In late September, as Israel's nearly year-long war escalated and its credit rating was downgraded again, the country's finance minister, Bezalel Smotrich said adding that despite the strains on the Israeli economy, it was resilient.
"The Israeli economy is bearing the burden of the longest and most expensive war in the country's history," Smotrich said on September 28, a day after Hezbollah leader Hassan Nasrallah was killed in an Israeli airstrike in Beirut, Lebanon, raising concerns that tensions with the militant group could spill over into a full-blown conflict.
Former Bank of Israel Governor Karnit Flug said: "If the recent escalations turn into a longer and more intense war, this will impose a heavier tax on economic activity and growth in Israel."
At the same time, according to BMI, a market research firm owned by Fitch Solutions, Israel's economy could shrink further. This is based on a worst-case estimate by the Institute for National Security Studies (INSS) at Tel Aviv University.
Long-term damage
The Bank of Israel estimated in May that the war costs would reach 250 billion shekels (USD 66 billion) by the end of next year, including military expenditures and civilian expenses, such as housing for thousands of Israelis forced to flee their homes in the north and south. That is about 12 percent of Israel's GDP.
While Smotrich, the finance minister, has expressed confidence that Israel's economy will recover once the war is over, economists worry that the damage will last much longer than the conflict. Likewise, potential tax hikes and cuts to non-defence spending— which Smotrich has already proposed — to fund what many expect to be a permanently expanded military could hurt economic growth. Such measures and a weakened sense of security could also spur a mass exodus of Israelis.
The conflict has doubled Israel's budget deficit, the difference between government spending and revenues, mainly generated from taxes to 8 percent of GDP from 4 percent before the war.
In late August, a month before Israel launched strikes on the Lebanese capital and launched a ground incursion against Hezbollah in the south of the country- the INSS estimated that just one month of"high-intensity warfare" in Lebanon, with "massive attacks" in the opposite direction that are damaging Israeli infrastructure, could cause Israel's budget deficit to soar to 15 percent and GDP to shrink by as much as 10 percent this year.
Ratings agencies downgrade Israel's rating with a negative outlook
Multiple downgrades of Israel's credit rating by Fitch, Moody's, and Standard & Poor's (S&P) will likely increase the country's borrowing costs further.
As the financial burden of the war has mounted, Israel has come under increased scrutiny from ratings firms. Fitch downgraded Israel's credit rating to A from A+, with a negative outlook, due to the impact of the ongoing war on Gaza and the increasing geopolitical risks in the region since the Hamas movement launched "Al-Aqsa Flood" on October 7 and Israel's retaliation against Hamas throughout Gaza.
The agency said in a report that the war and military spending had damaged Israel's public finances. Moreover, it expected a budget deficit of 7.8 percent of GDP in 2024, up from 4.1 percent in 2023, and that debt would remain above 70 percent of GDP in the medium term by the end of 2025. Fitch noted that this reflects the increase in large deficit spending related to military operations, which contain economic damage and the costs of resettling people in the country's north.
Fitch pointed out that geopolitical risks support the negative outlook, as it believes that the war on Gaza may continue until 2025, with the risk that it will extend to other fronts.
For the 2025 budget, Fitch expects the deficit to reach 4.6 percent of GDP amid a fall in military spending and higher revenues. However, the agency also says the deficit could increase if the war continues into 2025.
Other ratings firms are also putting Israel under the spotlight. In February, Israel received its first-ever sovereign rating downgrade — from A1 to A2 — from Moody's. S&P Global Ratings also downgraded the country's rating last month.
However, the agency noted that state revenues rebounded in the first half of 2024 to a level higher than the revised budget, and it expects them to remain strong throughout the rest of the year.
Photo: "The Israeli economy is bearing the burden of the longest and most expensive war in the country's history." (by Adobe).