The Bank of Israel on Monday said that, while data on the economic impact of Operation Protective Edge was not yet available, the Second Lebanon War was a “security event of similar magnitude” that cost the economy about 0.5% of GDP. To help boost the economy, the bank lowered the August interest rate from 0.75% to 0.5%.
“The effect of security events of similar magnitude in the past decade turned out to be a moderate macroeconomic impact, up to about 0.5% of GDP (in the Second Lebanon War),” the monetary committee said in its assessment. “The recovery from previous events was generally rapid, but the negative impact on some industries, particularly the tourism industry, is liable to last longer.”
Psagot, Israel’s largest investment house, put out its own estimates on Monday for the cost of Operation Protective Edge, judging that it would cost Israel just 0.25% of its GDP growth (assuming that fighting would continue for another week-and-a-half – also based on the Second Lebanon War).
Psagot estimated that consumption would drop NIS 1.7 billion, as people stayed away from summer activities, and tourism would lose NIS 3.5b.
Defense consumption, on the other hand, would rise NIS 2.6b., offsetting some of the economic damage. All in all, that would leave the economy short NIS 2.6b., about 0.25% of overall GDP.
The Bank of Israel Monetary Committee’s decision to lower the interest rate was designed to both spur economic activity by making it cheaper to borrow, and address the low range of expected inflation. More importantly, it would ease the strength of the shekel, which has stayed strong throughout the operation.
In the year to date, the effective exchange rate – which compares the shekel to a basket of relevant currencies – strengthened by about 2%.
“The real exchange rate is at a level that weighs on growth in the tradable industries,” the committee noted. The Israel Export and International Cooperation Institute praised the interest rate decision.
Exports fell 6.2% in June – before the operation began – according to the Finance Ministry.
The Manufacturers Association of Israel, which called for the Bank of Israel to lower its interest rate to an unrealistic 0%, said that in the first 20 days of the operation, factories suffered NIS 820 million in damage. Of that, only NIS 330m. was in the hard-hit South, mostly because there is less overall industry in that region.
“Operation Protective Edge is serving as an alarm clock for the Bank of Israel, waking it up from its winter hibernation,” said Shmuel Ben-Arieh, director of research at Pioneer Financial Planning.
Still, the lower interest rate may have negative consequences as well. Cheaper borrowing only fuels enthusiasm for investments in assets such as real estate. The soaring cost of housing has been a major sticking point for Israelis, and the Bank of Israel has itself warned that the financial system may experience a shock if the prices suddenly drop in bubble-popping fashion.
The bank said it was still too early to tell what the budgetary costs of the operation would be.