Israel holds rates to protect shekel as war spending soars
ISRAEL refrained from cutting interest rates on Monday (Apr 8), with the central bank focusing on heightening inflation expectations as the war in Gaza shakes the economy and defence spending surges.
The Bank of Israel’s Monetary Policy Committee left its key rate at 4.5 per cent for the second consecutive meeting. Only a narrow majority of analysts predicted the move, with the others expecting a cut of 25 basis points.
The shekel extended its gains after the decision. It rose 2.4 per cent to 3.68 per dollar as of 4.20 pm in Tel Aviv, heading for its best daily performance this year. It’s reversed all the losses it suffered last week when Iran’s threat to retaliate against Israel for a deadly missile strike on one of Teheran’s embassy buildings in Syria unnerved markets.
“In view of recent developments, which indicate a substantial increase in the geopolitical uncertainty, the Monetary Committee decided to side with caution and kept the interest rate unchanged,” governor Amir Yaron said in a speech.
Israeli assets were already rallying on Monday, in part because of optimism over a potential cease-fire deal with Hamas that would involve the release of Israeli hostages and Palestinian prisoners.
Despite inflation having falling to 2.5 per cent year-on-year, within its target range to 1 per cent to 3 per cent, the central bank weighed how there’s little certainty over when the war in Gaza will end and how tensions with Iran and its main proxy group, Lebanon-based Hezbollah, are worsening.
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The government’s ramped up spending and borrowing to help fund the conflict. Israel’s 12-month trailing fiscal deficit has reached 6.2 per cent of gross domestic product, the finance ministry said earlier on Monday. Expenditure between January and March was 38 per cent higher than during the same period last year.
The government envisages a fiscal shortfall for this year of 6.6 per cent of GDP, which would be one of the widest gaps for Israel this century.
The increase in spending has contributed to a rise in inflation expectations in recent months. Two year break-even rates have climbed to 3.3 per cent, above the central bank’s target range of 1 per cent to 3 per cent.
Yaron has repeatedly said he’s concerned about fiscal policy and that it will be an important factor in determining monetary policy. The government’s mostly ignored his calls for a committee to prioritise and limit defence spending.
The economy’s experienced an uneven recovery from the first few weeks of the war, which erupted when Hamas attacked Israel on Oct 7. Many industries, including construction and tourism are still suffering, even as credit-card spending rebounds.
“Geopolitical uncertainty remains high, and recently has been increasing,” Yaron said. “Despite the gradual improvement in economic activity, there is a long way to go until the economy fully recovers.” BLOOMBERG
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