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OPT: Macroeconomic and fiscal framework for the West Bank and Gaza - First review of progress

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EXECUTIVE SUMMARY

The Palestinian Authority (PA) is implementing prudent fiscal policies and reforms, in the context of an ambitious budget for 2008. A strict government employment policy has been followed and utility subsidies are being reduced. The Public Financial Management System (PFMS) has also been strengthened, which will help control nonwage spending. The 2008 budget builds on this progress, and targets a reduction of the recurrent deficit from 27 percent of GDP in 2007 to 22 percent of GDP in 2008, in particular through: (i) a freeze on wage rates and on new employment (except for health and education); (ii) enforcement of measures to increase utility payments by households and municipalities; and (iii) improvement in cash management and spending commitment controls to help prioritize and raise the quality of spending, and minimize arrears accumulation. The staff considers that the reforms undertaken so far, and the 2008 budget, represent a significant stride toward fiscal sustainability.

Donor assistance pledged for the recurrent budget falls short of the Palestinian Reform and Development Plan (PRDP)'s needs. The total amount pledged at the December 2007 Paris donors' conference for 2008-10, at $7.7 billion, is significantly above the PRDP's requirements. However, pledges allocated for the recurrent budget are below those needed to finance the projected deficits. For 2008, the amounts disbursed or confirmed are adequate to cover recurrent financing needs for the first half of the year. However, without additional assistance, a shortfall of NIS 1.4 billion ($0.4 billion) is projected in the second half of 2008.

Adequate and timely disbursements from donors, and close coordination with the PA, are essential to prevent liquidity problems and expenditure arrears. Israel has tightened restrictions on movement and access based on security concerns, and settlements in the West Bank have expanded, with attendant risks to economic growth and reforms. Social and political pressures against austerity measures have recently increased, conveyed through protests and strikes by trade unions. These pressures could grow if household incomes and employment opportunities remain constrained, posing significant risks to fiscal adjustment.

Good cooperation among the three parties-the PA, the Government of Israel (GoI), and donors-is essential to reduce the risks outlined above. The PA has undertaken bold reforms despite the difficult political and security environment. These reforms have encouraged donors to fully cover the PA's external financing requirements for the first half of 2008, including through the creation of the World Bank's PRDP Trust Fund (PRDP-TF). The GoI's recent announcement that a number of obstacles in the West Bank will be removed soon is encouraging, and could hopefully be followed by a broader relaxation of restrictions on movement and access in 2008.

This report was prepared by a team composed of Oussama Kanaan, Henry Ma, Karen Ongley, Joël Toujas- Bernaté, and Roman Zytek. It is the first quarterly review of progress in implementing the macroeconomic and fiscal framework set out in the Palestinian Reform and Development Plan (PRDP), which was assessed by IMF staff in 'Medium-Term Macroeconomic and Fiscal Framework for the West Bank and Gaza.' The latter was issued on December 5, 2007 and published on the IMF's website (www.imf.org/wbg).