Israel's national deficit has climbed more than anticipated (4.1%) and is expected to continue to climb through 2025 to 9% by some estimates, partially due to the outbreak of the Israel-Hamas War and the opening of several new battlefronts, according to the first chapter of a report published by the Taub Center's Prof. Benjamin Bental and Dr. Labib Shami on Wednesday.
The researchers also presented forecasts for Israel’s economy in the coming years, highlighting long-term trends unrelated to the war.
When the war first broke out, following Hamas’s October 7, 2023 massacre, military expenditures, and reconstruction costs were estimated at NIS 250 billion (approximately 13% of GDP). This figure was estimated based on two beliefs that failed to materialize. Firstly, the figure was based on the assumption the war would end in 2024, and second, it did not consider the possibility of a northern front against Hezbollah.
Hezbollah began attacking Israel on October 8. The constant aerial attacks against civilian communities forced tens of thousands to evacuate.
The extension of the war to the North and through to 2025 had not been assessed, but the researchers estimated the cost would total an additional NIS 100 billion (approximately 5% of GDP).
Additionally, while the research revealed that GDP fell sharply in the last quarter of 2023 at an annual rate of 4.1%, compared to the same period in the previous year, the fall was significantly smaller than the one experienced during the COVID-19 pandemic.
In the first quarter of the COVID-19 pandemic, GDP fell 8% compared to the same period in 2019.
Construction investments drop
Looking into why the GDP didn’t drop as low as it might have been expected, researchers were led to believe that the rise in public consumption offset the drop from investments in construction.
Construction investments have been an area in which Israel has seen a significant decline – notably due to an embargo on Palestinian workers entering Israel following Hamas’s attacks.
Imports and exports
The decline in imports had little impact on the economy despite the war disrupting transport to and from Israel and the Houthis’ maritime attacks. Still, the decline in imports during the last quarter of 2023 was greater than the decline in exports, but this trend didn’t continue in the first two quarters of 2024.
Since the share of exports in GDP is very close to that of imports, these changes had little impact on Israel’s current account surplus, the researchers explained.
Expenditure and revenue
The government’s expenditures and revenues also evolved following the onset of the war and the period of the Bennett-Lapid government.
Government expenditure significantly increased in the last quarter of 2023, when the war broke out – a trend met with the already decreasing government revenues from before the war.
Despite the war opening across multiple fronts, the revenues recovered during 2024 to levels similar to those recorded in 2022 – at an average monthly level of about NIS 12 billion, amounting to an annual calculation of 7%–8% of GDP.
Civilian investment
Additionally, while funds have been dedicated to the war, the research shows civilian expenditures have also grown, although this is without adjusting for population size.
The civilian expenditure unrelated to the war had risen by approximately NIS 5–6 billion per month since October 2023, according to the report.
The researchers expressed that despite the increase, the funds fell short of what was needed. The report claimed that despite ongoing and rising civilian needs, monthly civilian expenditures remained constant later in 2024 – returning to pre-war levels after adjustment.
The rate of civilian expenditure was notably contrasting to defense expenditure – which the report found averaged about NIS 7 billion in 2022 and 2023 before the war, doubled during the war months.
Israel's deficit
Without knowledge of the incoming war, both the Bank of Israel and the International Monetary Fund (IMF) predicted a deficit of less than 2% for 2023. However, after the outbreak of the war, estimates were revised to 5%, and the year ended with an actual deficit of 4.1% of GDP.
Continuing in this pattern, the Bank of Israel revised its 2024 deficit forecast from 1.5% to 6.6% of GDP, while the IMF predicted an 8% deficit for 2024. The IMF made its estimates without predictions on the northern front – meaning the war against Hezbollah was not factored into the predicted 8% deficit – which has been updated to 9%.
The deficit in 2025 is also expected to remain significantly higher than it would have been without the war.
Hi-tech sector
While Israel has numerous successful industries, hi-tech is a sector responsible for a central role in Israel’s economy. The sector employed 11.6% of Israel’s salaried workers aged over 25 and generates approximately one-fifth of Israel’s GDP and 53% of Israel’s exports.
The hi-tech sector accounted for approximately 24% of all tax revenues in 2020 and about 36% of income tax revenues from wages in 2021, but the last quarter of 2023 saw a decline in the industry’s jobs and average wages.
Despite the decline attributed by the researchers to uncertainties due to the ongoing war, third-quarter investments in 2024 approached $2.5 billion.
Study author Benthal noted: “Stabilizing Israel’s economy requires decisive economic measures, similar to those implemented in the 2003 budget. Growth-supportive measures are vital to returning the economy to its pre-war growth trajectory, restoring citizens’ and foreign investors’ confidence in Israel’s economy, and gradually reducing the debt-to-GDP ratio to its pre-war level. The ongoing war and the anticipated increase in defense spending present complex economic challenges, but with responsible policies and structural reforms, the economy can return to a path of sustainable growth.”
Co-author Shami added, “Thanks to rapid growth and a low-interest environment, the last decade saw a decline in the national debt burden despite an increase in Israel’s debt stock. The war has reversed this trend: government borrowing has surged alongside rising interest rates. As a result, the debt burden is expected to grow, straining the state budget. The government must take drastic measures to reduce it and restore the economy to a growth trajectory.”
