The U.S.-Israel aid dilemma.

• Author: Zakheim, Dov S.

On June 19, 2016 the Israeli cabinet approved an additional 82 million shekels (about $20 million) for Jewish settlements in the West Bank. At roughly the same time, it was reported that President Obama was seeking to phase out the Offshore Procurement (OSP) program that permits Israel, unlike any other country, to spend just over 26 percent of its total aid package on indigenously produced weapons, equipment and other military products. That program currently totals $815 million, more than twice what the United States spends on any other country, bar Egypt. It has enabled Israel to become a major international arms supplier, at times even competing with American firms for third-country contracts.

There was no linkage between the two announcements. But there should be. Money is fungible, and the money that Washington provides Israel for domestic defense-industrial spending allows Jerusalem to divert funds from its defense-technology accounts to support its settlement projects in the West Bank.

Estimates of just how much Israel spends to support West Bank settlements vary widely, in part because the Israeli Finance Ministry buries its funding of settlements in a variety of accounts. A conservative estimate of spending on West Bank settlements in the past few years amounts to no less than $250 million annually. It is that sum that is indirectly provided by the United States by means of OSP funding.

Israel was first granted Foreign Military Financing (FMF) for domestic expenditures in 1977, under an agreement reached two years earlier, when Jerusalem asked for and received permission to use $107 million in FY 1977 FMF funds to develop the Merkava tank (added to the Israeli arsenal in 1979). Several years later, Israel asked for a similar waiver to develop the Lavi multipurpose fighter aircraft, and Congress responded with legislation allowing Israel to spend $250 million of FMF in Israel to develop the Lavi.

The United States, after initially supporting the Lavi, had by 1985, shifted its position and increasingly opposed its production. As the cancellation of the Lavi became a realistic prospect, Congress enacted legislation that permitted Israel to expend OSP funds on programs other than the Lavi, thereby creating other claimants for these dollars. When the Lavi was cancelled in August 1987, the United States agreed to defray Israel's termination liabilities with its indigenous contractors, even though the largest of them, Israel Aircraft Industries, was a government-held corporation (for a time, its chief executive officer, David Ivri, also served as director-general of the Ministry of Defense). In any event, the Congress went along with the request and agreed to raise the FMF earmark for offshore procurement for FY 1988 to $400 million to defray the cancellation costs of the Lavi program. The Reagan administration agreed to maintain the OSP program at this higher level. Since FY 1988, the Offshore Procurement program has been incorporated into the annual Foreign Assistance Act.

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The OSP provision remains unique to Israel; it is not available to any of America's other allies and friends worldwide. Moreover, with the passage of time, OSP has come to consume an ever-larger portion of military assistance to Israel. By 1991, OSP spending in Israel amounted to $475 million, or about 25 percent of the total level of military assistance to Israel. Beginning in FY 2009, the Congress approved legislation that enabled Israel to spend 26.3 percent of the foreign military-assistance funds to support its indigenous defense industry.

Israel was once a...