Gaza war exacting huge price on Israel

Israeli bombs have blown huge holes not just in the Gaza Strip, but in Israel’s budget too. Ministers are now hurrying to adjust their balance sheets and projections.

In this file photo, Israeli Prime Minister Benjamin Netanyahu (L) attends a parliament session to vote on the national budget on May 23, 2023, at the parliament in Jerusalem.
In this file photo, Israeli Prime Minister Benjamin Netanyahu (L) attends a parliament session to vote on the national budget on May 23, 2023, at the parliament in Jerusalem.

Gaza war exacting huge price on Israel

Since the Hamas attacks on 7 October, Israel’s spending has surged, with a doubling of the defence budget and a doubling of the overall budget deficit to 4.2% of GDP in 2023 from a 0.6% surplus in 2022.

In December, Israel’s parliament approved a special war budget for 2023 of nearly NIS 30bn ($8bn) to fund the war and compensate those impacted by the Hamas attacks.

The defence budget ballooned to $27bn, roughly 6% of GDP (compared to the pre-war 3.5%), reflecting the twin challenge of Hamas to the southwest and Hezbollah to the north.

Yet in Israel, the political mantra is currently: spare no expense. Indeed, since 7 October, Benjamin Netanyahu’s government has been on a spending spree.

Finance ministry officials now hint at potential tax hikes and budget cuts to pay for it all; the deficit has risen from an annual 3.4% in November.

In December alone, it was NIS 33.8bn ($9bn), compared to NIS 18.5bn in December 2022. War-related spending cost NIS 17.2bn, while tax revenue decreased by 8.4%.

Budgets hastily revised

This week, ministers voted on a revised 2024 budget involving tens of billions of shekels in supplementary funds. This will likely increase the budget deficit to around 6% of GDP this year, up from a target of 2.25%.

On 10 January, Bank of Israel (BOI) Governor Amir Yaron urged fiscal discipline by proposing to offset extra spending with reductions in non-essential areas and selective tax increases.

He estimated the cost of the Gaza war, excluding loss of income, at NIS 210bn ($56bn) for both military spending and financial compensation to residents near the Gaza and Lebanese borders affected by cross-border rocket fire.

Israelis evacuated from northern areas near the Lebanese border due to ongoing cross-border tensions lift placards during a rally near the northern Amiad Kibbutz, demanding to return home on December 26, 2023.

Read more: A Hezbollah-Israel war has never been closer

The Bank of Israel's governor estimated the cost of the Gaza war, excluding loss of income, at NIS 210bn ($56bn).

Although Israel had endorsed a two-year budget for 2023-24, the conflict with Hamas in Gaza necessitated adjustments, resulting in budgetary changes and additional spending. Last year, the deficit reached NIS 77.5bn.

The initial 2023 deficit target was 0.9% of GDP (or NIS 16.9bn), but tax revenue fell short by NIS 30bn, and spending exceeded projections by NIS 30bn.

This led to a revised deficit estimate of 3.7% in the budget approved last month. Before the conflict, Israel's deficit was 1.5% of GDP in September.

Finance Minister Bezalel Smotrich expected Israel's cabinet to nod through the 2024 wartime budget. Having called up 350,000 reservists, he said Israel had a responsibility "to reward them in the best possible way".

There had already been approval for NIS 9bn in financial support for military reservists, who Smotrich said had "left everything and risked their lives for us".

In a joint statement with Netanyahu and Defence Minister Yoav Gallant, Smotrich said Israel "prioritises the wellbeing of reservists and their families", adding that this was "the cornerstone of the 2024 budget".

Israeli army soldiers are positioned with their Merkava tanks near the border with the Gaza Strip in southern Israel on October 9, 2023.

Best projections

The Finance Ministry thinks the war's cost in 2024 will surpass an additional NIS 50bn, resulting in a threefold increase in the budget deficit to around 6% of GDP. This projection assumes that the war continues through February.

