War expected to slow growth

Analyst: A longer, broader campaign was likely to seriously dent gross domestic growth this year by one-third or more.

urban warfare training 2 (photo credit: IDF [file])
urban warfare training 2
(photo credit: IDF [file])
With the war in Lebanon escalating as it approaches its one-month mark, economists and analysts are beginning to worry the economic impact of events will not be as limited as previously estimated. "Already in the third quarter of this year, we will see a slowdown of economic growth," said Shlomo Maoz, chief economist at Excellence Nessuah, who is forecasting a drop to 4.7 percent from previous forecasts 5.4% by year-end. "For 2007, we estimate gross domestic product to drop to 3.7% from 4.1% on previous estimates." A longer, broader campaign was likely to seriously dent gross domestic growth this year by one-third or more, noted Lenny Kushner at Clal Finance Batucha. Meanwhile, Maoz estimated that the NIS 6.2 billion budget surplus this year would be eaten up almost completely by defense costs of between NIS 6b. and NIS 7b., rehabilitation and compensation costs of about NIS 4b. and a loss of NIS 2b. from a reduction in income taxes, bringing the cost of the war to between NIS 12b. and NIS 13b. Finance Minister Avraham Hirchson on Wednesday announced that NIS 2.2b. would be transferred from various sections of the 2006 budget to fund the fighting in the North, which according to the defense ministry has cost Israel NIS 7b. thus far. Hirchson stressed, however, that the 2006 budget framework would not be exceeded. Helping to provide somewhat of a cushion for the government was the NIS 3.7b. tax payment by the Wertheimer family on the sale of 80% of Iscar to Berkshire Hathaway and some NIS 3.5b. the government expects to receive from the privatization of the Bazan Oil Refineries, Maoz said. "As a result, the government should this year be able to maintain its original budget deficit target of around 2.4% of GDP." Maoz emphasized, however, that the real price of the war would be paid in 2007. "With no near end to the war, the government in 2007 will need to spend an additional NIS 2b. on widening the defense budget, about NIS 5.5b. on compensation and rehabilitation and invest billions of shekels on building shelters and infrastructures to secure schools, hospitals and other public places. As a result, the budget deficit will increase by NIS 3.5b. to about 2.8% of GDP." Maoz added that the increased budget deficit in 2007 might force the government to raise taxes next year and cut interest rates by 0.5 percentage points. "The unemployment rate in 2006 is poised to rise to around 9.1% from previous estimates of 8.9%, while the repercussions of the war will next year add 50,000 unemployed," he said. Meanwhile, the expanded war is once again taking a toll on stocks, with the Tel-Aviv 25 index falling 1.8% on Thursday. "The market is absorbing the different situation, that we are not anymore in a military operation but in a war," said Kobi Navon, deputy CEO of Clal Finance Batucha. "The dollar strengthening on Thursday, adding 0.6% against the shekel to NIS 4.39 is a sign that the penny has dropped." "Previously the market was optimistic about the war, as investors saw it as a short-term shock," said analysts at Clal. "But if the war lasts several more weeks there are risks of a possible credit rating downgrade and cancellations of contracts with Israeli companies (e.g. defense companies)." Despite the uncertainty, strategists are not necessarily recommending a dramatic investment overhaul. "We are now at the highest point of uncertainty and investors are not calm about the situation, but we expect the level of uncertainty to come down day by day," said Giora Zarechansky, CEO of Direct Investment House. "We see no reason to make drastic changes to investment portfolios, but we might reduce the proportion of domestic companies that have most of their operations in Israel."