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ECONOMIC POLICY
PROGRAMME
TOWARDS AN ECONOMICALLY-VIABLE
PALESTINIAN STATE:
The Regulation of External Trade
Monday May 23, 2005
Grand Park Hotel, Ramallah
May 2005
Economic Policy Programme
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Future Trade Policy Options:
NDTP and Keeping Options
Open for an FTA with Israel
Options for Tariff Policy for
Palestine
Jaime de Melo, Jean-Marie Grether, L Alan Winters
Professor Jaime de Melo
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• Palestine’s Current Trade Policy
• Background on Palestinian economy
• International Experience
• Quantifying Low and Uniform Tariffs
• Governance of Trade Policy
• Free-Trade & Two-track trade regime (EPZ)
• Key “Recommendations”
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Palestine’s Current Trade Policy
Paris Protocol (PP) formalised q-CU with Israel
• Tariffs set by Israel with few exceptions (Lists
A1, A2, B)
• Israel transfers customs duties, VAT and
purchase tax on goods destined for WBG, to
PA (subject to administration fee a-nd for long
withheld)
• Very limited autonomy to set own trade policy
 though agreements with EU, EFTA and many others
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Current Palestinian Tariff Structure
Analysis of applied MFN tariffs
West Bank and Gaza (1999) HS-8
Israel (1999) HS-8
Number of tariff lines
8967
9850
zero lines (%)
49.93
43.10
West Bank and Gaza (1999) HS-8
Israel (1999) HS-8
Mean (%)
6.4
6.5
West Bank and Gaza (1999) HS-8
Israel (1999) HS-8
Agriculture
Mean (%)
19.2
19.8
CVAR
2.2
2.1
CVAR
1.8
1.7
peaks (%) specific tariffs (%)
3.42
13.1
3.00
13.4
mean non-zero
lines (%)
12.9
13.0
Industry
Mean (%)
4.6
4.7
CVAR
1.1
1.3
Notes:
Tariff peaks - Tariff rates that exceed three times the simple average.
Mean - Simple (unw eighted) average
CVAR - Coeffieicne of Variation (Standard deviation divided by simple mean.)
Source: EPPIII - Options for a Tariff Policy for Palestine, February 2003, Table 3, page 33
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PP: Agreements vs. Reality
Revenue loss through indirect imports
– Approx 1/3 of imports from Israel are indirect = loss of 3% of
GDP
Closures and Restrictions
– Goods & People transaction costs 
– …and relative profitability of exports  (=60% tax on exports in
illustrative example below!!!)
pm* (1  t )(1   )
rel prof  *
; t  0.064; s  0,   0.2
px (1  s)(1   )
+Destruction of Infrastructure & equipment
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Economic Policy Programme
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PP: “Reality” Implications
Israeli border measures
–
–
–
–
Generate uncertainty
Often captured by interest groups for protection
Impede free flow of goods
Raise costs and discourage investment
Palestine currently impeded from drawing benefit
from economic relationship with Israel
…but economic considerations suggest that
Palestine should pursue close integration with
Israel in the future in order to maximise gains
from trade.
May 2005
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Designing Palestine’s Tariff policy
Tariffs (and exchange rate policy) TRANSMIT
PROFITABILTY SIGNALS TO THE ECONOMY
3 Reasons for a low and uniform tariff policy
►Widely accepted gains from trade (no sustained
growth by countries with ‘bad’ trade policies)
►Characteristics of the Palestinian economy
►Other countries have done it (international
experience)!
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►Gains from Trade: What we know
• Big for small economies
• For small economy, gains do not depend on
(reciprocal) preferential market access
• Channels by which trade raises income
 Specialization (marble or T&A instead of cars)
 exploitation of economies of scale
 expands variety of inputs and consumer products
 helps achieve a more competitive market structure
(FT= substitute for competition policy in a small economy, e.g. HK)
 greater access to knowledge and know-how
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►Characteristics of Palestinian Economy
►High & variable transaction costs ( not suitable
for active industrial policy = “pick winners”)
– Difficult to predict pattern of trade
– Difficult to compete on world markets
– Protection would ‘tax’ exports further
►Financial transfers from RoW large ( 20% of GDP)
– Non-tradables expensive for consumers, profitable
for producers ( tradables activities less
profitable)
►Trade taxes not key to raise govt revenue
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►International Experience
• Liberal trade policy contributes to better policies in general
 less potential for corruption
 less volatile macro policies
• Openness aids flexibility
 better signals from world markets
 more rapid adjustment to external shocks reduces
overall adjustment costs
• Links between openness and performance
 Causality & relative strength of links hard to establish
 …but no post WW2 evidence that openness hurts growth
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Quantification: 260 products (98)
for EU, Israel, US, RoW
• Effects of tariffs on income: (-) = loss (+) =
gain
• Costs of protection = Sum of:
Average tariff level (-)
Variance in tariffs (-)
Terms of trade gain (+) / loss (-)
Market access to FTA partner (+)
Market access by FTA partner (-)
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• All scenarios start from current tariff structure
(6.4% average):
– And Maintain FTAs with EU and US
 Scenario 1:  uniform 5% tariff
 Scenario 2: Go to a uniform 10% tariff
 Scenario 3: Go to free trade (0% tariff)
 Scenario 4: Go to a uniform 5% tariff with an FTA with Israel.
Ranking (quite robust) of scenarios (of which 2%
recovery of tax leakage:
(3)=[2.9%] > (4)=[2.5%] >(1)=[0.9%]>(2)=[0.2%]
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Caveats on simulations
(Effects not captured in quantification but important )
• Additional gains from removal of NTBs (not
modelled)
• Cost of implementing duty drawback scheme
• Loss to specific producers (e.g. agriculture)=
Important: needs compensation.
• Adverse implications of multiple FTA (costs of
Rules of origin)
May 2005
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Governance of Trade Policy
Correct bias towards interests of producers
and away from interests of consumers
Need for contestability (remove rents)
Dangers of anti-dumping duties
– Safeguard law better
Dangers of variances in tariffs (lobbying, etc…)
…In sum: Trade policy : “business friendly
but not business owned”
May 2005
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►Free Trade (0% Tariff) Regime?
Additional advantages of free trade regime
–
–
–
–
Signalling
Avoidance of Trade diversion
Remove incentives for Rent-seeking activity
No need for Duty-drawbacks and RoO
Objections to free trade regime
– Loss of bargaining power (not applicable here…)
– Real exchange rate adjustment (how to bring about real
depreciation)
– Adjustments in agriculture (substantial as t>10%)
– Effects of possible adverse Israeli reaction
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►Two-Track Regime (=EPZ for Gaza
and low & uniform elsewhere)
Successful strategy elsewhere (e.g. Mauritius)
Policy likely to get more support (business can
reinvest profits from protected sector) + less need
for adjustment
A signal and incentive to attract FDI
 Spillovers (technological acquisition) from RoW
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Key “recommendations”
• Low and uniform tariff best for Palestinian
economic growth and future prosperity
• WTO binding at prevailing rate (not above!)
• Palestine’s unique opportunity: take
advantage and implement this policy from
outset upon statehood, (now to Gaza?)
…. But beware of short term costs (especially
on the poor in agriculture). To address
through donor funded adjustment and
expenditure-led compensation (not tariffs)
May 2005
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ECONOMIC POLICY
PROGRAMME
TOWARDS AN ECONOMICALLY-VIABLE
PALESTINIAN STATE:
The Regulation of External Trade
Monday May 23, 2005
Grand Park Hotel, Ramallah
May 2005
Economic Policy Programme
19