Demand for weapons and ammunition has soared, with Israeli defence firms operating at full throttle. The United States has airlifted a whopping 17,000 tons of military aid.

The direct cost of the war is projected to hit $33bn, according to estimates by Israeli, US, and European media. Yet, the shadow of a possible bigger (and costlier) Hezbollah confrontation looms large.

Alongside military expenses, around 170,000 reservists need compensation, plus subsidies for more than 125,000 Israelis forced to leave their homes near Gaza or Lebanon due to threats. Many have had to stay in hotels.

The direct cost of the war is projected to hit $33bn, yet the shadow of a possible bigger (and costlier) confrontation with Hezbollah looms large.

The state also covers costs for the families of fallen soldiers, alongside the hospitalisation and rehabilitation expenses for hundreds of injured military personnel.

In addition, it has allocated a budget for the reconstruction or refurbishment of hundreds of houses destroyed or damaged around Gaza and near the Lebanese border. All in all, civilian expenses are estimated at around $5.5bn.

These estimates assume that tensions with Hezbollah will not escalate and that operations in Gaza will ease by the end of February.

Armed with more than 100,000 rockets and missiles, some capable of reaching any target in Israeli territory, Hezbollah would be an adversary of a different category, and daily combat costs could more than double.

On the bright side

Despite the looming tax hikes—details yet to be disclosed—the government sounds cautiously optimistic, with the Finance Ministry anticipating a 2% growth rate in 2024 and 5% in 2025.

In the first move of its kind since March 2020, the BOI cut its key interest rate by 0.25 points to 4.5%.

It was encouraged by the Israeli shekel rebounding from a 12% dip against the dollar in October and has now stopped intervening to support it.

Regarding consumption, Israelis still seem reluctant to spend on items such as clothing and furniture. Still, the BOI said there were some more positive signs, with restaurant attendance nearly up to pre-war levels.

The help of Israelis' steadfast US ally has certainly mitigated some of the fallout from the Gaza war, with Biden giving $14bn.

US President Joe Biden has given Israel $14bn since 7 October, supplementing the $3.8bn in annual military aid that the US has sent since 2016.

Israeli Prime Minister Benjamin Netanyahu (left) welcomes US President Joe Biden upon his arrival at Ben Gurion Airport in Tel Aviv on October 18, 2023.

Read more: Examining the evolution of US-Israeli relations

The help of Israelis' steadfast US ally has certainly mitigated some of the fallout from the Gaza war, with Biden giving $14bn.

These funds are earmarked for purchasing US-made military equipment, with the United States holding the distinction of being Israel's primary arms supplier.

Trimming from elsewhere

The Israeli Finance Ministry is said to have proposed the closure of ten government ministries to cover the budgetary shortfall during wartime, in addition to other measures.

Israeli media reports that the Settlements and National Missions Ministry, the Jerusalem and Jewish Tradition Ministry, the Intelligence Ministry, the Ministry for the Development of the Negev and the Galilee, the Regional Cooperation Ministry, the Diaspora Affairs and Social Equality Ministry, the Strategic Affairs Ministry, the Heritage Ministry, and the Advancement of the Status of Women Ministry may be for the chop.

Reports also suggest that the Finance Ministry is considering saving NIS 5bn ($1.4bn) by eliminating subsidies on gas prices, increasing tax on cigarettes, and further taxing the benefits from advanced study funds.

If there are no agreed alternatives, the Treasury might recommend an increase in value added tax (VAT) on virtually all consumer goods, currently set at 17%.

Moshe Gafni, who chairs the Israeli parliament's finance committee, supported the taxation of excess bank profits and measures to promote economic growth, but was opposed to raising income taxes.

With the future still so uncertain, all fiscal options remain on the table. On Saturday, Netanyahu said Israel's war would continue "until the end, until total victory".

Fighting would carry on "until we achieve all of our goals: eliminating Hamas, returning all of our hostages and ensuring that Gaza will never again constitute a threat to Israel".

How long that will take is anybody's guess.

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