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Main Points of the address by the Deputy Governor of the Bank of Israel today at the Conference on Forecast for 2011 and the Sheshinski Committee Report at the Herzliya Multidisciplinary Center
January 11, 2011
The Deputy Governor of the Bank of Israel, Professor Zvi Eckstein, today addressed the conference on Forecast for 2011 and the Sheshinski Committee Report of the Rothschild Caesarea Center for Capital Markets and Risk Management held in the Herzliya Multidisciplinary Center. The following is a summary of his remarks.
Prof. Eckstein stated that the debt crisis in Europe is still in full swing, and it constitutes a risk to the whole global financial system and to the forecast growth in economies world wide. Concurrently, however, Israel is experiencing relatively rapid growth, and the Bank of Israel expects that despite the slowdown in the growth of exports, GDP will grow by 3.8 percent in 2011 and that the unemployment rate will decline to about 6 percent. The approved two-year budget for 201112 shows a continued fall in the debt/GDP ratio to 74 percent in 2012, and signals the stability and credibility of the fiscal policy. Israel's economy continues to attract capital inflows, resulting in over-evaluation of the shekel.
Monetary policy is aimed at a return to a normal level of interest, while maintaining price stability as the Bank of Israel's main objective. Inflation expectations for long-term periods of 510 years are within the target inflation range, indicating that the Banks policy and its commitment to act to achieve the target are perceived as credible. Nevertheless, the Deputy Governor emphasized the fact that one of the lessons learned from the crisis was that in a time of crisis the central bank can adopt a non-conventional policy. Ben Bernanke, the Chairman of the US Federal Reserve, illustrated this in quantitative easing programs (the purchase of government bonds), and credit easing programs (intervention in the financial markets intended to support financial and real stability). Against this background, said Prof. Eckstein, the Bank of Israel's policy of intervention in the foreign exchange market can be viewed as a non-conventional policy aimed at stabilizing the market and preventing excessive strengthening of the shekel. The crisis has resulted in rethinking about the appropriate level of foreign exchange reserves for small open economies, and today it is clear that the required level is higher than what was considered the right level prior to the crisis. Interest rate differentials vis-à-vis abroad are likely to cause the real exchange rate to deviate from its long-term equilibrium level, and in such circumstances a non-conventional policy is required that supports real and financial stability. Similarly, the danger of the creation of a bubble in housing prices supported by a significant increase in credit calls for intervention intended to preserve financial stability, a measure actually implemented by the Bank of Israel with regard to housing credit.
The Deputy Governor also spoke of the recently published conclusions of the Sheshinski Committee, and expressed his agreement with them. He explained that the Committees recommendations were aimed at preserving the balance between a significant return for the entrepreneurs, far in excess of the capital cost, and protecting the states and the publics share of the resource. The system proposed by the Committee, that the tax rate will depend on the size of the profits, ensures that taxation will be such that it will leave high profits for the investors, which will contribute to the development of the industry and the whole economy.