Marketplace: A letter to Amir Yaron

On managing Israel's money.

Prof. Amir Yaron, the tenth Governor of the Bank of Israel (photo credit: MARC ISRAEL SELLEM)
Prof. Amir Yaron, the tenth Governor of the Bank of Israel
(photo credit: MARC ISRAEL SELLEM)
To Prof. Amir Yaron, newly appointed tenth Governor of the Bank of Israel:
Welcome home! You’ve left a serene, secure and respected position as an esteemed professor of banking and finance at the University of Pennsylvania’s Wharton School, one of the world’s leading business schools, to return home to Israel after 20 years. At age 54, you are at the height of your intellectual powers. You face a turbulent four years – or eight years, if and when you are reappointed. I wish you well.
You have very big shoes to fill. The eighth Governor, Stanley Fischer, served from 2005 to 2013. Five of those eight years occurred in the wake of the 2008 global financial crash. Fischer steered Israel through those turbulent years with a steady hand, earning first place for “efficient functioning” among world central banks, in 2010, in the World Competitiveness Yearbook. Fischer went on to become Vice Chair of the US Federal Reserve. Fischer’s successor Karnit Flug quietly but firmly protected the Bank of Israel’s independence against pressure from Finance Minister Moshe Kahlon and Prime Minister Benjamin Netanyahu.
Already, when you’ve barely warmed your chair, you face criticism. The chief economist of IBI Investments, Rafael
Gozlan, noted that your “familiarity with the Israeli economy is probably not extensive” and added, “his academic background is not in monetary policy or central banks…Netanyahu and…Kahlon are therefore taking something of a gamble concerning his ability to cope with potential crises.” You will face such criticism daily until your last day in office.
Eight years ago, in March 2010 the Knesset passed the Bank of Israel Law, which wrote into law the Bank’s independence and freedom in choosing its actions and in exercising its powers. Despite the Law, you will doubtless join the ranks of Central Bankers facing strong political pressure.
For the past decade, you have doubtless observed how central banks have flooded money into the world’s economies and kept interest rates at near zero. Businesses and consumers have become addicted to low interest rates, spending and investing with nearly free money. Now, with inflation just beginning to rise, screams of the cheap-money addicts’ withdrawal pain are heard, including those of President Trump, as central banks in the US and elsewhere raise rates.
America’s Federal Reserve Bank has raised interest rates twice already. And the European Central Bank announced that in December it is no longer buying bonds – thus lowering bond prices and raising bond yields.
You can thank Acting Governor Nadine Baudot-Trajtenberg for her courage in starting to raise rates, a major surprise, on Monday, November 26, 2018 from 0.1% to 0.25%, even before you took office. It was the first interest rate increase by the Bank in seven years.
The Bank of Israel has an outstanding staff of smart economists, especially in its Research Department, which the previous Governor Dr. Karnit Flug once headed. I’m certain you will quickly win their respect, given your strong research credentials. You can rely on them to give you wise guidance, even if you are not fully familiar with all the nuances of Israel’s complex business and economic environment. If you listen to them, you can’t go wrong.
Israel goes to the polls on April 9. So you begin your tenure facing the threat of populist election spending and rising deficits. This is probably not likely. With the Knesset disbanded, the budget is frozen and election spending is not feasible. But you will face highly unstable capital markets, because elections always generate a very thick fog for months and investors hate fog. A new government will probably not be sworn in until May and lots of economic and political shocks can erupt before May.
Prime Minister Netanyahu and his cabinet are distracted by the Sturm und Drang of the election campaign – which promises to be one of the most toxic and polarized ever. You will need to keep a very close eye on our economy and the global economy while they are busy seeking votes.
Your doctoral thesis advisor at the University of Chicago, Lars Hansen, won the Economics Nobel Prize in 2013. He is a pioneer in exploring the links between financial markets and the economy. This will serve you well. Stock prices plummeted in the US, Israel and elsewhere in December, so you already face a mini-crisis, because stock market declines often (but not always) herald recessions.
Your most cited academic paper shows that “in our [model of an] economy, financial markets dislike economic uncertainty and better long-run growth prospects raise equity prices.” This could be your mandate as Governor – by guiding interest rates with a firm expert hand, you can improve Israel’s growth prospects and restore the stock market’s health, by instilling confidence in your sure hand guiding our money.
