaza. It succeeds previous community development operations Approval Date: May 23, 2002. financed through the Bank under Community Development Projects I & II. Closing Date: December 31, 2006. The project finances the rehabilitation of roads, water supply and sanitation Task Team Leader: Husam Abu systems, schools, clinics, thereby preserving and extending the capital stock Dagga of villages and small municipalities. It also finances agricultural activities, including the rehabilitation of wells, roads, and terraces. Lastly, the project is piloting new Information and Communication Technology (ICT) initiatives by funding the creation of Multipurpose Tele-centers, thereby improving access to information and training for the poor and marginalized. North Gaza Emergency Sewage The North Gaza Emergency Sewage Treatment project is the fourth in a Treatment Project. series of Bank-funded water and sanitation projects since 1994. The Project World Bank: US$7.5 million is addressing the immediate and impending health, environmental and safety Approval Date: September 9, 2004 hazards to the communities near the poorly-treated and rapidly growing Closing Date: June 30, 2010 sewage lake in the Beit Lahia area of North Gaza. The project is also part of Task Team Leader: Sana Al Nimer. a long-term solution for the adequate treatment and disposal of wastewater in North Gaza, which entails the construction of a new wastewater treatment plant expected to be financed by various donors. Approximately 300,000 people living in North Gaza will benefit from this project. Gaza Water and Sanitation This Project is a follow-up to the previous GWSSP. The development Services Project (GWSSP II). objectives of this Project are: (a) to develop a sustainable institutional World Bank: US$25 million structure of the water and wastewater sector in Gaza by supporting the Approval Date: June 7, 2005 functional establishment of a Coastal Municipalities Water Utility, as well Closing Date: January 31, 2009 as by enhancing and deepening the involvement of the private sector Task Team Leader: Khairy Al-Jamal through an eight-year operating contract and strengthening the regulatory and institutional capacity of the Palestinian Water Authority; and (b) to continue improving the water and sanitation services by rehabilitation, upgrading and expansion of existing systems and facilities. Like the GWSSP, this Project is part of a larger parallel capital program to improve water and sanitation services in Gaza. The Project includes substantial investments in the establishment of a bulk water supply network connecting the various municipalities in Gaza, in the sewerage network, and in wastewater treatment plants. These investments, totaling about US$340 million for 2000- 2005, will be financed by soft loans and grants from EIB, USAID, and KfW. Tertiary Education Project The project development objectives are: 1) to improve the regulatory World Bank: US$10 million environment for tertiary education management, relevance and quality Approval Date: April 26, 2005 assurance; 2) increase internal and external efficiency of the tertiary Closing Date: December 31, 2009 education system, as a first step towards seeking sustainability; and 3) to Task Team Leader: Adriana Jaramillo create incentives and provide the basis for improvements in efficiency, quality and relevance of tertiary education institutions in order to meet the socioeconomic needs of the Palestinian population. The project provides technical assistance on defining policies consistent with increasing the financial sustainability of the sector and improving the capacity to respond to labor market needs. It also provides incentive mechanisms to improve quality and relevance of the programs offered. On a competitive basis, Institutions will apply for quality and management grants, administered by a Fund mechanism. In addition the project will provide technical assistance to improve the management of the current student loans program managed by the MOEHE, and will set the basis for expansion of the financial resources available for funding the student aid programs. The EC is providing co- financing in the amount of 6 million. September 2006 30 Land Administration Project The objective of this project is to assess/learn the extent of commitment World Bank: US$3 million and readiness of the PA to reforming land administration by introducing Approval Date: January 26, 2005 policy, legal and institutional changes to achieve efficient procedures for Closing Date: December 31, 2007 the issuance of land titles and registration of property transactions, and Task Team Leader: Ibrahim Dajani transparent processes for the management and disposal of public land. The project is the first phase of a long-term Land Administration Program, which aims at enhancing economic growth by improving land tenure security and facilitating the development of efficient land and property markets in rural and urban areas through the development of an efficient system of land titling and registration based on clear, transparent and coherent policies and laws and supported by an appropriate institutional structure. Avian Influenza Prevention and The Bank's Board has recentrly approved an Avian Influenza (AI) Project Control Project for the Palestinian Terretories. West Bank and Gaza has been considered World Bank: US$10 million at high risk for AI due to the large number of migratory birds crossing