Israel and Palestine – the practical partnership

The conference setting is stunning and fitting too; a sumptuous spa on Jordan’s Dead Sea shore, with magnificent views overlooking the West Bank.

Corralled by the Union of Arab Banks, delegates come from across the Arab corporate mainstream; bankers (central and commercial), businessmen and officials, to talk banking in Palestine and do some power networking.

Over three cold and clear winter days at the end of January, they carouse, kiss the cheeks of old friends and break bread with new ones. They get some deals done, all the while expressing solidarity with Palestinian colleagues, who have travelled long hours, negotiating checkpoints through what they frequently call “our Israeli-occupied homeland”, to attend from homes and offices just a few kilometres away.

And there is plenty to talk about. A day earlier, the Trump administration has decreed bans on travel to the US by nationals from seven Muslim-majority countries, while provocatively flagging that Washington could move its embassy in Israel from Tel Aviv to contested Jerusalem.

Mostly in furious agreement, delegates also bat around topics including ‘The reality of the banking sector in light of the economic strangulation,’ and ‘The importance of investing in Al-Quds,’ as Jerusalem is known in Arabic.

But first there is the customary denunciation of Israel. Opening the conference, speaker after speaker lines up to condemn Israel. Mohammad Al Barghouti, chair of Palestine’s Association of Banks, laments “Palestine’s partial freedom”. Mohammad Al Rabie, long-time secretary-general of the Cairo-based Council of Arab Economic Unity, denounces the “vicious Israeli occupation”, while other bankers rail at Palestine’s “Israelization” and “Judaization”.

Conference co-host Ziad Fariz, central bank governor in Jordan, which has long had diplomatic relations with Israel, also chimes in to attack the “Zionist Israeli occupation” of “our Palestine”. Such is the anti-Israel fervour, by the time delegates sit down to lunch on day one, the conference is already two hours behind schedule.

Israel has not been invited to this conference. “The Arabs don’t see Israel as a partner in strengthening Palestine,” a Palestinian conference delegate tells Euromoney.

But all is not what it seems.

In a meeting room on the conference sidelines, the leadership of Ramallah’s quasi-central bank, the Palestine Monetary Authority (PMA), has gathered to articulate a different reality of the relationship between Israelis and Palestinians, an often artful one in tough circumstances, one where cross-border central banking gets done by WhatsApp.

It is a version not likely to make this conference’s agenda. But it is a reality where, against the odds, PMA technocrats in Ramallah and their counterparts at Jerusalem’s central Bank of Israel are in frequent contact and respect and even like each other.

“Ah, my favourite people,” says PMA governor Azzam Shawwa of his counterparts at the Bank of Israel. “We know each other well enough by now that we can handle things by WhatsApp.”

“I like him, he’s my details man,” Shawwa says of a senior BoI official that he is in near daily contact with. “He is details, details, details, and after that he will tell you there are still more details. But he’s doing it because he is a professional, not because he wants to complicate things as an Israeli.”

“And she is excellent,” he says of another senior BoI official. “They have a good heart, very professional. They both handle issues away from the disputes and the political areas.” And it is not just Palestinians confounding the conventional wisdom.

At the BoI’s headquarters in nearby Jerusalem, there is a similar genuine warmth for their PMA ‘colleagues’ just 20 kilometres away, albeit through Israel’s myriad walls and checkpoints. “PMA-BoI relations are warm because of the mutual respect and the joint aim to focus on doing business while leaving the politics to our governments,” says one Israeli official. “This feeling comes from the trust that both central banks see in each other.”

PMA deputy governor, Riyad Abu Shehadeh, has been with the PMA since its inception in 1994. “We always meet their payments people, their legal advisers,” he says. “I meet with IMPA [Israel’s anti-money laundering authority under the Justice Ministry].” When Shehadeh meets his Israeli colleagues, he speaks to them in English, Hebrew and Arabic. “I let them practice their Arabic.”

Their mutual respect and contact goes back years. Before current governor Karnit Flug took over the central bank in 2013, the BoI was run (from 2005) by the high-profile Stanley Fischer. He is now a vice-chair of the US Federal Reserve in Washington, but while in Israel, his counterpart at the PMA in the mid-2000s was Palestinian economist, George Abed. Before Fischer and Abed became governors of their respective institutions, they were long-time colleagues at the IMF in Washington, senior executives of the fund during the reigns of Michel Camdessus and Horst Köhler.

For all the regard, it is a relationship that frequently faces big obstacles. Palestinians are severely restricted from entering Israel, a curb that can also extend to PMA staffers needing to go to nearby Jerusalem or Tel Aviv for a meeting with the BoI.

Getting Israeli travel approvals is often tedious and bureaucratic for Palestinians; the BoI’s influence through Israel officialdom extends only so far. “Often it can boil down to the whim of an individual down the line,” grumbles a PMA official.

