The West Bank and Gaza (WBG) have been occupied by Israel since 1967. As a result, the Palestinian economy has experienced a deep integration of its factor and goods markets with the richer economy of Israel. The nature of such an integration remains unclear, as it might indeed theoretically lead to very different patterns. Naqib (2000) distinguishes two opposite set of theoretical effects of the integration between a large, advanced and rich economy with a small, poor and underdeveloped economy: favorable repercussion is an increased demand for the products of the small economy, a diffusion of technology and knowledge, as well as other spread effects, resulting from the geographical proximity to a large market leading to subcontracting, joint ventures and coordination in tourism and other services. Unfavorable repercussion arises from the disappearance of many industries in the small economy, its confinement to producing low-skill goods and the emigration of a sizeable segment of the labor force to the neighboring country, as well as to other countries. The empirical literature on the net impact of Israeli occupation remains also scarce. Some authors suggest that the occupation encouraged technological transfers and investments in WBG. But other authors rather suggest that the opened access of the Israeli labor market to a large and cheap Palestinian labor force was the main driving force explaining the observed convergence in per capita incomes since 1968. The two phenomenon are not necessarily exclusive, but characterize very different models of development: in the former case, GDP growth is encouraged by innovation, competition and the development of productive capacities, notably for export markets; in the latter case, it is rather spurred by the demand for non-tradable goods, fuelled by workers' remittances. Following an econometric approach, our paper aims at quantitatively assessing the determinants of economic growth in WBG. The observation of growth patterns for the period 1968-2000 suggests that growth was mainly fuelled by factor accumulation. Conversely, productivity growth hardly contributed to GDP growth, and Oslo agreements did not radically changed the situation. Besides, the decomposition of income convergence patterns with Israel suggests a rather unusual phenomenon of divergence in productivity. In other words, Palestinian growth under occupation was transitional rather than sustainable, as mostly driven by factor accumulation. On the other hand, technological transfers from Israel, economies of adaptation and innovation, and economies of scale that could have been encouraged by a larger potential export market remained extremely scarce all over the period of occupation. Our results finally suggest that the degree of integration between the two economies, although highly variable during the period, cannot simply explain this weak performance. Patterns of productivity divergence remain apparent even once controlled for the degree of economic integration. Therefore, lifting the restrictions on the movement of Palestinian people and goods between WBG and Israel - while certainly helpful and necessary to restore minimum incomes levels - is probably not sufficient to foster domestic growth in a sustainable manner. In light of these results, two alternative ways of development might therefore be envisaged. A first one, in which decision makers will try to maximize the benefits of integration which have been observed in other parts of the world (e.g. following the creation of the European Union). This might notably necessitates implementing measures to (i) encourage Israeli investments (public and private) in West Bank and Gaza; (ii) facilitate the transfer of Israeli technologies to WBG; (iii) reduce barriers to access to higher positions for Palestinian workers in Israel; (iv) reduce transaction costs to favor trade integration. Several measures had been initiated in this regard during the Oslo period, like the development of industrial estates to promote Israeli-Palestinian private joint ventures, but much remained to do in this domain as well as in all the other domains above-mentioned. A second way of development would consist in eliminating the current negative aspects of integration by simply disintegrating the two economies. This would at least require to grant greater autonomy to the Palestinian authorities in their decision making, and provide them with the physical (trade infrastructure) and legal means (trade policies) to maximize the gains of a more direct integration into world markets.

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