the Global Fund for Avian Influenza: territories and the high risk of spreading the infection among domestic US$3 million poultry. In April, FAO/WHO confirmed AI H5N1 presence in 8 locations Board Date: October 2006 in Gaza and preventive culling was concluded in the infected areas. The project aims to strengthen the public and veterinary heath sectors to respond to possible future outbreaks and will be implemented jointly with UNDP. The overall responsibility for overseeing and coordinating institutional and implementation arrangements will be vested with the National Emergency Committee for Avian Influenza Control (NCAIC) which is chaired by the Minister of Health. Proposed Multi-Donor Trust Fund Name of Fund Description Emergency Services Support The development objective of the Emergency Services Support Program is to Program mitigate the deterioration of service delivery brought about by the inability of Approval Date: August 2006 the Palestinian Authority to meet its non-salary recurrent costs. The ESSP will Closing Date: June 30, 2008 finance the non-salary expenditures of the key social ministries and based on Task Team Leader: Sima Kanaan the PA's recurrent expenditure program for these ministries. It may also later finance the non-salary recurrent costs of other PA entities. Consultations are currently ongoing with a number of donors on possible contributions. The ESSP budget would be based on the PA's annual recurrent expenditure program and will be subject to the agreement of the Ministry of Finance and the President's Office. Eligibility of expenditures would be assessed by the World Bank, taking into account the emergency nature of the project and the Bank's procurement and fiduciary requirements. Financing of expenditures in other sectors may become possible if donors are willing to provide the necessary financing. Coordination with participating donors will be maintained through a coordination committee. 31 West Bank and Gaza Portfolio June 30, 2006 Trust Fund for Gaza and the West Bank Co-financing Committed Disbursed Undisbursed Disbursed Committed Disbursed Undisbursed Disbursed CURRENT PROJECTS US$ Million Percent US$ Million Percent * 00 Electricity Sector Management Project 15.0 14.8 0.2 99% 01Solid Waste and Environmental Management Project 9.5 3.9 5.6 42% 02 Integrated Community Development Project 10.0 7.9 2.1 79% 04 Emergency Water Project 12.5 6.1 6.4 49% 04 Social Safety Net Project 10.0 1.0 9.0 10% 10.0 0.0 10.0 0% 05 North Gaza Emergency Sewage Treatment Project 7.8 2.9 4.9 38% 10.0 0.0 10.0 0% 05 Land Adminsitration Project 3.0 0.4 2.6 14% 1.5 0.3 1.2 20% 05 Tertiary Education Project 10.0 1.0 9.0 10% 6.0 0.0 6.0 0% 05 Gaza II Emergency Water Project 20.0 4.3 15.7 22% Total 97.8 42.5 55.3 43% 27.5 0.3 27.2 1% COMPLETED PROJECTS 03 Emergency Services Support Project II 40.0 40.0 0.0 100% 38.8 40.4 -1.6 104% 97 Palestinian Expatriate Professional Program 3.0 2.3 0.7 77% 0.3 0.0 0.3 0% 02 Emergency Services Support Project 20.0 20.0 0.0 100% 37.5 37.5 0.0 100% 04 Public Financial Management Reform SAO 20.0 20.0 0.0 100% 97 Legal Development Program 2.8 2.8 0.0 100% 96 Municipal Infrastructure and Development Project 40.0 40.0 0.0 100% 5.4 5.4 0.0 100% 97 Microenterprise Project 2.2 2.2 0.0 100% 95 Emergency Rehabilitation Project 30.0 30.0 0.0 100% 63.9 63.9 0.0 100% 97 MIGA Fund 10.0 10.0 0.0 100% 96 Emergency Rehabilitation Project II 20.0 20.0 0.0 100% 3.5 3.5 0.0 100% 97 Community Development Project 10.0 10.0 0.0 100% 2.8 2.8 01 Emergency Response Program 12.0 12.0 0.0 100% 95 Education and Health Rehabilitation Project 20.0 20.0 0.0 100% 29.1 29.1 0.0 100% 99 Community Development Project II 8.0 8.0 0.0 100% 97 Gaza Water and Sanitation Project 31.0 31.0 0.0 100% 98 Palestinian NGO Project 10.0 10.0 0.0 100% 4.6 4.6 0.0 100% 99 Bethlehem 2000 25.0 24.9 0.1 100% 3.6 0.0 3.6 0% 97 Palestinian Housing Project 17.4 17.4 0.0 100% 98 Gaza Industrial Estate 10.0 6.9 3.1 69% 99 Southern Area Water and Sanitation Project 21.0 21.0 0.0 100% 00 Health System Development Project 7.9 7.9 0.0 100% 01 Education Action Project 7.0 7.0 0.0 100% 03 Emergency Municipal Services Rehabilitation Project 20.0 20.0 0.0 100% 00 Municipal Infrastructure and Development Project II 7.5 7.5 0.0 100% 01 Palestinian NGO II Project 8.0 8.0 0.0 100% 11.6 9.3 2.3 80% TOTAL (Current & Completed) 500.6 441.4 59.2 88% 228.7 196.8 31.8 86% DONOR FUNDED TRUST FUNDS The Holst Fund (closed) 273.4 273.4 0.0 100% Technical Assistance Trust Fund (closed) 22.8 23.6 0.0 104% PEACE Facility (closed) 25.0 23.8 1.1 95% Public Financial Management Reform Trust Fund (closed) 273.4 273.4 0.0 100% TOTAL DONOR FUNDED TRUST FUNDS 594.6 594.2 1.1 100% GRAND TOTAL 500.6 441.4 59.2 88% 823.2 791.1 33.0 96% * For some cofinancing, investment income is added to the principal and disbursed, causing disbursements to go above 100% 2/ Year approved by World Bank Board of Executive Directors September 2006 32 Partnerships with the Palestinian Private Sector The World Bank Investment Climate Assessment Over the past five to six years, the private sector, like all of the Palestinian investment climate, and to compare it of Palestinian society has suffered extreme hardship. The to other countries. conflict, and the various movement and access restrictions currently in place, have severely depressed businesses The ICA will use all available information to analyze and the livelihoods of many people. the