Sharp drop in GDP in Q2 not only due to the war with Iran; Gaza war poses growth risks ahead

ISRAEL - In Brief 18 Aug 2025 by Sani Ziv

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Preliminary data for Q2 GDP show an annualized contraction of about 3.5%. The decline reflects the impact of the Israel-Iran war at the end of the quarter, which led to a partial shutdown of the economy in the last two weeks of June. Compared to a year earlier, GDP increased by 1.6%, but relative to the period before the war, GDP was 0.4% lower. We tend to focus on the business sector’s output, which contracted by about 6.2% in the second quarter and remains 3% below its pre-war level. This contraction largely reflects the mobilization of workers into reserve duty, which in turn increased output in the public sector. The result has been a sharp decline in investment, which fell by roughly 12% in the second quarter and is now 10% below its level two years ago. Exports also remain on a troubling path, contracting by 7% (annualized) in the second quarter, following a 2.2% drop in the first quarter. Both goods exports and services exports, particularly high-tech services, registered declines. While the war clearly disrupted Israel’s trade flows, the second-quarter data suggest that the economy is sliding into a dangerous slowdown. Private consumption also continued to weaken, declining by 4% (annualized) in Q2, after a 6% drop in Q1. Consumption is now only about 2% above its pre-war level, implying a fall in living standards and in per capita consumption. Although part of these declines reflect the temporary halt in activity during the fighting, the prolonged war in Gaza is weighing on economic conditions. Looking ahead, a rebound is expected in the third quarter. However, the renewed mobilization of reservists and the continuation of the Gaza operation are likely to cons...