PMA officials in their capital, Ramallah, relate many stories of being granted permission to enter Israel for official business only to be turned away en route or delayed for hours at checkpoints by Israeli soldiers because the permissions have not filtered through the system.

When work is to be done, or an immediate crisis looms, BoI and PMA officials get around these barriers by connecting via smartphone, most commonly with WhatsApp.

It is central banking by social media and text message, but that, too, can be tricky for a Palestinian official on the move. Mobile data access in Palestine is severely restricted by Israel. Open WiFi signals are widespread across the West Bank and it is common to see Palestinians gathering in knots outside hotels and public buildings, waving their smartphones to catch a signal.

The glue that binds the BoI and the PMA springs from geography, economic necessity and security. The two monetary authorities, which both claim independence from politicians, are compelled by realities on the ground to put enmities aside.

The 4.5 million people of the Palestine Territories – 1.9 million in the Mediterranean-facing (but blockaded by Israel) Gaza Strip and 2.6 million living in the landlocked West Bank – are separated by Israel, the region’s economic powerhouse.

Under terms derived from the landmark 1993 Oslo Accords, which delivered limited self-rule to the Palestinian Authority, three currencies are official tender in the two territories: the dollar, Jordan’s dinar and the Israeli shekel.

Today the Palestinian Authority government, Palestine’s biggest employer, pays its thousands of staff in shekels, as does the PMA, which regulates 15 banks operating in the West Bank and Gaza. Palestine may have a central bank of sorts but the PMA, founded in 1994, does not issue or administer its own currency.

A potent symbol of independence, a New Palestinian Pound was forbidden under the so-called Paris Protocol of 1994, an adjunct to the Oslo Accords. The Paris Protocol covering the Palestinian economy were only supposed to last five years, as peace and development supposedly advanced, ultimately to Palestinian statehood.

But 23 years after ratification, they remain in place. Palestinians favour the dollar and the dinar for savings and so-called ‘stored-value’ transactions such as property. But, overwhelmingly, the shekel is in daily use for up to 70% of everyday transactions, which pass through Palestinian banks regulated by the PMA and, eventually, are cleared by the BoI. Estimates vary of the total shekels circulating in Palestine, ranging from 10% to 25% of the currency issued by the Bank of Israel.

For many years the economy of Palestine was donor-supported, and the PMA lacked the capacity to administer its own currency. But a year into his initial four-year term as governor, Shawwa says that is no longer the case, as he prepares to move into new headquarters in Ramallah.

“Of course, I want Palestine to have a currency,” he says. “We have the expertise to manage it. I don’t mind seeing my signature on the pound. They [Israel] would not have these worries about their currency because the currency would not be crossing the border. When it’s the time to do it, I’m going to do it. We are much more self-sufficient now.”

Politically, that goal remains a long way away; Israeli and Palestinian central bankers have to manage the complex issues of Palestine having the shekel as legal tender.

The practical engagement between the central banks in Ramallah, Jerusalem and Tel Aviv might be something of a model for cooperation in these troubled parts but it is no less sensitive for it, particularly from the Israeli side.

The PMA is happy to talk openly about its relationship with the BoI, but the Israelis are rather less so. The BoI was initially reticent about the relationship between the two banks. “We are usually not that generous in providing information on the issues of the Palestinian economy, as they are very sensitive,” an official told Euromoney.

After we informed the BoI that a cooperative PMA was willing to speak, BoI handlers insisted on draconian terms before even considering a briefing about its side of the relationship with the PMA. Any background conversation, should the BoI even agree to one, would be conditional on the names of the BoI staffers whose job it is to liaise with the PMA being left out. The BoI as an institution could not be cited as a source in any way.

The sensitivity, an Israeli official confided, was as much about blowback from Israeli hardliners unhappy about the extent of the BoI’s contact with Palestinian colleagues in Ramallah as it was about ‘normal’ cross-frontier sensitivities.

The PMA, too, has tricky local issues to navigate. As PMA insiders describe it, the authority is obliged to work with the Israelis to keep the Palestinian banking system functioning and the wider economy lubricated. But getting too close to Israel risks credibility issues with Palestinians, particularly with the Hamas hardliners who control Gaza, where West Bank-based Palestinian banks have operations under purview from the Ramallah-based PMA.

“You cannot avoid politics but I’m not in a political position. I’m a technocrat. I would like to handle issues in that manner,” Shawwa tells Euromoney. “My two [BoI] counterparts, the governor Karnit [Flug] and the deputy governor also handle the issues away from the disputes and the political arena,” he says. “They are independent. They don’t have to do things they don’t believe in. That way they do their job much better.”

The shekel’s primacy in Palestine, along with Israeli control over Palestinian entry points, means that Israel and Palestine are effectively bound into a customs union, albeit one seen by many Palestinians as economic colonization.

