Monetary
policy: This report reviews monetary policy during the second half of 2020 and
the beginning of the first half of 2021.
During the reviewed period, against the background of the continuation of the
crisis and the deterioration in economic conditions due to the spread of the
coronavirus and the steps taken to prevent it, the Monetary Committee
implemented several tools with the goal of dealing with the crisis. The steps
taken were intended to reduce the adverse economic impact caused by the health
crisis, to ensure the continued orderly functioning of the financial markets,
to enhance the passthrough from the Bank of Israel interest rate to market
interest rates, and to encourage demand and inflation through easing credit
conditions, aided as well by the operation of specific and focused credit mechanisms.The July decision
included, for the first time, the purchase of corporate bonds in the secondary
market, at a scope of NIS 15 billion. In addition, it was decided to renew the
special program for expanding the supply of credit to small businesses and to
create an infrastructure to expand the range of assets that banks can accept as
collateral in order to extend credit. In the October decision, the Committee
announced the expansion of the bond purchase program by NIS 35 billion. In
addition, a new pillar was decided upon in the program to ease credit terms for
small and micro businesses: the Bank of Israel will provide the banking system
with loans at a negative interest rate of -0.1 percent, for the first time in
Israel, in accordance with the conditions that were set. During the second half
of the year, the interest rate was kept unchanged at 0.1 percent. Other than
the tools noted above, the Bank of Israel continued during the half year to
purchase foreign exchange. Alongside the monetary tools that the Committee
implemented, the Banking Supervision Department at the Bank of Israel took
several additional steps in the credit market.
Domestic
real activity: The data and indicators that were presented to the Monetary Committee
in the half year reviewed described the Israeli economy’s recovery during the
summer months, but also the sharp negative impact on activity during the second
lockdown in September-October. During the second lockdown, a sharp decline in
activity was seen, but at a more moderate intensity than there had been in the
first lockdown. Labor market data indicate that before the second lockdown was
imposed, the broad unemployment rate was stable at around 11-12 percent; that
during the lockdown it soared to about 23 percent in the first half of October;
and that after the lockdown it declined gradually to about 12.7 percent in the
first half of December.
The
inflation environment: During the second half of 2020, the inflation environment remained
low, and the year over year inflation rate was still negative, but slightly
higher than at the end of the first half. Inflation in the past 12 months is
-0.6 percent, and is -0.2 percent net of energy and fruit and vegetables. One-year
inflation expectations from all sources declined during the half year and were
below the lower bound of the target range, and expectations derived from the
capital market returned to the negative range in October-November. Forward
expectations for all ranges remained essentially unchanged in the second half,
and expectations for medium and longer terms (more than 3 years) remained
anchored within the target range throughout the half year.
The
exchange rate: During most of the second
half, the shekel strengthened slightly vis-à-vis the nominal effective exchange
rate, and in particular – in the last two months of the half year there was
significant appreciation. This was mainly due to the shekel strengthening
against the dollar. At the end of the half year reviewed, the shekel-dollar
exchange rate was at the low level of NIS 3.2/$.
The
global economy: During the third quarter the global economy improved, against the
background of the decline in the infection rate and easing of the lockdown
policies, with considerable variance among economies: there was an improvement
in the US, which was stronger than Japan and Europe, and China’s economy was
notably good due to its success in dealing with the health crisis. The
improvement in activity led as well to an upward revision of the IMF’s
forecast. World trade contracted sharply, and global inflation remained low. With
that, in the US it rose slightly to 1.2 percent. Monetary policy in various
countries remained very accommodative, central banks continued to signal their
readiness to take additional unconventional steps in order to ease financial
terms. Equity indices on capital markets worldwide recovered in the half year,
but volatility remains high.
Credit
market: Bank credit balances of small businesses and commercial credit
remained stable throughout the half year. The credit market continued to
function with stable interest rates, with support from a range of steps by the
Bank of Israel and the Ministry of Finance. The average interest rate for small
businesses even declined slightly. Based on the Business Tendency Survey, conducted
by the Central Bureau of Statistics, there is a continued trend of decline in
the constraint of raising funds – bank credit as well as nonbank credit – and
the indices are approaching pre-crisis levels even though they are still high
compared to the pre-crisis period. The bank credit balance in respect of which payments
were deferred under the framework for deferring loan payments, which was
initiated by the Banking Supervision Department, is around NIS 160 billion, of
which 65 percent (NIS 104 billion) are housing loans and about 13 percent (NIS
21.1 billion) was credit to micro businesses. For about 41 percent of the
deferred credit balances, payments have not yet been renewed. Activity
continues in the fund to provide government-guaranteed credit to small and
medium sized businesses, even in the track that is at enhanced risk. The
utilization rate of the fund for large companies remained relatively stable.
