Bank of Israel expected to leave rate unchanged

Concern over exports, rise in unemployment trumps inflation threat.

Stanley Fischer Good 88 248 (photo credit: Ariel Jerozolimski)
Stanley Fischer Good 88 248
(photo credit: Ariel Jerozolimski)
Recent positive economic data is putting pressure on the Bank of Israel to start tightening monetary policy to counter inflationary pressures. But concerns about further shekel appreciation hurting exporters and a continued rise in unemployment are likely to deter Bank of Israel Governor Stanley Fischer from raising September interest rates on Tuesday, according to some analysts. "Since April, interest rates have remained at a record low of 0.5 percent," Ron Eichel, chief economic strategist at Meitav Investment House, said Thursday. "The most recent economic indicators point to a significant improvement already in the second quarter of the year, raising expectations for an interest-rate hike. "However, in light of the high unemployment rate and great uncertainty over a recovery in global trade, we expect the central bank to leave interest rates unchanged next week." Raising interest rates at this point would strengthen the shekel against the dollar and hurt activity in the real economy, he said, especially since global interest rates are likely to remain low for some time. The Bank of Israel's leading index of economic indicators rose a preliminary 1.2% in July, its third consecutive gain following declines since last June. Central Bureau of Statistics figures last week showed that gross domestic product rose 1% in annual terms in the second quarter of 2009 after contracting by 3.2% in the first quarter and 1.4% in the fourth quarter of 2008. Following the positive data, Bank Hapoalim on Wednesday revised its 2009 growth forecast upward to a contraction of 0.3%, from a contraction of 1.2%, and predicted 3% growth in 2010 instead of 1.5%. Leumi on Thursday raised its 2009 growth forecast to 0%, from a contraction of 0.7%, and predicted 2% growth for 2010. The Bank of Israel forecasted that the economy would contract 1.5% this year and grow 1% in 2010. The inflation rate in July was 3.5%, which is above the government's target range, as one-time tax increases drove up price levels. However, analysts said they didn't expect tax increases to affect inflation in the long term. "An interest-rate hike at this time would do more damage than leaving rates unchanged, since an increase to 1% would not absorb inflationary pressures in the future," Eichel said. Global investment houses have in recent weeks forecasted that the Bank of Israel might be the first central bank to raise interest rates, but not before the end of the year or the beginning of 2010. Morgan Stanley and Merrill Lynch forecasted that the rate might be kept unchanged until the beginning of 2010. The central bank might not raise interest rates this year, because an increase would strengthen the shekel and lower the demand for exports, Morgan Stanley said in a report this week. "The central bank is likely to delay a rate hike until very clear evidence emerges to suggest that inflation might remain high," Morgan Stanley economist Tevfik Aksoy wrote. "Tightening the monetary policy soon might result in a faster appreciation in the currency, leading to a further weakness in exports."