Despite the expected slowdown in the US economy as a result of the subprime mortgage crisis, US investment bank Morgan Stanley said this week it is optimistic the Israeli economy, supported by growth in domestic demand, is strong enough to weather the storm and will keep growing at a robust pace.
"We expect Israel to absorb the shock of slower growth in the US and keep growing at a robust pace - 5.4% in 2007 and 4.6% next year - along with the rest of the world," Morgan Stanley analyst Serhan Cevik wrote in a research note.
The Bank of Israel is forecasting 2007 growth of 5.5%.
While Cevik said Morgan Stanley economists do not believe, as some do, that this is the worst crisis since the Great Depression and that the US economy faces a downward spiral as credit troubles lead to a deeper correction in the housing market, the firm does expect slower GDP growth in the US of about 2% over the next 18 months.
That slowdown, and the weakness of the dollar, he said, remains "an obvious consequence" given the fact that exports to the US account for 40% of the total, but weren't as important when considered in the context with Israel's links to the rest of the world. The extent of the damage to Israel, Cevik said, would depend on how the rest of the global economy behaves in the coming year.
"Even if the global economy slows more than what we envisage [to 4.6% in 2008 from 5% this year], the downside risks to the Israeli economy should be manageable, in our view, thanks to the strength of domestic demand."
Cevik noted that the composition of growth had already started moving away from being net export-driven to being increasingly dominated by domestic demand.
"The accumulated wealth effect and stronger disposable income growth provide the foundation for such a shift in growth dynamics," said Cevik.
At the same time, Cevik stressed that inflationary pressures arising from strong growth in domestic demand would have a more prominent role in the future.
"The global slowdown may have some disinflationary effects, but higher energy and food prices will keep pushing inflation higher in Israel," said Cevik.
Even assuming a stronger exchange rate, as the shekel climbs against the dollar, Cevik expects the annual inflation rate will keep rising to 1.7% in September and 2.8% by the end of the year.
"The latest figures show that the Israeli economy is growing at an elevated rate with no sign of immediate slowdown. That is why we believe that inflation risks are on the upside and monetary tightening is not over yet," he concluded.