Financial
market developments: In the first half of 2020, the spread of the coronavirus
led to sharp declines in financial markets in Israel and abroad. In response,
many central banks, including the Bank of Israel, continued in the second half
of the year as well to operate various asset purchase programs and to remove
credit barriers to groups that needed it. This was to ensure that the markets remained
liquid and to support their orderly functioning. The government bond yield
curve steepened slightly, alongside higher yields in the nominal (unindexed)
curve, similar to the trend worldwide, led by the US. Corporate bond spreads
continued to narrow, alongside some increases in equity indices, but returns including
equity markets in Israel this year are markedly lower compared with the rest of
the world. Financial markets maintained relative stability for most of the second
half of 2020, and at the end there were price increases, among other things
against the background of news regarding coronavirus vaccines.
Fiscal
policy: In discussions on fiscal policy, Monetary Committee members expressed
concern throughout the half year about the continued uncertainty deriving from
the lack of a budget for 2020 and the nonsubmissison of a 2021 budget for
government approval. The deficit reached 9.1 percent of GDP in September, and
at the end of the year was expected to be about 12 percent of GDP. About
three-quarters of the deficit is attributed to the ramifications of the
coronavirus pandemic—half is due to increased expenditure and a quarter due to
decreased tax revenues due to the response of GDP to the crisis.
The
housing market: After a moderation of the rate of increase of
rents in the first half, the pace increased in the reviewed half year,
alongside a stable growth rate in the Home Prices Index.
The
Research Department’s staff forecasts: The Research
Department published four forecasts during the period being reviewed, in
parallel with the interest rate announcements – in July, August, (an unscheduled
update), October and January 2021. The forecast for October was joined by a
special update in November, which was presented to the Committee, of 2020
growth data, in view of encouraging growth data in the third quarter. For most
of the second half, the Research Department’s macroeconomic forecasts presented
two possible scenarios, and during the course of the half year, the expected
unemployment rate was revised upward. The two scenarios presented in the January
forecast are a scenario including rapid vaccination of the population by May
2021 (hereinafter, the rapid vaccination scenario) and a scenario in which the
vaccination is drawn out for a longer period of time until June 2022 (hereinafter,
the slow vaccination scenario). As of now, in view of the rapid pace of
vaccinations of recent weeks, it appears that as of the date of the publication
of the report, the probability of the materialization of the rapid vaccination
scenario is markedly higher than that of the slow vaccination scenario.
In the rapid
vaccination scenario, GDP is expected to grow by 6.3 percent in 2021 and by 5.8
percent in 2022. The inflation rate in the preceding 4 quarters (ending in the
fourth quarter of 2021) is expected to be 0.6 percent, and 0.9 percent in 2022.
The broad unemployment rate (for ages 15+) is expected to decline until the 4th
quarter of 2021 to 7.7 percent of the labor force, and to continue to decline
gradually to 5.4 percent at the end of 2022. The government’s deficit is
expected to be 8 percent of GDP in 2021 and 3.6 percent of GDP in 2022, so that
the debt to GDP ratio will be 77 percent in 2021 and 75 percent in 2022. This
assumes that the government takes policy steps (reducing expenditures and
raising taxes) at magnitudes that are in line with the restraint derived from
the expenditure ceiling set in law. Without such adjustment, expected expenditure,
base on existing decisions, will lead to a deficit of about 4 percent of GDP in
2022.
During the
reviewed half year, the Committee discussed the economic risks to the forecast,
which depend to a great extent on epidemiological developments – in the features
and number of lockdowns, which are liable to be different than assessments,
their effectiveness, the level of infection over the winter and the time and
pace of the public’s vaccinations against Covid -19 – but also on other
economic risks, such as additional weakness of activity abroad and government
steps, as well as political and budgetary uncertainty.