Is the era of the strong shekel over?

Shekel-dollar ASAP Creative
Shekel-dollar ASAP Creative

The shekel has weakened 8.5% against the dollar this year but is still 12% stronger against the US currency over the past decade. Can the shekel regain its momentum?

The shekel has weakened by 8.5% against the US dollar since the start of 2022. Even so over the past decade the shekel is 12% stronger against the dollar and one of the only global currencies to have appreciated against the US currency during that time.

But trends have been changing in 2022. The markets have fallen sharply and inflation is on the rise, causing the US Federal Reserve to aggressively raise the interest rate, pushing down share prices further. All this volatility, fear of inflation and recession, plus the Russia-Ukraine war, supply chain problems, and Covid lockdowns in China are also pushing investors to the dollar, as the safe haven currency.

How did the shekel become one of the world's strongest currencies?

How did the shekel become one of the world's strongest currencies? Mizrahi-Tefahot Bank chief economist Ronen Menachem explains, "The Israeli currency has had strong backing since Israel coped so successfully and quickly exited the crises of 2008 and 2012. During that period the image of the Israeli economy was set and the focus was more on economic capability and less on the difficult region in which Israel lives. In addition, the right economic policies were implemented, which were expressed in low and decreasing rates of public debt and the fiscal deficit.

"The debt ratings agencies kept stressing the low debt and deficit as a strong point of the Israeli economy, which offset the geopolitical and security risks and resulted in our debt rating (or their forecasts), after coping successfully with global crises, even rising in some instances. Organizations like the OECD and International Monetary Fund (IMF) also stressed all this. In addition, foreign residents felt secure in purchasing the Israel government bonds that were issued."

From high-tech to gas: The industries on which the shekel depends

To all this must be added the focus of the Israeli economy on tech sectors, into which foreign capital flowed in large amounts and were used well to open up the tech sector to foreign markets.

Menachem said, "High-tech performance also contributed of course to the economy's macroeconomic results and good growth over the years. The Covid outbreak and the need for sophisticated technological solutions to the restrictions set also benefited the sophisticated domestic economy.

Another factor has been the development of the offshore natural gas market, which has also flooded the Israeli economy with foreign currency and strengthened the shekel. "We are currently seeing reports about the alternatives that Israel can offer due to the global crisis in this market," Menachem observes.

In addition to the general strengthening of the dollar on world markets, another factor effecting the volatility of the local forex market is the hedging of investment by institutional bodies. Israeli pension funds managed overseas are held in dollars, so when their investment value falls, along with market declines, the institutions must purchase dollars and sell shekels to balance their portfolios. The size of these portfolios means that the impact on the shekel exchange rate and domestic forex market is substantial.

The interest rate gap: Where is the basket of currencies going

The strengthening of the shekel is also effected by the influx of foreign currency into Israel, among other things, through investments in the tech sector. To offset these investments and exits through the sale of tech firms and IPOs on Wall Street, the Bank of Israel purchased dollars to moderate the strengthening of the shekel and assist exporters. After buying $35 billion in foreign currency last year, and pushing Israel's foreign currency reserves over $200 billion, the Bank of Israel has not intervened this year. At the same time tech exits have also fallen significantly since the start of 2022.

In the more immediate term, the direction of the shekel will likely be determined by the US stock market, especially the Nasdaq index. The strong falls on the market since the start of the year, which have strengthened this past week, will continue while inflation rises in the US - it is already at a 41 year high of 8.6% annually, and is expected to continue rising along with the interest rate.

As a result a major reason for the strengthening of the dollar against the shekel since the start of the year is due to the widening interest rate gap between the US and Israel. In theory, if interest rates are higher in the US, then investors may convert shekels to dollars to benefit from the higher returns in the US - thus increasing demand for dollars. If the Bank of Israel begins hiking rates at a faster pace, and the gap is narrowed, then the shekel might strengthen.

All this will not necessarily bring about a further weakening of the shekel in the medium to long term, because there are other factors such as Israel's strong economy, natural gas reserves, investment hedging once the markets have bottomed out, and the current account surplus, which are all likely here to stay.

Published by Globes, Israel business news - - on June 14, 2022.

© Copyright of Globes Publisher Itonut (1983) Ltd., 2022.

Shekel-dollar ASAP Creative
Shekel-dollar ASAP Creative
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