The Bank of Israel keeps the interest rate for April–May 2013 unchanged at 1.75 percent

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In accordance with the Monetary Committee's decision of January 28, 2013, this interest rate will be in effect for April and May, 2013.
 
Background conditions
 
Inflation data: The Consumer Price Index (CPI) for February remained unchanged, in line with forecasts. The rate of increase in the CPI over the past 12 months remained essentially unchanged compared to recent months, at 1.5 percent.
 
Inflation and interest rate forecasts: Forecasters' inflation projections for the next twelve months, as well as inflation expectations based on over-the-counter CPI futures contracts offered by banks, were 1.8 percent on average, similar to their level last month. Inflation expectations for the next twelve months calculated from the capital markets (breakeven inflation), seasonally adjusted, remained stable at 2 percent. Inflation expectations for short terms (2–3 years) were unchanged at 2.4 percent, while expectations for the medium term declined slightly from previous months. Expectations for longer terms declined from 2.4 percent to 2.3 percent, continuing the marked decline of last month (from 2.8 percent to 2.4 percent). Expectations for the Bank of Israel interest rate one year from now derived from the Telbor (Tel Aviv Inter-Bank Offered Rate) market, and expectations based on the average projection of forecasters, are for an interest rate of 1.6 percent and 1.75 percent, respectively.
 
Real economic activity: Updated indicators of economic activity in February point toward continuation of the improvement which began to be seen in January. Most indicators which became available this month are positive—the Business Tendency Survey indicates that there was improvement in activity in February, continuing that of the previous month. Similarly, the Climate Index indicates a continuation of the positive trend in the business sector, and the Composite State of the Economy Index increased in February at a rate similar to that of the previous month, and the growth rate is relatively high compared with the final quarter of 2012. The industrial production index increased by 5.7 percent in January, and the Purchasing Managers Index increased and reached the level indicating expansion in manufacturing industry. Most consumer confidence indices increased. Tax revenues in January–February were in line with the seasonal path consistent with the growth estimate of 3.8 percent. With that, it is likely that the positive picture derives from a correction from the weakness in the final quarter of 2012, which stemmed from, among other things, security issues, and it is too early to tell if this is a change in trend.
 
The labor market: Labor market data which became available this month indicate stability in employment for January. Labor force survey data for January indicate a decline of 0.3 percentage points in the unemployment rate, to 6.5 percent, with a decline of 0.2 percentage points in the participation rate. There was a slight decline as well in the unemployment rate among the main employment ages of 25–64, to 5.5 percent. Unemployment data are consistent with figures of the Israeli Employment Service, which reported a decline in the number of unemployed and laid off workers in January. Employers' expectations in various industries reported in the Business Tendency Survey for February present a mixed picture for the changes in the number of employed people in the coming 3 months. This was in line with the decline of 7 percent in February in the number of available posts. Nominal wages increased by 1.3 percent and real wages increased by 0.9 percent in the fourth quarter, based on seasonally adjusted data. Health tax receipts by the National Insurance Institute, which provide an indication of nominal wage payments, were 5.4 percent higher in December–February than in the corresponding period of the previous year, reflecting a slowdown compared with an average year over year increase of 6.4 percent in the preceding 3 month period.
 
The Bank of Israel Research Department staff forecast: This month, the Bank of Israel Research Department updated its macroeconomic forecast. (A separate press release presenting the forecast is issued together with this notice.) According to its projection, the inflation rate over the 4 quarters ending in the first quarter of 2014 will be 1.7 percent, the Bank of Israel interest rate, which was 1.75 percent when the forecast was formulated, is expected to remain at that level in the coming year, and GDP is expected to grow by 3.8 percent in 2013, assuming that production of natural gas from the Tamar field begins as expected during the second quarter of 2013 (similar to the previous forecast). Excluding the effect of natural gas production from Tamar, growth is projected to be 2.8 percent. Growth in 2014 is forecast to be 4.0 percent (3.3 percent excluding the effect of natural gas production from Tamar), a projection which reflects an acceleration in activity, influenced by the expected recovery worldwide. Gas production requires a small number of workers, so that the developments expected in employment and unemployment will primarily be impacted by growth of GDP excluding gas production.
 