investment climate, including a variety of studies and published documents. Most importantly, the ICA Ultimately, the prosperity of the Palestinian people relies will include a detailed enterprise survey that seeks out on a dynamic and productive private sector. Therefore, information directly from businessmen. In the West it is imperative for policy makers to understand the Bank and Gaza, the survey is being conducted by the most important factors for the performance of a typical Palestinian Central Bureau of Statistics and will cover Palestinian firm and the decisions of an investor, and to approximately 400 firms in all sectors and regions. The create a climate that supports both. It is also important results will provide information on the state of the private for business organizations and other groups supporting sector and their most pressing constraints. They will also the private sector to have this information, as this will allow the investment climate in West Bank and Gaza to be impact their policies and goals. Unfortunately, there is benchmarked against Jordan, Egypt, Syria, Turkey, China, currently very little information available on state of the India and other countries where recent surveys have been private sector or the investment climate. conducted. To this end, the World Bank along with partners such as The Survey should be finished in early October and the DFID, PALTRADE and MAS, is carrying out an Investment final analysis will be available by November. The results Climate Assessment (ICA) of the West Bank and Gaza. will provide an important source of guidance for policy The ICA is a standard tool used by the World Bank makers, business associations, donors and other groups around the world to provide a way of measuring and working to support the private sector. comparing investment climate conditions in a country. The ICA will allow policymakers to identify the features 33 Private Sector Development and Trade Group Mechanism for Donor, Private Sector and Government Coordination The Private Sector Development and Trade Group Sector Coordination Council presented a three­year (PSDT) is a subset of the Economic Strategy Group- strategic plan (2006­2008)- a collaboration between the one of four Strategy Groups established in August 2005 Ministry of National Economy and the private sector. by the Palestinian Government and donors to enhance This plan focuses on four priorities: (1) developing coordination on all initiatives towards long term economic a legal and regulatory environment that supports the development in the West Bank and Gaza.1 The PSDT was private sector; (2) enhancing physical infrastructure (e.g., established to focus on projects relating to the private roads, power connections, etc.); (3) developing finance, sector and trade, and is chaired by the Ministry of National leasing and mortgage mechanisms; and (4) increasing the Economy and the World Bank. The PSDT involves a competitiveness of key sectors. number of donors, and the active participation of the Palestinian Private Sector Coordination Council (PSSC).2 Despite the substantial progress to date, much work remains to prioritize, implement and finance the plan. The role of the private sector in economic growth and Here, donors and the private sector play a major role.3 employment is undeniable. In 2003, for example, 66,000 The private sector representatives are preparing a matrix enterprises employed almost 200,000 people and provided of priority projects, and will present this in a third meeting one-third of the total jobs in the West Bank and Gaza. in late summer 2006. Recognizing its importance, the donor community has supported private sector development over the past ten years by financing physical and institutional infrastructure; and by building the capacity of several private sector institutions, associations, civil society organizations, and local government. Donors also supported guarantees for foreign and domestic investors. Unlike other countries, the Palestinian private sector does not face many of the regulatory obstacles found in other countries. For instance, studies show that the time and number of procedures needed to register a business has dropped significantly. Also, a survey of the private sector shows that licensing requirements, taxation and inspections are not regarded as overly burdensome. However, much still needs to be done. 1The donor members of the PSDT include Canada, France, Germany, IMF, Islamic Development Bank, Italy, Japan, Spain, Switzerland, UNDP, U.K. U.S., World However, the Palestinian private sector faces challenges Bank and IFC. that are unique to the West Bank and Gaza, including the 2 The Private Sector Coordination Council was established early 2000 and movement and trade restrictions posed by the numerous represents 9 Palestinian organizations representing the private sector. The Council coordinates between all private sector institutions and works closely with checkpoints, and border crossings and terminals. These the PA to put policies forward for economic development. pose considerable impediments to trade. 