The Bank of Israel is due to make its periodic interest rate announcement today, with most analysts expecting the rate to remain unchanged at 0.1%. Moreover, expectations of an interest rate rise next year have receded, in the light of several factors that give the Bank of Israel greater room for maneuver before being compelled to raise rates.
Last month, the central banks in Poland, the Czech Republic, and Hungary raised their interest rates as a measure to curb inflation, but while continued monetary expansion is liable to lead to continued inflation, monetary contraction too soon is liable to choke economic recovery. The expectation on the financial markets is that the Bank of England will be the next to act, but unlike other countries (such as the US, where inflation has reached an annual rate of 6.2% and the assessment that current inflation is a temporary phenomenon is being re-examined), in Israel, the situation is different, among other things because of the strength of the shekel.
In the previous interest rate announcement, the Bank of Israel Research Department forecast that within a year the central bank's interest rate would rise to between 0.1% and 0.25%. What's more, the protocol of the last meeting of the bank's Monetary Committee, headed by Governor of the Bank of Israel Amir Yaron, revealed that one committee member favored an interest rate hike. Since then, however, several things have changed.
Israel's inflation figures for October indicated that inflation moderated last month, GDP figures for the third quarter were lower than expected, and the shekel has appreciated alarmingly. These factors do not support an interest rate rise. Along with this, the fear of a renewed spread of Covid-19 in Europe casts a shadow on the prospects of a continued recovery from the crisis. Credit card purchases by Israeli consumers were also relatively low in the third quarter. An interest rate rise in these conditions would be liable to arrest the economy's recovery.
After the release of the Consumer Price Index (CPI) reading for October - a surprising rise of just 0.1%, versus expectations of 0.4% - inflation and interest rate forecasts declined (that same day, incidentally, the Ministry of Finance raised its forecasts for growth and inflation). The question therefore arises whether the chances of an interest rate hike have diminished. In the October CPI figures, the overseas travel item shaved 0.3% off the index, meaning that excluding this item the rate of inflation continued to climb, which could make the Bank of Israel raise its interest rate later on. On the other hand, the appreciation of the shekel should act as a brake on inflation, thus relieving pressure to raise interest rates.
Victor Bahar, chief economist at Bank Hapoalim, writes, "The low CPI reading for October will enable the Bank of Israel to leave its interest rate unchanged at least until mid-2022. The Bank of Israel will now try to strengthen the message that expansionary policy is here to stay for a long time, and that its foreign currency purchases will continue in order to prevent excessive changes and to slow the appreciation. The decline in annual inflation in October reduces the chances that we shall see the Bank of Israel anticipate the US Federal Reserve with interest rate rises, as some countries in Europe have done. We believe that the interest rate in Israel will rise next year close to the date that rates rise in the US."
Mizrahi Tefahot Bank head of research and investments Ronen Menachem writes, "In Europe, inflation is almost double what it is here (4.1% over the past twelve months), but the fourth wave has just begun there, and President of the European Central Bank Christine Lagarde says that the bank's interest rate will not rise at all in 2022. In the US, inflation is much higher, and calls are multiplying on the Federal Reserve to speed up tapering (reducing bond purchases), which would bring an interest rate hike forward to mid-year. In this context, President Biden's decision whether to extend Jerome Powell's term as chairman of the Federal Reserve or to replace him is important. For the time being, it seems to me that the European model is closer from the Bank of Israel's point of view, and so it is likely that, at the earliest, the interest rate here will rise several months after the Federal Reserve hikes rates in the US."
Published by Globes, Israel business news - en.globes.co.il - on November 22, 2021.
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