Dire economic outlook forecast for Israel if war is prolonged

Government forced to raise taxes after warning of $67 billion hit to economy

An Israeli tank patrols the Gaza border. A widening, long-lasting war will hammer Israel's economy, experts say. Reuters

Israel's economy is under threat of recession from fighting prolonged wars on three fronts, leading academics said on Tuesday.

The country “cannot afford” the dire economic impact of the conflicts being largely fought in Gaza and Lebanon, as well as Iran.

The warnings come as the Israeli government has approved a budget featuring about $9 billion in tax increases, as well as cuts to departments including health, education and welfare.

Economic consequences

The growing financial concerns in senior government circles meant that “Israel cannot afford the economic consequences and the losses that they are enduring in a long war”, said Dr Dalia Dassa Kaye, of UCLA’s Burkle Centre for International Relations in the US.

But on Tuesday she told a Chatham House webinar in London that a weakened economy could provide some hope for a resolution by forcing Israel to resolve the growing conflict.

Israeli activists protest against the war in Tel Aviv. Getty Images

“If both sides start to recognise the vulnerabilities and cost of this ongoing war, maybe that can lead to an opening for some de-escalation,” she said.

There was also concern in military circles that and the Israeli population’s “threshold for the economic and military consequences” and “a long war of attrition” was now much lower than at the start of the conflicts.

Banking alarms

The financial cost of the wars to the national economy has been put by the Bank of Israel at $67 billion from 2023 to 2025, equivalent to 12 per cent of GDP, an estimate made before the Lebanon invasion last month.

On top of the mass mobilisation of troops, the Iron Dome missile defence system is costing millions as well as the air force’s use of precision bombs across the region, including on Iranian targets.

Other soaring costs including housing the 80,000 people displaced from northern Israel and the steep decline in tourism that has led to a $5 billion drop in revenue and left many hotels empty.

Agriculture and construction have been particularly badly hit due to labour shortages, with 170,000 Palestinian workers denied entry into Israel since Hamas's attacks on October 7 last year.

The result, said a UN report, was that the occupied West Bank was “undergoing a rapid and alarming economic decline”.

With Israel’s army highly dependent on reservists, their deployment has also hit the economy. The budget agreed on this week includes a further $1.85 billion raised for the enduring use of 300,000 reservists.

Amir Yaron, governor of the Bank of Israel, has warned of the high financial costs of war. Bloomberg

War costs

Israel’s central bank governor, Amir Yaron, recently warned that while war costs were significant, the military should not be given a bottomless pit of financial backing.

“A prosperous economy requires security, and security requires a prosperous economy,” he said. “Therefore, the war should not bring with it a blank cheque for permanent defence expenditures.”

Even far-right Finance Minister, Bezalel Smotrich, has admitted the economy is bearing “the burden of the longest and most expensive war in the country’s history”.

Israel's economic growth since last October has shrunk from a 3.4 per cent forecast to slightly above 1 per cent, the International Monetary Fund says.

The economic threats mean Israel could face a recession and another potential lost decade of stagnation that it suffered after the 1973 war in which it spent heavily on defence.

Meanwhile, foreign direct investment has dropped by 29 per cent, signalling a particular concern for Israel’s thriving tech industry, which provides 20 per cent of GDP.

More worryingly, a dangerous escalation could see an exodus of leading tech entrepreneurs that could permanently damage the industry.

But the strikes on Iran and the Lebanon incursion have also lifted Mr Netanyahu’s popularity, diverting attention from Gaza’s growing humanitarian disaster and Israel's failure to free hostages still held by Hamas.

A fighter jet departing a hangar at an undisclosed location in Israel preparing for attacks on Iran. AFP

Golden opportunity

But the war is likely to be prolonged, as Mr Netanyahu sees it as “a golden opportunity” for Israeli strategic interests to “undercut Iran's regional influence”, Firas Maksad, of the Middle East Institute, told the London webinar.

That could lead to a heightening of the conflict, given Iran’s robust calls for retaliation against Israel’s barrage on October 26 that diminished its air defences greatly.

“The rhetoric coming out of Tehran hasn't lowered the temperature,” said Mehra Kamrava, an expert on Iran from Georgetown University, Qatar. “Either they are glutton for punishment or maybe they feel a certain level of comfort.”

But as The National recently reported, the air strikes have weakened Iran’s radar and missile defences, leaving its oil, military-industrial and possibly nuclear infrastructure vulnerable to attack.

“Neither side is either willing or able to take an exit ramp at the moment, so we are going to be likely entering a period of continuous testing,” said Dr Kaye.

But she warned a weakened Iranian regime would be highly dangerous because if it started “viewing things in existential terms, we are off the rails”, so Israel and its allies must ensure their military successes “don't backfire”.

Dr Ebtesam Al Ketbi, president of the UAE’s Emirates Policy Centre, warned that the “rules of the conflict have been changed to no rules and no red lines”, increasing the danger of widespread war.

US election

In terms of the US election, “there would be a much more oppressive environment when it comes to the Palestinian issues” with a Donald Trump presidency, said Dr Kaye.

There would not be a “an arms embargo on day one” against Israel in a Kamala Harris presidency, she argued, although there would be greater diplomatic efforts with the Iranians to find a resolution.

“Maybe folks are waiting for the US to come in with that silver bullet to solve everything but that’s not going to happen,” she added.