Bank of Israel lowers interest rate to record .1%

Although the shekel is far weaker than it was last summer, having depreciated 10.4 percent between August and December against a basket of currencies, it has appreciated 7.6% since December.

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February 23, 2015 16:31
2 minute read.
Karnit Flug

Karnit Flug . (photo credit: MARC ISRAEL SELLEM/THE JERUSALEM POST)

 
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The Bank of Israel lowered the interest rate to its lowest- ever level Sunday, setting it at 0.1 percent, a 0.15 percentage point drop from the 0.25% rate it has maintained since August, which was itself the previous record low.

The main factor contributing to the unexpected rate cut was the appreciating shekel, though the trend of negative inflation played a role as well.

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“The Monetary Committee is of the opinion that in view of the increased rate of appreciation and its possible effects on activity and inflation, reducing the interest rate to 0.1% is the most appropriate step at this time to support achieving the policy targets,” the committee wrote in its decision.

Although the shekel is far weaker than it was last summer, having depreciated 10.4% between August and December against a basket of currencies, it has appreciated 7.6% since December.

“Continued appreciation is liable to weigh on growth in the tradable industries – exports and import substitutes,” the committee noted.

Globally, central banks were moving to ease their monetary policies in response to low levels of inflation and sluggish growth, though the US was an exception.

In Israel, too, inflation was negative, falling 0.9% in January and 0.5% over the past 12-month period. The BoI noted, however, that some of the drop was the result of onetime factors, such as falling energy prices.



Pioneer Investment research director Shmuel Ben Arieh noted the irony that the dropping prices, which should be good news to consumers, have led to a rate cut that could further boost the cost of housing.

“Unfortunately, the latest deflation does not bode well for most of Israel’s young population, because as a result of the interest rate cut, real estate prices will continue to rise on the heels of excess mortgage demand,” he said.

In an interview with The Jerusalem Post earlier in February, BoI Gov. Karnit Flug noted that “if you subtract the effect of the price reduction of electricity and water, we would actually be standing at 1.5% inflation according to that projection of the research department, based on an interest rate at the current level.”

Flug also implied in the interview that Quantitative Easing (an unconventional form of monetary policy where a central bank creates new money electronically to buy financial assets, like government bonds) was not on the table for the immediate future. The latest projections, however, put long-term inflation expectations lower than expected.

The interest rate decision comes despite a healthy job market and an economic bounce back in the last quarter of 2014. The summer war with Hamas nearly halted growth in the third quarter, but the economy rebounded with 7.2% annualized growth the following quarter.

The BoI did not see that figure as a true indication of economic health, as much as an inevitable rebound from one-time factors, argued Top Alpha investments CEO Boaz Tzaliach.

“It seems the bank believes that the data do not indicate a sustainable economic recovery and is trying to revive the growth engines by lowering the interest rate,” he said.

But Harel Finance’s Ofer Klein disagreed with the assessment that recent growth was temporary, based on good news from the labor market and industrial productivity. In Klein’s view, the economy could continue growing at a healthy 4% in the first quarter of 2015.

The cut, he said, was more likely aimed at tempering the shekel.

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