Palestinian activists have also protested that Israel earns seigniorage from distributing its shekels in the Palestine territories. But the BoI rejects this charge, citing the current climate of near-negative inflation and interest rates it sets. In January, the BoI maintained its benchmark interest rate at a negligible 0.1%. “These days it’s the other way around, it costs a lot to produce and maintain the currency and you get nothing,” says an Israeli official.

Many Palestinians claim that the Israeli economy is dependent on Palestine, but that is also disputed by Israeli authorities, who point out that Palestine’s GDP is around 5% of Israel’s. Trade between the two sides is low-level and low-tech, extending little beyond basic foodstuffs and supermarket items. About 70% of Palestinian imports are from Israel, which buys about 80% of Palestinian exports. By contrast, Palestine accounts for less than 10% of Israel’s total trade. The Bank of Israel has estimated that around 90,000 Palestinians work in Israel, legally and illegally, and are paid less than guest workers from elsewhere.

The BoI likens its relationship with the PMA to the eurozone before 2014, where member state central banks have a supervisory role over their own local banking system, albeit one with a common currency. By treaty, Israel’s shekel is Palestine’s primary currency, but Israel has no formal regulatory authority over the Palestinian banks that handle it.

This division of regulatory responsibilities between the BoI and the PMA can throw up oddities, such as Palestinian bank branches located inside frontiers manned by Israeli security forces but administered by the PMA. By contrast, the BoI administers Israeli banks operating in contested Israeli settlements inside the West Bank.

But the shared interest in the shekel is such that each central bank expresses near identical anxieties – and often to each other – each time an unexpected external event occurs. That might involve the political elevation of a hardliner, a terror attack, military escalation, a withholding of taxes or political tensions over new settlements – anything that might threaten common cause.

“The focus has tended to be on the problems rather than on what works,” notes an Israeli official.

Security concern Israel’s primary concern is its own domestic security. The Israeli official says: “The system worked perfectly fine for decades and then things started to go wrong.”

He is referring to Gaza, separated by Israel from the West Bank and separated from mainstream Palestine by its politics since 2005, when Hamas prevailed in elections. Gaza is internationally recognized as notionally under the wing of the Ramallah-headquartered Palestinian Authority.

But since the ‘Battle of Gaza’ opposing Fatah and Hamas in 2007, the region has been controlled by Hamas. Fatah retained control of the West Bank. Committed to Israel’s destruction, Hamas is proscribed by Israel, the US and EU among many others as a terrorist organization. Israel bans its banks from dealing with more than 200 international groups and individuals, citing terror sponsorship or activities.

“For every truck that enters Gaza from Israel with, say, flour for bread, the most basic humanitarian goods, there is a guy from Hamas 200 metres from the checkpoint who takes a customs tax,” says an Israeli official. “Every transaction is financing Hamas.”

For the BoI, Hamas’ takeover of Gaza was a turning point in its relationship with the PMA. Hamas in Gaza has threatened and intimidated PMA officials and seized some of their assets. When the PMA moved to close Hamas-related accounts, a bank branch was bombed, while another had a hand grenade attached to its door.

PMA officials in Ramallah also have to cross Israel to regulate Palestinian banks operating in Gaza. Although born in Kuwait, PMA governor Shawwa is of Gazan background, which he says helps in his administration there.

But Hamas’ takeover of Gaza immediately became a problem for Israeli banks, which until then had maintained normal commercial accounts for Palestinian banks, clearing around NIS40 billion ($10.8 billion) annually for customers in both Gaza and the West Bank.

“Israeli banks don’t want to do business with Gazan banks, because they can be sued in the US, where they also have business,” explains an Israeli official. Israeli banks such as Bank Hapoalim and Discount Bank have progressively pulled back from these Gaza connections, doing business only with Palestinian accounts in the West Bank, under PMA control.

But that has excluded vast numbers of Palestinians transacting normal business and led to a dramatic slump in the already anaemic Gazan economy. Hapoalim and Discount have both found themselves facing allegations that they had violated US anti-money laundering and countering the financing of terrorism (AML-CFT) laws by allegedly providing a financing channel for Hamas.

In 2007, Jordan’s Arab Bank, which itself had been facing similar allegations in the US since 2005, filed a countersuit against the two Israeli banks, claiming that they too had been dealing with Hamas. The two Israeli banks denied the claims. The PMA has also been subject to legal actions in the US by the families of terror victims.

The threat of lawsuits heightened the Israeli banks’ concerns over links to Palestine and led them to refuse to clear transactions related to accounts based in Gaza. They also baulked at accepting cash, because of doubts about its provenance.

