The economy is headed for its slowest rate of growth in five years in 2008, according to the Finance Ministry's macro-economic survey forecast, which will be reviewed Sunday as deliberations get underway for next year's budget.
"Israeli economic growth will slow to 4.2 percent next year from a projected 5% in 2007 as the strength of the shekel moderates export growth and some companies hit capacity limits," the ministry's report, which was released Wednesday, predicted.
The forecast puts growth at its lowest since 2003, when Israel began climbing out of its deepest recession ever. Fostered by economic growth based on an increase in foreign investments, the shekel reached a nine-and-a-half-year high against the dollar in May and unemployment fell to the lowest in a decade in the first quarter.
"The impact of the shekel's appreciation during 2006 will make itself felt with a delay of about a year, mainly at the end of 2007 and over 2008," the ministry said. "The growth in the labor force participation rate will be slower and will moderate the growth of output."
Included in the report, which serves as a prelude to further 2008 budget discussions and will be used to forecast tax collections and the budget deficit for next year, is a review of the country's economic performance in 2006 and the first quarter of 2007.
"I think that by lowering economic expectations, the new finance minister is trying to play it safe by not setting expectations too high enough to deliver on," said Roby Nathanson, director-general of the Macro Center for Political Economics.
"By taking this pessimistic approach to the economy's growth outlook, Bar-On is just looking to alleviate pressure on the budget. We can't really know what is going to happen, and while it's good to be careful, I think this is just a defense mechanism being used by the new Finance Minister."
The report, which is to be delivered to the government by Finance Ministry Director-General Yarom Ariav, was prepared by Dr. Eldad Shidlovski, head of the ministry's economic research department.
The report stated that in 2006, "despite the war in the North, the country's Gross National Product grew 5.1%, while the business GDP rose 6.4%." Among the factors noted that contributed to the growth were an expansion of Israel's worldwide business activities and a rise of the country's hi-tech output.
Additionally, the report stated that the 5.1% growth in 2006 was similar to that of 2005 (5.1%), higher than 2004's growth (4.8%) and significantly above 2003's numbers (1.5%). Meanwhile, said Shidlovski, foreign investments rose in 2006 to $16.6 billion from $9.9b. in 2005, and over the first five months of 2007, direct investments in Israeli companies reached $9.8b.
Moreover, 2006 exports, excluding diamonds, rose some 8.7% from 2005 numbers, and over the first quarter of 2007, the export industry has reported an increase of 11.1%. Imports, after rising some 3.1% in 2006, fell 2.3% during the first quarter of 2007.
This trend is expected to continue into 2008 with exports of goods and services increase only 4.7%, down from an estimated 5.9% in 2007, while import growth will moderate to 4.6% from 5.3%, according to the report.
Unemployment is predicted to continue to fall, said the ministry, as the percentage of working age Israelis in the labor force grows to 56.4% in 2008, up 0.2 percentage points from this year and its highest in at least six years, while inflation accelerates to 2.3% in 2008, from 0.1% this year.
The Finance Ministry's estimate for economic growth is in line with the Bank of Israel's 4.1% forecast.
Over the last few years, the growing economy has boosted tax revenue and enabled the government to keep deficit spending under target and reduce borrowing and debt.
In its report, the ministry noted that tax collections reached NIS 93.5b. in the first half of 2007, 8% above projections based on the strength of the GDP increasing at a 6.3% percent annualized rate in the first three months of the year.
Business GDP, which excludes government and non-profit organizations, will probably increase 4.9% next year, slowing from 5.7% in 2007, the ministry said.
Bloomberg contributed to this report