Until a few weeks ago, there was a consensus on the market about 2025, with most analysts coming into line with the Bank of Israel’s forecasts: One or two interest rate cuts in the course of the year, and annual inflation of 2.6%. But in recent weeks, positive data on the economy have begun to accumulate, and analysts are now divided. Forecasters now expect more interest rate cuts, perhaps starting as early as April, and the range of inflation forecasts has widened.
The ceasefire and hostage release deal that came into force on Sunday have strengthened expectations that 2025 will be good for the Israeli economy. The Tel Aviv 35 Index has risen by nearly 6% since the start of the year. Israel’s risk premium, as reflected in the 10-year credit default swap (CDS), has declined in the past few weeks. In fact, since last October and the UAV attack by Iran, Israel’s CDS has fallen by 30%. Yields on Israeli government bonds have correspondingly declined.
The shekel has been impressively strong, with the shekel-US dollar exchange rate falling 7% since August, and the shekel is at a two-year peak against the basket of the currencies of Israel’s main trading partners. Yesterday, the representative shekel-dollar rate fell to NIS 3.58/$. The stronger shekel means cheaper imports and, possibly, lower inflation.
The Consumer Price Index reading for December, released last week, showed annual inflation running at 3.2%, which compares with a forecast of 3.4%. The experts are unanimous that, in the coming months, we shall see the inflation rate rising, and even approaching 4%, following rises in arnona (local property tax), water and electricity, the 1% hike in the rate of VAT, higher purchase tax on cars, and other government measures that will hit Israelis’ pockets. Inflation may therefore rise, but disposable income will fall, which is liable to lead to reduced private consumption.
Three interest rate scenarios
These mainly positive figures have forced analysts to update their predictions, both for inflation and for interest rates. The consensus inflation rate forecast for 2025 has now become a 2.4-2.8% range, and the range of forecasts for the number of interest rate cuts has also broadened, from 1-2 to 1-3.
Three possible scenarios emerge from a comparison of the analysts’ forecasts. The first, that of the Bank of Israel, sees one or two interest rate cuts in the course of the year, and annual inflation of 2.6%; the second, shared by Bank Hapoalim, Discount Bank, and insurance company Harel, envisions two interest rate cuts and inflation of 2.4-2.8%; the third scenario is common to Mizrahi Tefahot Bank, Leader Capital Markets, and Meitav, which see three interest rate cuts and inflation of 2.4-2.7%.
The most optimistic forecast comes from Leader Capital Markets chief economist Jonathan Katz. He estimates that the Bank of Israel could cut its interest rate three times over the year, to 3.75%, and sees the first cut coming in April.
"The main shift is in the timing of the first cut," Katz says in his updated forecast. "It now looks as though the Bank of Israel is going to make a first reduction not before April, once it sees elements of inflation moderating after the taxation rises at the beginning of the year."
Katz expects the Israeli economy to improve steadily because of the strengthening currency and easing of constraints on the supply side, including the return of foreign airlines and a rise in job vacancies. "Inflation at present is mainly from government measures and housing components. The Bank of Israel is very concerned that there will be excess demand as the economy recovers from the war, but at the same time we shall see the various risk premiums falling, and these were the main criteria on account of which the Bank of Israel has not reduced interest rates."
By contrast, Bank Hapoalim chief markets strategist Modi Shafrir says that there is still "very great uncertainty about inflation and geo-political developments." Shafrir points to the fact that inflation will be higher than was thought at first. "The rise in rents has accelerated, and input prices have risen sharply lately. Together with these factors, wages continue to rise at 5-6% annually, and the labor market is very tight."
Shafrir therefore estimates that inflation will be 2.8% this year. On interest rates, he sees just two cuts over the year. "The market currently expects a cut in July, and that the Bank of Israel will make two interest rate cuts altogether in the course of the year."
Inflation will shoot up, then fall
Katz stresses that current expectations could change if the Consumer Price Index reading for January is lower than projected. "The monthly rise in the index is expected to be 0.4-0.5%, putting the twelve-month inflation rate at 3.7-3.8%. If the reading is at the low end, even without upsetting the forecasts, people will start to see an interest rate cut coming in April," he writes.
In Shafrir’s view, for an interest rate to come early, we will have to see a positive surprise in inflation. "The Bank of Israel will want to see to what extent inflation accelerates in January and what happens following the price rises, meaning that the subsequent Consumer Price index readings will also be important."
Published by Globes, Israel business news - en.globes.co.il - on January 21, 2025.
© Copyright of Globes Publisher Itonut (1983) Ltd., 2025.