The Bank of Israel's Monetary program for October 2001

24 September 2001
Monetary program for October 2001
The Bank of Israel today announced its monetary program for October 2001, according to which its interest rate will remain at its present level of 6.3 percent. The Bank of Israel explains that underlying the interest-rate decision were two main developments: * Future estimates of inflation-as derived from inflation expectations in the capital market, private forecasters' assessments, and inflation estimates based on macroeconomic models developed in the Bank of Israel-have continued to rise in recent months, and are currently deviating upwards to some extent from the target range for the next few years. In addition, there has been more rapid local-currency depreciation than in the past, and this may affect inflation in the near future. * On the other hand, the assault on the US and its repercussions in world capital markets, as well as fears of the exacerbation of the global recession, could prolong Israel's economic slowdown and contribute to the moderation of the rate of price increases. Against this backdrop, and view of increased uncertainty, the Bank of Israel's decision not to change the interest rate now is consistent with attaining the government's target. As is known, monetary policy aims to attain the inflation target set by the government, providing the necessary infrastructure for sustainable growth and bolstering the financial stability of the money, capital, and foreign-currency markets. This stability withstood the test of recent events in world capital markets in the wake of the attack on the US, and it is important to continue fostering it in view of increased uncertainty resulting from the domestic and external factors to which Israel is exposed. The Bank of Israel points out that, subject to the preservation of price stability, monetary policy serves to uphold real economic activity in Israel in 2001 in two ways: * Real short-term interest has been gradually reduced from 7 percent in January to 3.2 percent in the first half of September. * There was real depreciation when the NIS exchange rate declined by 7-8 percent against both the dollar and the euro from the beginning of the year. This was made possible when nominal depreciation was not accompanied by a significant increase in the rate at which prices rose. Only by maintaining price stability, the Bank of Israel stressed, will export- and investment-led growth, i.e., sustainable growth, be encouraged. Undermining price stability by an interest-rate policy that is not consistent with the economic conditions prevailing in Israel will have an adverse effect on investment and increase the balance-of-payments deficit, primarily in view of the larger government budget deficit this year, as well as that expected next year too. The increase in the budget deficit and balance-of-payments deficit could make it more expensive for the government and the business sector to borrow abroad. In contrast with the decline in the real short-term interest rate, the slow rise in real long-term interest is continuing, as measured by the yield on government bonds, which is currently 4.6 percent (compared with short-term interest of 3.2 percent). Long-term interest is affected inter alia by increased net borrowing by the government due to the increase in the government deficit this year, constituting the basis for the interest rates on long-term loans, including mortgages and the financing of long-term projects. The risk premium which international capital markets ascribe to Israel's economy remained essentially unchanged and is currently estimated at 0.7 of a percentage point (for half a year) and 1.6 percentage points (for 10 years). Note that because of the low level of tradability, it is not yet possible to obtain new indications from the markets in this respect. The interest-rate differential against the dollar is currently about 3.3 percentage points, compared with 5.2 percent in January 2000 and 2.0 percent in January 2001. The widening of the differential this month stemmed from the 0.5 percentage-point interest-rate reductions in the US.

Changes in the Interest Rates of the Central Banks of Israel and the US

ISRAEL
US
Differential between NIS and dollar interest rates* (percentage points)
Interest level (precentage annual rates)
December 1998
13.50
4.75
8.8
December 1999
11.20
5.50
5.7
December 2000
8.2
6.5
1.7
Changes in interest rate in 2000 (percentage points)
January
-0.5
0
5.20
February
-0.4
0.25
4.55
March
-0.4
0.25
3.90
April
-0.3
0
3.60
May
-0.3
0.5
2.80
June
0
0
2.80
July
0
0
2.80
August
-0.2
0
2.60
September
-0.2
0
2.40
October
-0.3
0
2.10
November
-0.2
0
1.9
December
-0.2
0
1.7
Changes in interest rate in 2001 (percentage points)
January
-0.2
-0.5
2.0
February
-0.3
-0.5
2.2
March
-0.2
-0.5
2.5
April
-0.3
-0.5
2.7
May
0.0
-0.5
3.2
June
-0.4
-
2.8
July
-0.3
-0.25
2.75
August
-0.2
-0.25
2.80
September
0.0
-0.5
3.30
October
0.0
Interest level in 2001 (perecet,annual rate)
January
8.0
6.0
2.0
February
7.7
5.5
2.2
March
7.5
5.0
2.5
April
7.2
4.5
2.7
May
7.2
4.0
3.2
June
6.8
4.0
2.8
July
6.5
3.75
2.75
August
6.3
3.5
2.80
September
6.3
3.0**
3.30
October
6.3
* The comparison of interest rates requires reference also to Israel’s country risk, which according to international capital markets now ranges from 0.7 percentage point (for half a year) to 1.6 percentage points (for 10 years). Note that the risk premium is characterized by volatility which is sometimes caused by factors related to Israel’s economy, and sometimes by global events.
** The Open Market Committee of the US Federal Reserve is set to convene
on October 2nd for its regular review of interest-rate policy. The current Federal Reserve rate of interest, prior to the review, is 4.0 percent.

The Bank of Israel Real Rate of Interest and the Real Yield on CPI-Indexed Government Bonds (monthly average, percent)
 

Rate of interest in Bank of Israel auctions

 
 

Headline rate (simple)a

Effectivea

Realb

Real yield to redemption on CPI-indexed 10-year bonds

2000     January

10.7

11.4

8.6

5.2

February

10.3

10.9

7.8

5.2

March

9.9

10.5

7.8

5.1

April

9.6

10.1

7.0

5.1

May

9.3

9.9

6.0

5.1

June

9.3

9.9

6.1

5.2

July

9.3

9.8

7.1

5.4

August

9.1

9.6

7.3

5.6

September

8.9

9.4

6.9

5.7

October

8.6

9.1

6.9

5.6

November

8.4

8.9

7.0

5.6

December

8.2

8.6

7.8

5.8

2001     January

8.0

8.4

7.0

5.6

February

7.7

8.1

6.0

5.3

March

7.5

7.9

5.8

5.1

April

7.2

7.6

6.2

5.0

May

7.2

7.6

6.3

4.7

June

6.8

7.3

5.5

4.3

July

6.5

6.8

4.6

4.4

August

6.3

6.6

3.5

4.5

September

6.3

6.6

3.2

4.6


a Calculated in annual terms.

b Real rate of interest is the effective rate of interest minus inflation expectations derived from the capital market.