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Israel interests situation pushed Policymakers to face the challenge of maintaining economic stability in the midst of a depreciating shekel, a slowing economy. Also inflation levels above targets.
Recently, financial markets and analysts expected interest rate hikes by early 2024. Plus the benchmark rate rising from 0.1% in April 2022 to 4.75% by May 2023 due to tightening monetary policies. However, after a major incident in Gaza on October 7 involving a Palestinian militant group, attention shifted to the possibility of interest rate reductions.
Morgan Stanley’s economist, Georgi Deyanov, highlights the uncertainty regarding the conflict’s impact on interest rates. The Bank of Israel’s vague forward guidance, especially after keeping rates unchanged for the third time, underscores its flexibility in adapting to the high uncertainty linked to the conflict’s effects on financial markets and the economy.
Israel’s interests Response to Conflict and Inflation Challenges
In the context of Israel’s interests, Before the conflict, there was a 40% chance of an interest rate hike to 5.0% at the October 23 meeting. That according to Bank Hapoalim’s Chief Strategist, Modi Shafrir. The central bank had warned about responding to shekel depreciation causing higher inflation. However, after the conflict, the shekel depreciated more than 2.5% in a single da. Prompting the Bank of Israel to initiate a $30 billion intervention to stabilize the currency and counter inflation. Which had already exceeded the 1%-3% target range.
Market expectations in the following week shifted towards potential interest rate cuts of up to 75 basis points by year-end. And as Israel’s economy grappled with the impact of the conflict, particularly on tourism and construction sectors. Mobilizing reservists also strained the workforce.
The central bank revised down its economic growth forecasts to 2.3% for 2023 (from 3%) and 2.8% for 2024 (from 3.0%). Of that contingent on the conflict remaining contained.
The Tel Aviv Inter-Bank Offered Rate (TELBOR), an indicator of interest rate expectations, currently indicates expectations of slightly over 50 basis points in rate cuts over the next year.
Israel’s interests situation in the eye of the central Bank
Nonetheless, Bank of Israel Governor Amir Yaron has indicated that rate cuts are improbable during the ongoing conflict. That aligning with Deputy Governor Andrew Abir’s statements from the previous week, which emphasized the immediate priority of defending the shekel.
Yaron has emphasized the importance of reducing Israel’s risk premium, which has surged, and ensuring market stability. He has argued that measures taken to address deferred loan repayments effectively constitute a form of monetary easing. Credit default swaps, instruments used to hedge against sovereign defaults, increased from 60 basis points before the conflict to 149 basis points on Tuesday. Later settling at 145 basis points on Wednesday, according to data from S&P Global Market Intelligence.
The central bank’s own economists are projecting rate cuts in the range of 50-75 basis points over the next year. Prior to the conflict, financial markets had anticipated a reduction of at least 100 basis points in the benchmark rate by 2024. Of that as inflation was returning to its target range.
Concurrently, the Federal Reserve’s policy of maintaining elevated interest rates over an extended period is gaining traction. With U.S. 10-year Treasury yields, which play a pivotal role in global borrowing costs, recently reaching a 16-year high of 5%.
Also Read: Oil Price Recover Amidst Uncertainty in the Middle East Conflict
Israel’s interests forthcoming rate decision is scheduled for November 27. With current market expectations leaning towards a decision to maintain rates. The three-month TELBOR rate suggests a potential 25 basis point reduction early in 2024.
JPMorgan’s View on Bank of Israel’s Policy Challenges Amid Uncertainty
JPMorgan’s Anatoliy Shal contends that the Bank of Israel will ultimately need to implement an easing policy. Although the extent of such easing appears to be less aggressive than recent market pricing would suggest. Policymakers will grapple with the task of striking a balance between the imperative of supporting credit expansion, addressing the heightened risk premium. Also managing the substantial fiscal response to the ongoing conflict. While dealing with secondary effects stemming from supply shocks on inflation. It is essential to underscore that the prevailing situation is fraught with considerable uncertainty, as emphasized by Shal
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Please note that this article serves solely for informational purposes. As such, it is not financial advice. We strongly advise readers to conduct thorough research and consult with financial professionals before making any investment decisions.