3The PSCC Secretariat rotates every six months among the four largest associations: Paltrade, Palestinian Businessmen Association, Palestinian Federation of Industries, During a PSDT meeting on June 14th, 2006, the Private and Federation of Chambers of Commerce, Industry and Agriculture. September 2006 34 The Public Expenditure Review ­ "From Crisis to Fiscal Independence" Upcoming World Bank Study The Palestinian Authority (PA) is currently confronting a has latitude to develop institutions and deploy human and fiscal crisis that is largely unprecedented in its history. financial resources in ways that will maximize efficiency While the proximate causes are the withholding of while achieving their developmental objectives. On each clearance revenues by Israel, the termination of budget of these fronts, the PA faces severe constraints, fiscal or support from many donors, and the regulatory concerns otherwise. At first glance, beyond creating a prioritized that are preventing many banks from engaging in financial schedule of expenditures to be paid as resources become transactions with the PA in the wake of the January 2006 available, it is hard to see what else can be done. election, the structural roots of the crisis run deeper. By late 2005 in fact, the PA had already reached a position Yet the current crisis also provides an opportunity to that was fiscally unsustainable, in which assets were being take a longer term and more strategic view of Palestinian liquidated or mortgaged to meet current expenditures. finances. The PER focuses on five major categories: the first is the Government's wage bill, which during 2005 Under these circumstances, it is difficult to think about a was 22.4 percent of GDP and was clearly the largest, as Public Expenditure Review (PER)- an analysis the World well as the most pressing, area for reform. The other Bank carries out in many countries- for the West Bank areas are transfers to municipalities; health and education and Gaza in the traditional sense. Implicit within the idea expenditures; and social policy and social protection. of a PER is the belief that a government faces options and tradeoffs in how it uses its financial resources ­ that it The World Bank's PER is expected to be completed in has the flexibility to choose between competing priorities, October, following discussions and consultations with the and to structure its finances in such a way as to free up authorities. Public release is expected by the end of the resources for use elsewhere. It assumes that a government year. 35 An Interview with a World Bank Managing Director Dr. Juan Jose Daboub, the World Bank's new Managing Director was most recently El Salvador's Minister of Finance with responsibilities for the World Bank, IMF and Inter-American Bank. Juan has distinguished himself in both the public and private sectors. When El Salvador suffered two devastating earthquakes, Mr. Daboub was deeply involved in a successful recovery effort which provided 250,000 homeless families with shelter within 90 days and restored $2 billion in damaged infrastructure. Mr. Daboub joined the Bank Group on July, 2006. Among his responsibilities as Managing Director, Mr. Daboub is responsible for the Africa, Middle East and North Africa, and East Asia and Pacific regions. Q: Mr. Daboub, thank you for agreeing to this majority of them have been extremely successful. They interview and for allowing us this opportunity have passed on, I would say, their practices, beliefs and to introduce you to the people of the region. To values to the next generation who in large degree have start, could you can give us an idea of your family also continued their success. As of, I would say, the late background and how your family came to be in El 1970s, there were no Salvadorians of Arab origin in the Salvador government and in the last 10 to 15 years there have been at least 20 high level officials, ministers, presidents JJD: Let me say first of all that I was in born into a closely- of states and companies of Arab origin and they have knit Arab family both in terms of tradition and inheritance done a successful job, with transparency and honesty. from both my mother's side and from my father's side. I So that's a little bit of my story. From my wife's side, it was raised in the traditions of Arab families in El Salvador is basically the same, both of her grandparents are also and educated in the US. My grandfather on my mother's from Palestine. side came from Palestine to El Salvador in 1887. He started from zero in El Salvador. He used to travel through the small towns and villages of the north near the border with Honduras with goods, selling small pieces of cloth, Q: Let's talk about you. Could you tell us a bit about fabric which he would buy and take to the interior of the your career and what brought you eventually to the country. World Bank? Was it a long journey from El Salvador to Washington? My grandfather on my father's side came to El Salvador the capital city and then started a business where he JJD: I have spent almost an equal amount of time in could import ceramics, chairs and lamps from France academia as I have in the private sector and in the public into El Salvador. After about 10 to 15 years of hard work, sector of my country. When I came to the United States both of my grandparents, in their own different business to study there was a war going on in my country. I was started to do very well. My grandfather on my mother's made offers to stay in the US, but I wanted to go back to side started an agricultural business growing cotton. From my country and to engage in my family business. I decided my father's side, my grandfather was the first Salvadorian to go back because I wanted to fight for my country. Not