The depreciation of the shekel is not stopping. During yesterday’s trading, the shekel-US dollar rate surpassed NIS 3.8/$, although the representative rate was set below that level, at NIS 3.7940/$. The representative rate has risen 2.18% so far this month, and by 7.18% since the beginning of the year. It is at its highest level since 2017, apart from two days in March 2020, at the beginning of the Covid-19 pandemic.
So far this morning, the shekel-dollar rate has fallen back a little further, by 0.28%, to NIS 3.7835/$.
Against the euro, the shekel has depreciated by 1.62% so far this month, and by 10.24% since the beginning of the year. In the representative rate against the basket of currencies of Israel’s main trading partners, the shekel has weakened by 1.4% so far this month.
The risks of a weakening currency are well-known to Israeli consumers, principally the fear of more expensive imported products, which affects everyone’s pockets. The depreciation of the shekel thus indirectly contributes to inflation.
The Bank of Israel says that Israel’s high inflation rate and the loss of value of the shekel make economic decision making more difficult: "When inflation is high, since money continues to lose value, the ability to make correct economic decisions is harmed - big, complicated decisions by businesses and financial institutions, long-term decisions by the government, and simple, everyday decisions by each one of us."
How serious is the situation?
In its Monetary Policy Report for the first half of 2023, the Bank of Israel cautiously estimated that the extra depreciation of the shekel had added at least 1% to inflation.
The risks to the shekel come from several different directions, both internal and external. The judicial overhaul promoted by the government and the protests against it, and the uncertainty about the next steps, are to a large extent responsible for the negative sentiment, beyond the strengthening of the US dollar on world markets. Among other things, financial institutions in Israel have raised their foreign currency exposure by about 22% over the past year. In addition, the deterioration in the security situation and the murder of three Israelis in Judea and Samaria within a few days are not helping the local currency.
Another factor weighing on the shekel is the fact that it is not known who the next governor of the Bank of Israel will be. The current governor, Amir Yaron, will finish his five-year term at the end of the year, and at present it is not clear whether he will want to continue in the post for another term. Nor is it certain whether Prime Minister Benjamin Netanyahu, who, in effect, chooses the governor, wishes to see Yaron continue in the role, after the latter’s statements interpreted as critical of the judicial overhaul.
Bank Hapoalim chief markets strategist Modi Shafrir recently held meetings with senior people in the financial markets in London, and he said the other week that "the question of the identity of the next governor of the Bank of Israel arose at almost every meeting, with some of the people we spoke to seeing the uncertainty about who the next governor will be as raising Israel’s risk premium to some degree."
Chen Herzog, chief economist of BDO Consulting Israel, reminds us that the governor of the Bank of Israel is not only in charge of monetary policy, but is also the chief economic adviser to the government, "and in a period of economic and political instability great importance attaches to creating certainty in the economy."
Will the Bank of Israel intervene?
The present governor of the Bank of Israel has avoided selling dollars over the years, but there are those who believe that he will prefer ad hoc intervention in the foreign exchange market to a further rise in interest rates. Ronen Menachem, chief markets economist at United Mizrahi Tefahot Bank, warns that such intervention could make the markets more nervous, so that in any event it would appear that shekel exchange rates will continue to be volatile for the time being.
The Bank of Israel’s dilemma is clear. Raising its interest rate again could make consumers cut consumption further, leading to a fall in growth and to an economic slowdown. In its market survey, Bank Hapoalim recommends considering minor intervention in the foreign exchange market, "in order to create more liquidity in the market and to reduce dollar interest rates in the local market." The bank says that intervention in this way, rather than raising the interest rate or selling dollars directly, may be less effective, "but it does not have most of the negative consequences of selling foreign currency, which will generate negative sentiment, or raising the interest rate, which will hurt mortgage borrowers."
Published by Globes, Israel business news - en.globes.co.il - on August 22, 2023.
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