Spooked by international risk, particularly from US authorities, the Israeli banks lobbied to exit their Palestine business. According to an Israeli official, it became a question of balancing profit against risk: “It’s small business with a lot of risk. It’s half a million cheques a year, the value is not particularly large and the fees they take are small, but they are thinking each time one of those cheques could bring them a lawsuit, into a danger zone.”

According to deputy governor Shehadeh, these boycotts create problems for the Palestinians, who have excess shekels and a need to deposit them at their accounts in Israeli banks to keep basic trade ticking over.

Gazans, starved of an outlet for their shekels, moved to open accounts in the West Bank, which still had links to Israeli banks. With the risk, as they saw it, simply shifted, Israeli banks responded by progressively withdrawing from West Bank business, too.

“They weren’t sure of the provenance of the money, or the destination very often,” says an Israeli official.

But with no Israeli bank willing to accept Gaza-generated shekels, the BoI stepped up, agreeing to accept a portion of the mounting shekel pile. In 2009, Bank Hapoalim extended its Gaza ban to stop accepting cash from all Palestinian clients. As shekels stockpiled in Palestine, the BoI became the outlet and forwarded cash to the Israeli banks.

Palestinian banks maintain active accounts with Israeli banks to facilitate trade and business with Israel and beyond. But the ‘de-risking’ ban by Israeli banks soon saw stockpiles of up to NIS400 million a month accumulating in Palestinian banks.

The upshot of this de-risking is that Palestine has progressively been cut off from the international financing system, with a resultant impact on its economy. As Bank of Palestine’s CEO Hashim Shawa sees it, that is a problem for Palestine, but also for Israel. “A strong Palestinian economy is in the interest of both sides,” he tells Euromoney. “It’s jobs, it’s hope, it’s self-respect, it’s trade.”

The BoI seems to agree. “It’s a much more severe problem for the Palestinians,” says an Israeli official close to the central bank. “The Palestinian businesses don’t have an outlet to pay their importer who is sitting in Germany or whatever.

For Palestinians, it’s their daily activity which is impacted because they use the shekel. And the Middle East in general is affected.” The PMA’s deputy governor Shehadeh asks: “What is the alternative? How would we pay for our imports from Israel? “I say [to the Israelis] this is your currency, this is your shekel, your legal tender. When you issue a currency and it floats to our economy, you have to take it back,” he says. “I cannot ship it to India, I cannot ship it to Australia.”

The BoI found itself on the sharp horns of a dilemma. Its responsibility is to regulate – and respond to – Israeli banks that want to sever Palestinian connections, which generate little business. But BoI-issued currency is, by treaty, the main tender in Palestine, which gives the BoI a de facto say in keeping the Palestinian economy lubricated. “We have been between a rock and a hard place,” says the Israeli official.

“The reason why there is such high sensitivity of maintaining the relationship is because this would be dramatic for the Palestinian economy. And if it’s dramatic for the Palestinian economy, this would probably have a security impact on us.”

Adding to this combustible mix is the pressure applied on Israeli commercial banks from two directions: by Israeli hardliners who want to cut all contact and by Israel’s pragmatic centre to keep it going for fear of the security risk if the Palestinian economy implodes.

“There has been pressure on them for 10 years not to cut the relationship,” the official says. “They’ve stayed in the game very reluctantly, and there’s no foreign banks willing to step up and take their place.” On January 15 this year, there was a breakthrough.

Faced with a possible economic collapse in Palestine, the Israeli government decided to issue letters of immunity to legally indemnify Israeli banks. The decision followed a 10-month study by a working group led by Israel’s finance ministry with input from the defence, justice and foreign ministries, Israel’s intelligence bodies, as well as the PMA.

The decision came just days after a Palestinian from East Jerusalem drove a truck into a group of Israeli soldier cadets, killing four. But urged on by Israeli finance minister Moshe Kahlon, the panel recommended that Bank Hapoalim and Discount Bank be provided with full indemnity for two years should they face foreign legal action for dealing with Palestinian banks. The arrangement has the backing of US and EU authorities.

PMA governor Shawwa insists to Euromoney that the PMA adheres to the strictest observance of international AML-CFT laws, as do the Palestinian banks on his watch. He says the IMF and US Treasury have also advised the PMA to ensure strict international norms are followed.

“We have to present and defend the Palestinian banking system correctly,” he tells Euromoney. “That is extremely important for us and also for Israel. “That’s how trust builds up, and they [the BoI] are very confident we follow international best practices.”

As for the PMA’s ongoing contact with their Israeli colleagues, the PMA’s ‘resident encyclopaedia’, Shehadeh ranks current relations as close to warm as they have ever been.

“I would say eight (out of 10). “I always say: ‘Don’t speak politics to me; speak AML, CFT, Basel standards, international best practices.’ That’s it. I don’t accept anything below that. “Leave politics to the politicians,” he says.

“We are here to do business.”