It seems that Governor of the Bank of Israel Prof. Stanley Fischer really wanted to participate in the Passover celebrations by deciding to give a gift to the people of Israel: he took a break from the necessary interest rate hikes and kept the rate for May unchanged at 3%, thereby postponing by a month additional needed measures in the housing market, which continues to boil. The question is whether the gift will be too costly.
Fischer's decision is worrying given the slew of macroeconomic figures coming in, especially the growth and inflation figures. On the real side, the economy is growing at a pace similar to China and India, and the unemployment rate has reached a historic low. Moreover, exports - a subject dear to Fischer's heart - rose 11% in the first quarter, reflecting strong foreign demand. Israeli exports are competitive, notwithstanding the shekel's rapid appreciation.
On the prices side, the figures are also absolutely clear: inflation has reached 4.3%, well above the price stability ceiling of 3%. Belying the impression that prices in Israel are driven by housing - since the housing item in the Consumer Price Index (CPI) measures rent, not home prices - inflation excluding the housing item is also above the ceiling at 3.6%.
Just as important, inflation expectations indicate a lack of confidence in the Bank of Israel's ability to control rampant inflation, which is destroying Israelis' income in real terms. The turmoil in public sector labor relations, which will sooner or later spread to the business sector by strong unions, merely highlights the need to restrain soaring prices.
A broad perspective clearly indicates that Fischer should continue raising the interest rate, but he stopped at the last moment because of the dollar, which has weakened against other currencies, the shekel included, in the past two weeks. Fischer therefore signaled a lack of consistency and a lack of determination. It seems that he still believes that it is possible to achieve contradictory targets simultaneously - and use a single instrument.
There is no solution other than higher interest rates to the problems that the Israeli economy now faces. Had Fischer announced new restrictions on the housing market, we could at least say that he was dealing with part of the problem - the real estate bubble and its macro repercussions. But that did not happen either.
It is true that Fischer can always claim that he waited another month for the picture to clarify. He also has no obligation to raise the interest rate by 25 basis points every month in 2011 - which would result in an interest rate of 5% by the end of the year. That is why he can take a time-out from time to time. Maybe in May, God will raise the dollar with a strong hand and outstretched arm, in which case it will be easier for Fischer to raise the interest rate and annoy exporters. But the dollar's trend in international markets is clear and just as problematic.
Published by Globes [online], Israel business news - www.globes-online.com - on April 26, 2011
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