Israeli Banks Delay Exit from Palestinian Financial System Amid Political Stalemate
Israeli correspondent banks, acting as the financial lifeline for the Palestinian economy, were set to cease operations on September 1st, a move that would have severed the primary channel for funds between Palestinian and Israeli bank accounts. However, the deadline was extended after Bank of Israel Governor Amir Yaron personally intervened, urging the banks to continue providing services until January 1, 2027. The Israeli banks were initially drawn into this role following the 1993 Oslo Accords and the subsequent Paris Protocol, which established economic ties between Israel and the Palestinian Authority. For years, these banks have sought to exit this arrangement due to perceived risks.
In 2017, an agreement was reached where Israel committed to establishing a government company to manage correspondent banking services and provide legal and financial indemnification against lawsuits. Despite the company being operational with staff for four years, the necessary legislation to enable its full function has been stalled by the current Israeli government. Finance Minister Bezalel Smotrich has indicated he will not advance the legislation, reportedly due to concerns about his voter base. Prime Minister Benjamin Netanyahu has not pressed the issue, leaving a matter deemed critical for Israel's security in limbo due to election considerations.
Governor Yaron's intervention, while averting an immediate crisis, has placed his personal credibility on the line. He has pledged not to request further extensions beyond January 1, 2027, and will support the banks' withdrawal if legislation remains absent. This temporary reprieve, facilitated by administrative extensions of indemnity letters, does not address the core risks that concern the banks, particularly potential lawsuits in U.S. courts and decisions by foreign banks to reduce exposure to Israeli banking. The situation is compounded by recent international trade restrictions on goods from Israeli settlements, highlighting the potential for severe diplomatic and economic repercussions should the Palestinian banking system collapse.
Looking ahead, three scenarios are possible post-election. A new government could pass the necessary legislation, resolving the issue. Alternatively, if Netanyahu forms a government, he might advance the legislation, recognizing the strategic risks of a disconnected Palestinian financial system, including the potential for a Palestinian currency and loss of Israeli oversight on financial flows, including those potentially funding terrorism. The most probable scenario, however, involves continued political deadlock and a second round of elections, leaving Israel in a prolonged caretaker status. In such a situation, the caretaker government would be unlikely to pass the critical legislation, and the banks, facing uncertainty beyond the January 1, 2027 deadline, are likely to withdraw services even before that date, creating a banking vacuum for months before an alternative could be established.
