As World War I approaches, Palestine is part of the crumbling Ottoman Empire, and both Zionists and Arab nationalists angle to establish states. The Zionists have an eloquent champion in Briton Chaim Weizmann, who realizes his country's importance in defining the postwar Middle East.
Though Britain previously declared support for Arab independence, the government considers the Zionists' call for a Jewish state. In 1917 the Balfour Declaration outlines conflicting goals: establishing a Jewish state in Palestine and preserving the rights of existing non-Jewish communities. The British are granted a mandate over Palestine, and Jewish immigration continues.
The Jewish community numbers about 400,000 when a group of Palestinian Arabs, frustrated by European rule and increasing Jewish influence, attack a Jewish bus. The incident escalates into a major rebellion. Britain, on the brink of World War II, needs Middle Eastern oil and seeks Arab goodwill. In 1937 Britain recommends partitioning Palestine into Jewish and Arab states.
Britain tries to safeguard Palestinian Arabs, as well as relations with strategic Arab nations, by limiting Jewish immigration to Palestine. European Jews try to flee the Holocaust; nearly six million are dead by war's end. In 1947 Britain refers the Palestine problem to the UN, which approves partition of the region into an Arab and a Jewish state. Arab leaders vehemently reject the idea.
A day after David Ben-Gurion proclaims the state of Israel, Arab forces invade. When armistice talks begin, Jewish forces control a larger area than outlined in the UN plan. The new state must maintain defense, set up infrastructure and services, and provide for thousands of new immigrants. With little private capital available, solving these problems falls to the public sector.
Israel seeks loans and grants, draws from domestic savings, and issues bonds to raise funds. The government imposes price controls and rationing and uses public money to establish housing and agriculture projects. The economy divides into three sectors: private, public, and Histadrut, a powerful organization of trade unions that controls much of the Israeli service sector.
Egypt's President Nasser nationalizes the Suez Canal. Britain, France, and Israel, which seeks an end to cross-border raids, move troops to the canal region. Under U.S. and Soviet pressure, they soon withdraw. Israel's economy continues to grow quickly, averaging 10 percent a year. But as public spending for defense and services grows, budget deficits increase.
Egypt asks UN troops to leave the Sinai, and Israel attacks. In six days, Israel takes the Golan Heights, the Sinai and Gaza, East Jerusalem, and the West Bank. The UN calls for Israeli withdrawal. The war convinces the government to begin a massive increase in defense spending. The Histadrut trade union organization moves into the industrial sector; it owns the state's largest electronics firm.
The 1967 victory causes an upswing in religious nationalism and puts about a million more Arabs under Israeli control. Exchanging land for peace holds little public appeal, despite occasional Israeli and Arab peace overtures. A cycle begins of guerilla raids by the Palestine Liberation Organization, founded in 1964, followed by Israeli retaliation. In 1969 Golda Meir becomes prime minister.
On Yom Kippur, Egypt and Syria launch a surprise attack against Israel; a UN cease-fire takes effect about three weeks later. While there is no clear winner, the war has a devastating impact on Israel: Six thousand are killed or injured; loss of equipment and decline in production and exports is almost $7 billion, equal to Israel's GNP; and the country's dependence on U.S. aid increases.
Economic growth stalls, and inflation approaches triple digits. Meir resigns in 1974. In May 1977 Israelis for the first time reject Labor-led government, and Menachem Begin of the Likud Party takes power. In November 1977 Egyptian President Anwar Sadat visits Jerusalem; an Israeli-Egyptian peace summit at Camp David follows in 1978. In 1979 the two countries sign a peace agreement.
Israel invades Lebanon to fight the PLO. Failures of the invasion coupled with economic difficulties at home lead to Begin's resignation in 1983; he is succeeded by Yitzhak Shamir. The 1984 elections are inconclusive, and Labor and Likud must form a "unity government," with Labor's Shimon Peres serving for two years as prime minister with Shamir to take office in 1986. Inflation hits 450 percent.
The unity government institutes successful market-oriented structural reforms. The exchange rate is devalued, subsidies are reduced, the budget is cut, and taxes go up. About a million, mostly educated immigrants arrive from the collapsing Soviet Union. The 1988 elections again fail to produce a majority party, and a unity coalition continues in power with Shamir as prime minister.
After the Persian Gulf War, a revival of the peace process helps open new markets for Israeli exports, and the decade sees an increase in foreign investment as well as strong economic growth. Israel gradually moves toward a more market-oriented economy, but government involvement remains high. Labor Party leader Yitzhak Rabin becomes prime minister in the 1992 elections.
In September 1995, Rabin and PLO Chairman Yasser Arafat sign a historic agreement broadening Palestinian self-government. In November 1995 Rabin is assassinated by a Jewish extremist. Peres becomes prime minister and vows to carry on Rabin's peace policies. But the debate grows bitter, and violence on both sides continues. Likud leader Binyamin Netanyahu wins the 1996 elections by a narrow margin.
Netanyahu's coalition government is in jeopardy. He calls an election, and Labor's Ehud Barak becomes prime minister. In July 2000 a U.S.-hosted summit to discuss issues including the status of Jerusalem and Israeli settlements in the West Bank and Gaza fails to produce an agreement. Unrest seethes in the occupied territories. Economic growth hits 6.2 percent, with per capita GDP reaching $17,700.
Stressing security and control of Jerusalem, Likud leader Ariel Sharon defeats Barak in a special election. As the world economy falters and regional violence increases, economic growth drops to 0.5 percent in 2001. Palestinian attacks and Israeli counterattacks escalate. The cycle of violence impedes economic performance in both Israel and the territories.
Politics trumps economics as the standoff between Prime Minister Ariel Sharon and Palestinian leader Yasser Arafat continues amid ongoing violence and regional uncertainty. The collapse of investment and tourism and the military drain on resources has led the Israeli economy into deep recession, with GDP contracting 1 percent in 2002. Sharon is reelected in 2003 on a platform that emphasizes security.
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