Inflation makes a comeback

There can no longer be any denying it: Inflation is making a comeback in Israel. The Consumer Price Index (CPI) rose in November by 0.4 percent, exceeding the forecasts, and in the last 12 months the CPI has risen by 2.8 percent. In recent press releases, the Bank of Israel is now quoting forecasts that the 2007 inflation rate will reach 3.2 percent when the December CPI is announced in mid-January. If true, this will indicate that the bank has failed in its quest to keep price increases within the government's 1 percent to 3 percent target. In response to these figures, and in an attempt to cool down the rising CPI, the Governor of the Bank of Israel raised the interest rate in Israel on December 24 to 4.25 percent, a rise of 0.25 percent. While three percent annually may not sound like much compared to the inflation of hundreds of percent Israelis experienced about 25 years ago, it does have a cumulative effect. Economists agree that a rising CPI is a hidden 'tax' on disposable income; it is therefore highly regressive, striking hardest at the poorest 20 percent of the population. In November, food prices, which rose 1.3 percent, constituted the largest single contributor to the high CPI - and food expenses constitute a larger fraction of spending the lower down one is on the income ladder. Among its other undesirable effects, inflation also erodes wages and raises mortgage payments. As with other economic phenomena in this globalized era, Israel is experiencing what many other countries are going through: increased pressure on prices driven by a global increase in raw material and commodity prices. Increased fuel prices, the most obvious example of this, have numerous implications because energy costs are factors in a large number of economic products. Raw material prices show no sign of abating in the near future. The Israel Electric Corporation now says it is seeking a 10 percent increase in rates to balance higher costs and the spike in the prices at the pump is expected sooner or later to be expressed in higher costs for public transportation as well. Inflation in Israel could have been worse, and was dampened by the recent sharp weakening of the dollar, according to Bank of Israel spokesman, economist Yossi Sa'adon. "This is a game of opposing forces," Sa'adon tells The Report. "Local prices rose, but the weakened dollar caused the prices of imports, such as food and fuel, to fall, which counterbalanced a lot of local price increases, especially when you consider that Israel imports a lot of raw materials whose prices are quoted in dollars. So the stronger shekel meant world raw material price rises were not as keenly felt." Local price rises, however, are affected by more than raw material costs. The roaring Israeli economy is itself generating inflationary pressures. "In many sectors, we are approaching the limits of productive capacity," says Sa'adon. But will this change inflationary targets? "No," replies Sa'adon categorically. "The inflation target is set by the government, and it has been in the 1 percent to 3 percent range for many years. The Bank of Israel is committed to its mission to maintain price stability. We are working with complex models for predictions and will continue to monitor economic developments closely." Looking ahead to 2008, the Bank of Israel remains optimistic. The same press release that quoted forecasts of missing the target for 2007 also predicts that inflation over the next 12 months will be only 2.7 percent - within the target range.