Goldman Sachs predicts in monthly foreign exchange update that the Bank of Israel will gradually raise the interest rate to 3% by the third quarter of 2010, from its current level of 0.75%. Goldman Sachs analyst Ahmet Arkali says that the Bank of Israel will raise interest rates sooner than Western countries, which will open interest rate differentials and help cause the shekel to appreciate against both the dollar and euro.
Arkali also revised his shekel-dollar exchange rate forecasts. He now predicts that the shekel-dollar exchange rate will be NIS 3.60/$ in three months, down from his previous forecast of $3.75/$; he predicts that it will fall to NIS 3.55/$ in six months, compared with NIS 3.50/$, and that it will be NIS 3.60/$ in twelve months, unchanged from his previous forecast. Goldman Sachs' fair value for the shekel is NIS 3.81/$. The Bank of Israel set the shekel-dollar representative exchange rate at NIS 3.718/$ on Friday.
Arkali sees the shekel-euro exchange rate at NIS 5.58/€ in three months, NIS 5.50/€ in six months, and NIS 4.86/€ in twelve months. The Bank of Israel set the shekel-euro representative exchange rate at NIS 5.528/€ on Friday.
Arkali states, "The shekel has traded stronger on the back of the recent risk rally in global markets and the move in the euro-dollar exchange rate, but inflation remains sticky, and in response the Bank of Israel has started removing the excess stimulus it provided during the crisis."
Goldman Sachs notes that Israel's economic growth turned positive during the second quarter of 2009, after slowing significantly in the two preceding quarters. Arkali cites aggregate demand stabilization and inventory build-up as the reasons for the turnaround, and that exports continue to show strong recovery, both annually and on a sequential basis.
Goldman Sachs believes that the Bank of Israel will make more interest rate hikes at a "measured pace" to ensure that it does not "prematurely not prematurely arrest Israel's budding economic recovery." It will also continue to intervene in the foreign currency market in an effort to check the shekel's appreciation.
"But pushing rates and foreign exchange in opposite directions runs the risk of undermining the credibility of the inflation targeting framework and is therefore unsustainable over the medium run. We expect the Bank of Israel to let go of foreign exchange eventually, and focus on formal inflation targeting and bringing rates gradually to a more neutral 3% level, within the next 12 months. This should in turn result in a further flattening of the shekel curve and a stronger currency," writes Arkali.
As for Israel's balance of payments, Goldman Sachs says, "The current account balance is likely to post a small surplus for the next few years. High frequency trade data now show a sequential rebound in Israel's exports, and while bills of imported commodities should rise as well, net exports are likely to improve over the coming quarters. However, the capital account remains strong, and continuing portfolio and foreign direct investment flows should continue to provide fundamental support to the shekel.
Published by Globes [online], Israel business news - www.globes-online.com - on October 18, 2009
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