Consequences of conflict: the impact of the closure regime on the economy of the West Bank economy

The Palestinian-Israeli conflict witnessed a new development in the mid-90s with the introduction of the closure policy. This policy consisting in roadblocks, and fixed and mobile checkpoints restricts the movement of goods and labor between the Palestinian territories and Israel, between the West Bank and the Gaza Strip, and inside the West Bank. As a result of this policy the economic space of the West Bank is divided into small pieces and trade with the rest of the world is distorted. The impact of the closure policy on the West Bank's economy is largely understudied. Taking advantage of this unique context, this study addresses the economy-wide effects of removing the closures. The study uses a SAM developed for the West Bank for the year 2011 with explicit representation of trade and transport margins. A variant of the STAGE suite of CGE models is used and extended to conform the unique feature of the West Bank economy. In this paper the removal of the closures is simulated through the reduction of the trade and transport margins by 30%, and the increase in efficiency in the transportation sector by 30%. The results suggest that removing the closure policy will induce a substantial growth of the West Bank's economy by 2 to 7% and will have distributional effects among the household groups Model and data The model used in this study belongs to the STAGE suite of CGE models. STAGE-2 uses a combination of linear and non-linear relationships governing the behavior of the model’s agents (Mc-Donald and Thierfelder, 2013). The model explicitly accounts for transport and trade margins and allows to capture the transactions costs associated with the closure regime that is investigated in this study. The model is calibrated to a West Bank SAM for 2011 (Agbahey et al., forthcoming). The full SAM comprises 325 accounts, of which 83 are commodities and 49 are activities. This detailed disaggregation allows assessing the impact of the closure regime on trade for specific commodity groups and the multiplier effects on the production sectors. The SAM also includes three margin accounts, namely wholesale trade, retail trade and transport margins. The depiction of the margins in the SAM is essential to study the effects of the closure regime as the restrictions basically increase the transaction costs. The SAM encompasses 59 production factor accounts and 111 household groups, allowing the assessment of the multiplier effects on factor markets and households’ welfare. Finally, the SAM singles out Israel from the rest of the world allowing to capture explicitly the transactions between Israel and the West Bank. Simulations The closure regime has two major effects on trade in the West Bank. First, it raises transaction costs. Passage at checkpoints and uncertainty of closures generate delays and add to the costs of doing business. The second major impact is on productivity in the transportation sector. The back-to-back system in place requires trucks upon arrival at a checkpoint to be unloaded and then reloaded on to another truck. This system causes additional labour and fuel costs and a decline in the factor productivity in the transportation sector. Three simulations are run in this study. The first simulates a reduction in the transaction costs associated with the closures. Akkaya et al. (2008) estimated the closure-induced increase in transaction costs at about 33%. In this first simulation, a pre-closure situation is reproduced by removing 33% of the transport and trade margins. In the second simulation factor productivity in the transportation sector is increased. In the absence of a documented estimation of the decline in productivity in the transportation sector, a 33% increase is assumed. Finally, the third simulation combines the first two. Sensitivity analysis is conducted to assess the extent to which the results are robust to differences in the magnitude of the imposed shock. Reduced transaction costs and increased productivity in the transportation sector would potentially have strong effects on the West Bank economy. Total domestic production is expected to increase, as the economy benefits from better access to import markets for intermediate inputs and higher export revenues. The effects between sectors, however, may differ strongly and some sectors may suffer from stronger import competition and changes in factor prices. Higher production would on average have positive multiplier effects on labour income and ultimately on household income. Effects on different household groups will differ according to their composition of income as well as consumption expenditure. However, for the economy as a whole, welfare gains are expected to largely offset losses.