Ever since the legendary Prof. Milton Friedman and his free-market ideology dominated the University of Chicago’s economics department, the Chicago school has become synonymous with open free markets. From your research, I do not sense that you swallow whole the extreme Ayn Rand “unfettered self-interest is good” idea.
We’ve had our fill of our bankers lending billions to feckless tycoons without checking carefully what they plan to do with it and then seeing the loans written off, at the public’s expense. Bank regulation is a key part of the Bank of Israel’s duties. I hope you will greatly strengthen the Bank of Israel’s Banking Supervision department; it needs it. Find out why the Bank of Israel let Israel’s commercial banks make so many huge bad loans to tycoons and then make sure it never happens again.
And while you’re at it, see if you can do something about Israel’s desperate lack of national saving and long-term infrastructure investment. Our future is not what it used to be. Transportation, higher education, pre-school education and health care all are seriously shorchanged. We need more engineers, more doctors, more nurses and fewer lawyers and economists.
I urge you to tackle improving one key skill – communicating to the public in clear jargon-free language. You will be asked to speak to Knesset committees, the press and many public gatherings. Can you tell us what you and the Bank think is going on, in Israel and abroad, tell us where the economy is headed and explain what your policies are, in simple words and short sentences?
The famed British economist Alfred Marshall once said that all short sentences are wrong. Nonetheless, you will need to craft such sentences if you want people to know how you are managing their money and why you are doing what you do. To paraphrase jazz great Dave Brubeck, “economists speak with forked tongue.” We need a silver-tongued central banker.
Israel’s foreign exchange reserves reached $115 billion in November, an all-time high. The reason: Bank of Israel has for years been buying dollars to keep the shekel-dollar rate from getting too cheap and hurting exports. In 2008, at the onset of the financial crisis, foreign exchange reserves totaled only about $30 billion.
Prof. Yaron, you may face tough decisions whether to keep buying dollars, if the US dollar weakens. In January 2015 each strong dollar cost 4 shekels; that rate fell to only 3.4 shekels in early 2018, but has since risen over the past year to 3.8 shekels.
With export markets weakening, it will be important to keep the dollar at 3.8 shekels and not let the shekel grow too strong, making imports more attractive. At the same time, buying dollars implies selling shekels, which boosts the money supply.
Since the 2008 financial crisis, the Bank of Israel has expanded Israel’s money supply (known as M2), doubling it from 40 trillion shekels to today’s 82 trillion shekels. Lately the growth in credit has levelled off. The people of Israel look to you and the Bank of Israel to manage our money cautiously, wisely, using the Goldilocks’ porridge principle – not too hot, not too cold.
The ‘narrow’ definition of money known as M1 (currency and checking accounts) has grown very rapidly, from 33 trillion shekels in January 2017 to today’s 41 trillion shekels, a rise of 24% in under two years. I wonder if this is not excessive; it will be your job and the Monetary Committee that guides you to watch this closely.
Israel today has a mountain of money. That mountain is not moving much because nobody is much concerned with inflation. But as prices begin to rise, the mountain will indeed move – and as money changes hands more rapidly, it will fuel inflation. Keep your hand on the pulse of our money; head off inflation before it gets rolling, but don’t kill the economy to do so. Easier said than done.
I’m reassured that you understand the need for a steady hand on the tiller. At your appointment ceremony, you said that “it is important that interest rates not rise too rapidly or aggressively, as that may halt growth, but also not with a delay, which is liable to cause an outbreak of inflation.” Precisely. In central banking, as in standup comedy, timing is everything. I hope yours will be impeccable.
Former US President Harry Truman once said famously, “All my economists say, ‘on the one hand...on the other.’” He wanted a one-handed economist. But that’s precisely what good ambidextrous policymakers do – find wise balances.
And finally, a small reminder. Alice Rivlin, a wise economist and a former vice-chair of the US Federal Reserve Board of Governors, once said, “the job of the Central Bank is to worry.”
Prof. Yaron, stay alert, worry every minute of the day, treat our shekel as if it were walking a tightrope stretched for 1.1 kms (0.7 miles) between the Bank of Israel and the Finance Ministry, try to anticipate crises rather than just react to them, and keep our money safe. If you do that, we’ll be eternally grateful.
The writer heads the Zvi Griliches Research Data Center at S. Neaman Institute, Technion and blogs at