The Bank of Israel's Monetary program for June 2000


May 29, 2000
The Bank of Israel today announced its monetary program for June 2000, according to which its interest rate will remain unchanged.

The Bank of Israel noted that the decision to leave the nominal interest rate unchanged is consistent with the attainment of the government’s inflation target of an annual rate of 3-4 percent for the years 2000 and 2001. The Bank of Israel again stressed that attaining the government’s inflation target, within the framework of striving for price stability over time, creates the infrastructure necessary for sustained growth. The Bank explained that the decision regarding the rate of interest for June is based mainly on the convergence of expected inflation for a one- and two-year horizon with an environment consistent with the target of 3-4 percent a year. This contrasts with the developments in this area in recent months, when expected inflation and various inflation forecasts for one and two years forward were in an environment which appeared to be below that required to meet the inflation target. This background enabled the process of reducing the rate of interest in the last few months to take place.

The Bank of Israel emphasized that there are dangers in the area of inflation that are influenced inter alia by the trend of a rapidly declining interest-rate gap between Israel and abroad, essentially between interest on local currency and that on the dollar (with dollar interest continuing to rise recently), and by the slowdown in the raising of capital in the US capital market by Israeli companies, in the light of the trend change in that market. These developments have implications for capital flows and for the management of the public’s assets and liabilities portfolios, as well as for Israel’s financial markets. The Bank of Israel again pointed out in this context that the public considers the dollar interest rate as the main substitute for the local-currency interest rate, and this is reflected in the current dollar share in the currency composition of the foreign-currency assets and liabilities held by the public, as well as of capital flows to and from Israel.

The Bank added that activity in the domestic foreign-currency market is likely to be affected inter alia by assessments of the effects expected to result from the proposed reform of taxation of individuals. The reform includes changes some of which may have long-term effects on the relative rate of return on investment in foreign-currency assets-financial and other- compared with that on investment in local-currency assets. The extent to which these factors persist over time, and the degree to which they do so, as well as the development of the money supply and of signs of recovery in real activity in the economy, all these constitute part of the assessment of whether the current nominal rate of interest is appropriate, also for the future, to the achievement of the inflation target.

The Bank of Israel noted that the effect of interest-rate policy on the inflation path is not confined to the framework of a calendar year. Thus, decisions on the rate of interest are based on the assessment of expected inflation for the next year and two years-and not for the current or any other calendar year-an assessment derived mainly from an analysis of various economic developments and their long-term implications. The Bank stressed that these decisions on the rate of interest are aimed solely at achieving the inflation target determined by the government, and not at achieving any level of the NIS exchange rate or any change in it. Data such as the Consumer Price Index, changes in the exchange rate, fluctuations in the capital markets, and inflation expectations, for any particular week or month including the most recent one, and certainly for the last few months, do not per se provide a sufficient basis for assessing inflation for the next year or two. They are therefore not relevant to the monthly decisions on interest-rate policy, unless they have clear repercussions on the inflation path for that period.

Changes in the Interest Rates of the Central Banks of Israel and the US*
ISRAEL
US
Interest level in December 1998 (percent, annual rates)
13.50
4.75
Change in interest rate in 1999 (percentage points)
January
0
0
February
0
0
March
-0.5
0
April
-0.5
0
May
-0.5
0
June
0
0.25
July
0
0
August
-0.5
0.25
September
0
0
October
0
0
November
0
0.25
December
-0.3
0
Change in interest rate in 2000 (percentage points)
January
-0.5
0
February
-0.4
0.25
March
-0.4
0.25
April
-0.3
0
May
-0.3
0.5
June
0
**
Interest level in June 2000 (percent, annual rates)
9.30
6.50

* The comparison of interest rates requires reference also to Israel’s country risk, which ranges in the capital markets from 1 percent to 1.5 percent.
** The Open Market Committee of the US Federal Reserve is set to convene on June 28 for its regular review of interest-rate policy. The current Federal Reserve interest rate, prior to the review, is 6.5 percent.