Israel

Growth expected to rise markedly in 2027

Growth is expected to strengthen significantly in 2027, in line with the expected de-escalation of the regional armed conflict that began in March 2026. An easing of supply constraints is expected to support growth, in addition to the return of reservists to the labour market (the latter account for around 5% of total working hours), which will improve consumer and business confidence and trigger a recovery in private consumption (48% of GDP) and investment (25% of GDP). Despite repeated geopolitical shocks to growth, the labour market remains relatively tight, with unemployment below 3% in May 2026. Household balance sheets have also proved resilient. As at the first quarter of 2026, household debt-to-GDP ratio stood at 42.9%. This reflects a stable trend, remaining below the historic peak of 44.5% recorded in June 2022. Mortgages continue to drive this leverage, accounting for around two-thirds of the total debt. Overall, current ratio indicates that the financial vulnerability of Israeli households remains low. Investment is also expected to recover, albeit more gradually than consumption. Persistent geopolitical uncertainty and fiscal policy uncertainty may continue to delay some corporate investment decisions. Nevertheless, the ICT sector is expected to remain the main driver of economic growth (accounting for around 20% of GDP), benefiting from sustained global demand for cybersecurity, software, artificial intelligence (AI) and defence-related technologies. At the same time, the repair of housing and infrastructure damaged in conflicts, together with the resumption of previously delayed construction projects and a gradual recovery in tourism (around 3% of GDP), should provide additional support.

Inflation is expected to remain within the central bank’s target range of 1-3%. This should allow for temporary inflationary pressures associated with higher energy costs and constraints on domestic production related to conflict. A key disinflationary factor in 2027 will be the normalisation of energy and transport costs. If regional tensions ease and global oil prices stabilise, the direct contribution of fuel and electricity prices to inflation should decline. Low inflation could prompt the central bank to continue cutting its leading interest rate (at 3.5% in August 2026) in 2027, which is expected to stimulate economic growth.

Budget deficit should narrow, and the current account surplus widen

The fiscal deficit is expected to narrow gradually in 2027 as temporary conflict-related spending is expected to ease and stronger economic activity is set to boost tax revenues. The 2026 budget includes an additional NIS 32 billion (approximately USD 11 billion) in defence spending alongside a NIS 13 billion contingency reserve for potential military needs. While operational military expenditure is expected to decline in 2027 as active hostilities subside, defence spending is likely to remain above its pre-war level amid persistent regional security risks. On the revenue side, the recovery in domestic activity, helped by the full-year impact of revenue-enhancing fiscal measures introduced in the 2025 and 2026 budgets, will support tax revenue. On that score, stronger private consumption is expected to boost VAT receipts, while improving corporate profitability and a resilient labour market should support corporate and personal income tax collection. In addition, the rise in imports driven by the recovery is likely to increase customs revenues. Last, higher national insurance contributions, together with some previously implemented revenue-enhancing measures (including increasing the VAT rate from 17% to 18%) and scaling back selected tax exemptions should continue to support government revenues throughout 2027. These measures are aimed at financing higher defence spending. However, downside risks remain regarding the fiscal outlook. Renewed escalation or a prolonged continuation of the conflict would likely require additional defence spending beyond current budget assumptions, including higher operational military costs, reserve mobilisation, compensation payments and reconstruction expenditure. Refinancing risks are mitigated by a favourable public debt structure, with the debt predominantly held by domestic investors (80-85%) and an average maturity exceeding five years.

The current account surplus is expected to gradually rebound in 2026 and 2027, driven by the moderate domestic demand (in 2026), continued strength of high-value service exports, and a gradual recovery in tourism (usually around 3% of GDP). Services consistently account for over half of all Israeli exports, with high-tech services, specifically software, cybersecurity, and scientific research and development, making up around 75% of total service exports. At the same time, an easing of the regional conflict should support the gradual recovery of tourism receipts and facilitate the normalisation of goods exports led by high-tech (electronic components, electrical and data processing machinery, telecom and broadcasting equipment, radar, aircraft parts etc.), precision devices (optical, laser, measurement and checking, medical, defence, aviation etc.), chemicals (technical plastics, fertilisers, pharmaceuticals), gemstones, and energy (around 7.5% of total goods exports). The continued appreciation of the real effective exchange rate could weigh on the recovery in tourism by reducing Israel’s price competitiveness, while the impact on highly specialised technology exports will remain limited. External accounts should also continue to benefit from substantial natural gas exports from the Leviathan, Tamar and Karish fields. All of this is likely to more than offset the expected increase in imports of consumer foods and capital equipment due to stronger domestic demand. The sizeable surplus in trade in services more than offsets the deficit in trade in goods. Meanwhile, the primary income deficit, reflecting the repatriation of profits by foreign-owned global technology companies that exceed Israeli institutions’ earnings on their assets abroad, is largely mitigated by the secondary income surplus supported by transfers from the diaspora and US assistance.

Persistent geopolitical risks

Israel’s geopolitical outlook remains closely tied to managing cross-border challenges, maritime security and strategic alliances. Key priorities include securing the northern frontier along the Litani River corridor, containing hostile regional supply lines, and establishing stable governance frameworks in Gaza and the West Bank to reduce defence spending. Concurrently and paramount for national defence, Israel must mitigate direct tensions with Iran, particularly regarding the scale-up of its nuclear programme, and its regional proxy networks. Protecting critical maritime trade routes, including the Bab-el-Mandeb Strait, is vital to ensure trade continuity, while maintaining strong ties with US and European markets enables inflows of foreign direct investments (around 5% of GDP in 2025 and recovering) and of related components in the high-tech sector. Last, while the pace of normalisation under the four existing Abraham Accords continues to vary, accelerating the rapprochement with other key Gulf and African partners such as Saudi Arabia represents a significant opportunity to establish a cooperative regional security and economic framework.

Domestically, political and social tensions are likely to remain high ahead of the general election scheduled for 27 October 2026. The electoral debate is expected to focus on the conduct and aftermath of the conflicts, and the role of the judiciary and other institutions. These issues, together with cost-of-living pressures, are likely to sustain political polarisation and could complicate the formation of a stable governing coalition after the election.

Last updated: August 2026