Palestinian officials are warning of a looming economic crisis in the West Bank as two Israeli banks threaten to sever critical financial ties with their Palestinian counterparts. The move could disrupt the flow of goods and services essential to the territory’s economy, raising fears of a commercial blockade with far-reaching consequences.

Israel Discount Bank has officially informed Palestinian banks that it plans to end correspondent banking services by September 1, a letter obtained by officials confirms. Bank Hapoalim is reportedly considering a similar course of action. Correspondent banking relationships enable the processing of international transactions, including imports of fuel, food, water, electricity, and other vital supplies. Palestinian trade with Israel accounts for about 55 percent of imports and 85 percent of exports, making these ties crucial to the West Bank’s economic stability.

The anticipated cutoff stems from the Israeli banks’ concern over potential exposure to lawsuits related to money laundering and terrorism financing. They have demanded indemnification from the Israeli government to shield them from legal and financial risks. These protections have historically been granted through letters of guarantee, but recent Israeli government reluctance—especially from Finance Minister Bezalel Smotrich—has resulted in short-term extensions and increased uncertainty. Smotrich has linked the issuance of these guarantees to political concessions, including the approval of new West Bank settlement outposts.

Israeli authorities acknowledge the gravity of the situation. The finance ministry stated that talks are ongoing to find a “safe and responsible manner” to maintain these banking relationships, recognizing their importance for regional economic stability. However, the government also insists that the Palestinian Authority improve financial transparency and auditing to meet international standards, citing concerns over incomplete oversight.

Palestinian officials, supported by international financial institutions, convened a meeting in Ramallah on Thursday to address the crisis, urging foreign governments to intervene. Feras Milhem, former governor of the Palestine Monetary Authority, warned that severing correspondent banking ties would effectively impose a crippling commercial blockade, potentially pushing the West Bank into economic collapse.

Experts disagree on the extent of the Palestinian financial system’s ties to militant groups. An aide to Smotrich accused the Palestinian banking sector of enabling terrorism and money laundering. In contrast, others, including former U.S. Treasury officials, highlight significant efforts by Palestinian institutions to prevent militant groups like Hamas from accessing financial resources.

Efforts to establish a long-term solution have stalled. Israel’s 2019 attempt to create a government-backed intermediary company to manage these transactions has not materialized, reportedly due to political inertia and the current Israeli parliamentary recess amid upcoming elections.

Palestinian authorities have explored alternative mechanisms, such as currency swaps or shifting away from using the Israeli shekel, but these options carry substantial risks and, at best, offer only temporary relief. Analysts warn that a severance would intensify an already strained West Bank economy, which has been suffering under Israeli punitive measures since the Hamas-led attack on southern Israel in October 2023. These measures include the withholding of tax revenues and revocation of work permits for West Bank residents employed in Israel.

A disruption in banking services could lead to shortages of fuel, electricity, and water, nearly all of which are supplied from Israel, and may give rise to a cash-based black market prone to exploitation by militant groups, compounding security concerns.

“This is not only a humanitarian issue, it’s a security issue,” Milhem noted, underscoring the gravity of the potential fallout should Israeli banks follow through on their threats.