BOI Governor Karnit Flug is keenly aware of the dangers of ‘Dutch disease’.
(photo credit: REUTERS/Ronen Zvulun)
The Bank of Israel Monetary Committee on Monday left the interest rate unchanged at .75%, despite speculation among analysts that the strong shekel and sub-par economic growth would result in a cut.
The bank said the sluggish economic growth did not necessarily reflect the state of real economic activity.
On the one hand, the economy grew only 2.1 percent in the first quarter and overall goods exports in April were down.
On the other hand, the Purchasing Managers Index, Business Tendency Survey and labor market indicators improved. The composite state of the economy index and the consumer confidence index remained stable.
The global economic situation was partly to blame, the committee said in its report, noting disappointing growth in the US and Europe had led the OECD to reduce its global growth expectations, and that weakness in emerging markets continued. “The probability of further monetary easing in Europe increased, and expectations remain that in the US, the federal funds rate will begin to be increased in the second half of 2015,” the committee wrote in its statement.
The shekel, meanwhile, having strengthened 4.4% in the past year, actually weakened somewhat in the past month, with its nominal effective exchange rate getting .4% weaker.
“In our opinion the Bank of Israel exhibited responsibility by not chasing after capital markets and early indicators on the state of the economy,” Harel Investment’s Ofer Klein said.
The markets had prepared for and factored in an interest rate cut, Klein noted, and quickly reacted to the decision. The exchange rate strengthened .4% against a basket of currencies following the announcement.
“There is no doubt the market’s expectations of a rate cut were exaggerated,” said Yaniv Aharon, a Tamir Fishman investment officer. “It’s important to remember we are already in a very low interest environment.”
An extreme-low interest rate at the level of .5% should be reserved for emergency situations, he said, and runs the risk of fueling dangerous asset bubbles.
Manufacturers Association of Israel’s president, Zvi Oren, expressed disappointment in the decision, noting the strong shekel puts Israeli exporters at a disadvantage.
“Reducing the interest rate could have helped moderate the appreciation trend, helping to reduce the harm to the country’s competitiveness, both in exports and the labor market,” said Oren, who has called on the Bank of Israel to take drastic action to weaken the shekel.