The Bank of Israel faces a serious problem. Although the shekel-dollar exchange rate is 9% higher than NIS 3.36/$, its lowest point in the past 10 years, the Bank of Israel is concerned about a broad range of currencies traded against the shekel, not just the dollar.
The 26 main trading currencies for the Israeli economy are weighted in an index that the Bank of Israel calls the nominal effective exchange rate. The weights in the index are calculated according to data for the economy's flows of goods and services. The weights are 26% for the dollar, 26% for the euro, 10% for the Chinese yuan, 6% for UK sterling, 5% for the Turkish lira, and 26% for other currencies. The shekel exchange rate against this basket is at an all-time low, meaning that the shekel has reached its strongest-ever point. This is very bad news for exporters.
In the past, when this index was at much higher levels, the Bank of Israel intervened and bought dollars, which also raised the shekel exchange rate against the other currencies, because these were determined through a cross exchange rate. The Bank of Israel's intervention's have remained low-key for the past year, also because of the arrival of new Governor of the Bank of Israel Prof. Amir Yaron, who is inclined to refrain from intervention.
Another deterring factor against intervention in the forex market was the fact that the Bank of Israel did not wish to accumulate more foreign currency at a time when the ration of its foreign currency to Israel GDP was over 33.3%. In January 2018, the foreign currency reserves reached almost $118 billion, amounting to 34.5% of GDP, higher than the Bank of Israel wants. The Bank of Israel therefore almost completely halted its foreign currency purchases.
Now, at the end of June 2019, the level of the Bank of Israel's foreign currency reserves still $118 billion, the same as it was 18 months ago. Since GDP has grown since then, however, the ratio of the reserves to GDP has fallen to 31.9%, which enables the Bank of Israel to buy $5.2 billion on the market, while still maintaining a 33.3% ratio of reserves to GDP. If the Bank of Israel allows the ratio to reach 34.5%, as it did in January 2018, it could even buy $9.6 billion.
There is no bottom in the forex market. There is no "floor" providing a minimum exchange rate. The Israeli economy is strong and successful. The flow of dollars to Israel from non-financial investments by foreign investors, mainly in high tech, is continuing in full force, and the risk that the shekel will continue to strengthen against the basket of currencies is very great.
The Bank of Israel can no longer remain inactive. Yaron knows that when there are market failures, the rule against government intervention no longer applies. Such market failure exists in the Israeli forex market. It is called the "Israeli disease" - the entire world wants to invest in Israeli high tech. This is very good for that sector, but it harms all the other export sectors. The Bank of Israel will therefore have to intervene.
The author is chairman of Financial Immunities, which manages forex risks for companies. He was formerly the Bank of Israel's chief dealer on the Tel Aviv Stock Exchange (TASE).
Published by Globes, Israel business news - en.globes.co.il - on June 30, 2019
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