The judicial overhaul that Prime Minister Benjamin Netanyahu’s coalition is advancing led rating agency Moody’s to downgrade its rating outlook for Israel. Although the numbers indicate a strong economy, Israel’s rating outlook is no longer "Positive" but "Stable". That’s for now; it could get worse.
The rating decision, released on Friday, is worded in such a way as to leave no room for doubt: "The change of outlook to stable from positive reflects a deterioration of Israel's governance," the report states
"The government's plans for an overhaul of the judiciary and the manner in which this reform has been handled have exposed some weakness in Israel's executive and legislative institutions the wide-ranging nature of the originally proposed changes and the speed with which the government attempted to push them through the Knesset, Israel's parliament, without an attempt to achieve broad consensus point to a weakening of institutions. Also, the predictability of the country's executive and legislative institutions has declined," the report continues.
In other words, three months after the present government took office, when the analysts at Moody’s look at Israel from far-away London, they realize that Israel is a less predictable place than they thought. Specifically, the government and the coalition are acting in a less level-headed way than expected. And if that’s the situation, there has to be a rethink about Israel’s credit rating.
Where do we go from here?
The "Stable" rating outlook, it must be stressed, reflects the present moment, of a time-out in the legislation and uncertainty about the future. The rating decision is not the end of the matter. In this sense, it brings to mind the forecast of the Bank of Israel Research Department earlier this month, which also envisaged different scenarios, including those in which the judicial overhaul results in substantial economic damage.
At this stage, it is simply not clear where we go from here. The "Stable" outlook decision reflects a balance of risk. On the one hand, the government still declares its intention of changing the method of selecting judges, "implying that the risk of renewed protests remains high" as the Moody’s report states. On the other hand, it states that "The outlook could return to positive and the rating be upgraded if the current turmoil were to be resolved in a manner that does not deepen the social tensions between the various demographic groups and secures Israel's strong growth potential."
In other words, if the government goes in the direction of continuing its legislation without broad consent, it is fairly clear that Israel’s current credit rating will be in danger.
Public protest a positive factor
The Moody’s document is short, but it contains interesting comments on several aspects of the judicial revolution that the government is advancing. In places, its authors sound as though they are responding directly to coalition arguments, which may indeed have been put to them.
For example, while the report states that the government’s attempts to push through its reforms without securing broad support "point to a weakening of institutions", the resistance to the legislation is mentioned as a positive factor: "civil society and other institutions such as the security establishment have shown themselves to be highly effective checks on the exercise of government power," the report states.
To complete the picture, Moody’s actually compliments the short-lived Bennett-Lapid government, stating that "the recent events offset the positive developments that had led Moody's to assign a positive outlook in April 2022, which related to strong economic and fiscal performance and the implementation of structural reforms by the previous government."
More than once, the report refers to aspects of Israel that have now been "exposed". If the raised rating outlook a year ago reflected an intention to upgrade Israel’s credit rating in the light of excellent economic figures, the current report indicates that Moody’s is reconsidering how it should think about Israel.
As its analysts point out, Israel’s numbers are still good according to the criteria that credit rating agencies apply: Moody’s sees Israel debt:GDP ratio falling to 55% next year (whether that is really something that we should aspire to is another question).
But, as mentioned, the government’s legislative plans "exposed divisions in Israeli society, which run deeper than the judicial changes and will likely keep social and political risks elevated for some time. Greater polarisation would risk undermining policy effectiveness and economic strength over the medium term.."
Israel was perceived as the startup nation, an economic wonder with excellent macro figures, even by international comparison. This picture, however, is now under review, and will certainly change if things don’t stabilize soon. Or as Moody’s states, "Israel's ratings would come under downward pressure if the current tensions were to turn into a prolonged political and social crisis with material negative impact on the economy, possibly linked to substantially lower capital inflows into the important high-tech sector and relocation of Israeli firms abroad."
Have we learned anything new?
Moody’s rating decision indicates a rise in Israel’s risk premium, which will mean more expensive credit for the government, and for businesses seeking to borrow. That means more being spent on interest payments and less money for education, health, transport, and investment. That is certainly not a positive development, and it may affect financial institutions that fall into line with external assessments, although it is doubtful whether the rating decision itself tells sophisticated international players anything they couldn’t work out for themselves.
One thing Moody’s did not do was to reveal to us anything new. After all, we have heard all this in similar terms from all the senior economists in Israel and from several prominent economists around the world, from the Ministry of Finance, from the Bank of Israel, from whomever you want. Now Moody’s is saying it, but it was already clear: as things stand, Israel’s outlook is no longer positive.
Published by Globes, Israel business news - en.globes.co.il - on April 16, 2023.
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