to own a motor car in the early 1900s. And even though with weapons but fight by generating jobs, by creating the Arab community was then very small in El Salvador, opportunities and by being with my family. I was 26 years maybe at that time, a hundred Arabic families existed, the old and immediately was invited to be a member of the September 2006 36 board of directors of the Chamber of Commerce. I was like Africa we face great challenges. So, even though I teaching at the Masters level in a business institute and I would like to see in five years the problem of poverty was doing some consulting both in El Salvador as well as solved, it is optimistic to think that it can happen. But in Mexico and in the US and also overlooking at that time in five years you can set the conditions and show by two of the companies the family owned, a cookie factory virtue of example that it is possible to do it. Also, on and a plastics factory. the subject of global public goods, actually the Bank has an extremely important role and has also developed the Shortly after that I was asked if I wanted to be a member strength to support different governments in addressing of the board of directors of one of the state electric this issue. The Bank recognizes too that our clients can companies and I accepted. Later, I became the president go to the market and have access to alternative financing, of that company and my job was to restructure the but I think we have a great advantage within the Bank company and then privatize it, which I did. I did not then which is the specialized knowledge of our people that and I do not now, belong to any political party. Even so, is available for middle income countries, which they can three different presidents asked me to help and so for 12 capitalize on and continue their process of reform. These years I worked for three different governments. In my last are a few of the major areas where I see us going in the position, as Minister of Finance, I was a Governor at the next five years. World Bank and the IMF. Thus, I had an opportunity to learn about the Bank, to know something about the Bank from the client's perspective. When I finished my term I was invited to continue in government but I did not want Q: Do you see a relationship between poverty to do that and went back to our family business. I was a and some of the other challenges you have just member of the board of an international think tank that identified? was formed by former Presidents of El Salvador and Spain JJD: Poverty in many countries is caused by lack of as well as other well recognized international figures. resources and environmental constraints but what we It was then that I was head-hunted for the position of cannot afford is having poverty because of poor leadership Managing Director of the World Bank. At first I said "No, and poor government, because of corruption or due to I am not interested because this position is usually based lack of opportunities. Where poverty is a consequence of on political criteria and not necessarily on the knowledge natural causes, we should develop more tools to address or expertise of the person and I did not want to be a that. In the case of poor governance we need to support figure head." But they told me, "Wolfowitz is different. He better governance and fight against corruption. wants people who have made things happen. We strongly suggest that you participate in the selection process." So, I did. Q: With that in mind what kind of world would you There were 70 candidates as far as I know. There was like the next generation to inherit? then a short-list and then President Wolfowitz offered me the position of Managing Director and I accepted. That's JJD: Well, I have four children and I certainly hope that why I am here now. Now I realize that the experience they will inherit a world where there is more justice and I had in my previous job both in academia as well as fairness, by the same token more freedom: In other words, in government and the private sector is going to help a world where they can be owners of their own decisions me move this organization in the direction that President and of their own destiny. That means more opportunities, Wolfowitz thinks the Bank should go. That direction is to and less intervention. That is why it is important for better meet the mission of reducing poverty and doing so us to providing them with the right values, showing by by creating opportunities and doing that in a sustainable example. Family is the nucleus of society. So, I certainly way. hope, that the work that the current generation does will create the opportunities for reaching a more fair, just, open and free world and will create a better environment for our children who, having obtained the right principles Q: Can you give us a sense of where you see the and values at home can hopefully out perform us and do World Bank being in five years time? much better than we have done. JJD: Well five years seem like a short period of time but also given the speed at which the world changes it could be a lot of time as well. In some of the most pressing areas like fighting poverty, conflicts or in regions 37 World Bank's Publications www.worldbank.org/ps Look for the "Publications" icon Copies at Birzeit and An-Najah Universities Soon in Gaza World Bank's website for youth Youthink.worldbank.org Make yourself heard and tell us what you think! September 2006