One week last September reminded the world of the ability of the financial markets to change a political reality. The 'mini budget' announced by Britain's then new Prime Minister Liz Truss was presented to the public and resulted in the almost immediate collapse of the UK economy. Sterling fell 6% in five trading days to an all-time low. Ten-year and 30-year UK government bond yields jumped tens of percentage points and threatened the stability of British pension funds, which were forced to sell bonds at any price.
What happened next demonstrated how central the economy is to British politics. The Bank of England immediately intervened to provide liquidity to the funds and prevent a "liquidation sale" of British bonds. Chancellor of the Exchequer Kwasi Kwarteng who presented the plan was summoned back to London from the IMF meeting and fired on the spot. A few days later Prime Minister Truss, who had initiated the plan, resigned. As one British tabloid put it, a head of lettuce can be kept in the fridge for longer than Truss held office.
Only after her resignation did the markets calm down. The Conservative party which had received the mandate from the people to form a government in the previous elections under Boris Johnson swiftly chose Rishi Sunak to replace Truss, the former Chancellor of the Exchequer who had warned about the consequences of Truss's ill-fated mini-budget, and he quickly began rehabilitating the economy. The episode cost the British economy an estimated more than £10 billion in difficulties in issuing low-yield bonds and contributed to forecasts of a deep recession in the UK this year - an even deeper recession than Russia is going through. Bank of England Governor Andrew Bailey said last month that "We still have a hangover."
It currently looks possible that Israel is not far from its "British moment." Just as the UK media reported even before the presentation of the "mini-budget" that the new British government of Truss was considering interfering in the operations of the Bank of England and changing its inflation target, Israeli Minister of Foreign Affairs Eli Cohen has now announced on Twitter that the increase in interest rates by the Bank of Israel " was not justified," and that he expects a policy change, although Prime Minister Benjamin Netanyahu quickly shot down harming the independence of the central bank.
The shekel depreciated 2.2% today and has fallen 3.5% since the start of the week to its weakest against the US dollar in three years. Yields on 30-year Israel government bonds have risen over the past few weeks by 15% from 3.5% to 4%. Ten year government bonds have risen to 3.8% for the first time in a decade.
In Israel the direct reason for the situation is not a planned budget but the changes in the judicial system that the Israeli government is pushing ahead with quickly. Parts of this judicial reform were approved in their first Knesset reading last night. The revolution in the judicial system has become the economic face of Israel in the international media in recent weeks. The consensus among ratings agencies Moody's and S&P is that damage to the independence of the judicial system, which would be a consequence of the new laws, definitely means damage to Israel's credit rating, and this has made it a factor influencing the markets.
The ratings agencies prediction threatens to come true soon. In the bond market specifically, although there is a global increase in yields due to the increase in US bonds, it is much more moderate than the one seen in Israel. Added to this are the reports of money flowing out of Israel - the sale of Israeli bonds by foreign investors and the transfer of billions from Israel to foreign markets.
Not understanding the situation
In Britain, following the abysmal situation and the emergency intervention by the Bank of England, there was an immediate attempt to change the reality. In Israel, it seems that for the time being there is an attempt to deny it. Minister of Finance Bezalel Smotrich told the Knesset Finance Committee that the judicial reforms had no effect on the economy and that if there are effects on the economy, they are caused by the protest and not by the reform.
But in fact, the uncertainty and volatility that the judicial reforms have introduced into Israel's economic system due to the profound changes it creates, may be even more significant than those experienced by Britain. The "mini budget" was an event that could be easily abandoned. The passage of the laws in their first reading, as celebrated this week in tweets and pictures by members of the government, is a fait accompli.
What scares the markets, perhaps, is not only the possibility that there will be no compromise in the end, but that the State of Israel is now led by a coalition that prides itself on weakening the justice system publicly, and the people and the world are being asked to accept it.
Published by Globes, Israel business news - en.globes.co.il - on February 21, 2023.
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