Budget data: In February, the government operated without an approved budget framework and in accordance with the law allowing it to spend 1/12 of the overall 2012 budget each month in 2013 (including debt repayments), until a budget framework is approved. The cumulative deficit from the beginning of the year is about NIS 1.3 billion, about NIS 4.1 billion greater than the seasonal path consistent with the deficit of 3.6 percent of GDP derived from the fiscal rule and tax rates set in law. An examination of the spending commitments for 2013 made in past years indicates that in order to abide by the expenditure rule, the government must reduce the commitments by about NIS 13 billion (about 1.3 percent of GDP). Even after such cuts, this is still a real expansion of about 4.5 percent compared with the 2012 budget. Deviation in the government deficit is liable to lead to increased interest rates in the economy.
 
The foreign exchange market: From February 24, 2013, through March 20, 2013, the shekel appreciated by about 0.84 percent against the dollar, and by 2.9 percent against the euro. In terms of the nominal effective exchange rate, the shekel appreciated by about 1.95 percent during the period. The shekel's strength against the dollar during the month was in contrast to the dollar's trend worldwide.
 
The capital and money markets: From February 24, 2013, through March 20, 2013, the Tel Aviv 25 Index increased by about 2.3 percent. Yields on government bonds increased moderately, and the yield differential between 10-year Israeli government bonds and equivalent 10-year US Treasury securities widened by about 5 basis points, to 209 basis points. Makam yields increased slightly along most of the curve by up to 6 basis points, with one-year yields increasing to 1.66 percent during the period. Israel's sovereign risk premium as measured by the five-year CDS spread was unchanged at 122 basis points. The Tel-Bond 60 Index increased moderately by about 0.1 percent over the period. Spreads in the corporate bond market widened for companies with lower ratings.
 
The money supply: In the twelve months ending in February, the M1 monetary aggregate (cash held by the public and demand deposits) increased by 12.9 percent, and the M2 aggregate (M1 plus unindexed deposits of up to one year) increased by 6.9 percent.
 
Developments in the credit markets: The outstanding debt of the business sector declined by 0.3 percent in January, from NIS 779 billion to NIS 776 billion. Total outstanding credit to households increased in January by 0.3 percent, to NIS 386 billion. The total volume of new mortgages granted in February was NIS 3.9 billion, similar to January. The balance of housing debt was NIS 271 billion in January, an increase of 7.1 percent compared with January 2012. Interest rates on new mortgages taken out in January remained unchanged. The decline in the LTV ratio for housing loans continued in February, against the background of directives issued by the Supervisor of Banks. There was also a decline in the proportion of mortgages granted to finance homes purchased for investment purposes. The decline in the average LTV ratio and in the proportion of mortgages for investment purposes apparently indicate the increasing influence of constraints imposed by the Banking Supervision Department.
 
The housing market: The housing component of the CPI (based on housing rents) declined by 0.4 percent in February. In the twelve months ending in February, it increased by 2.5 percent, compared with an increase of 2.9 percent in the twelve months to January. Home prices, which are published in the Central Bureau of Statistics survey of home prices but are not included in the CPI, increased in December–January by 1.7 percent, after increasing by 1.1 percent in November–December. The rate of increase in home prices continues to rise. In the twelve months ending in January, home prices increased by 8.6 percent, compared with an increase of 6.7 percent in the twelve months to December.
 
There were 39,794 building starts in the 12 months ending in December, and this is expected to continue to support a high level of stock of homes. At the same time, the number of building starts in 2012 was about 13 percent lower than in 2011. In addition, the rate of properties marketed by the Israel Lands Administration has declined sharply.
 
The global economy: The global macroeconomic picture was mixed in the past month. In the US, macro data continued to be mostly positive, and indicated continued recovery in the economy, despite the fiscal tightening measures which went into effect in the beginning of the year and in March. With that, the consequences of those measures, together with the debt ceiling issue, present a risk to the continued process of improvement, as already expressed in the decline in the consumer confidence index there. In the eurozone, macro data continued to be weak and indicated continued recession. Against this background, the European Commission and the ECB recently revised their eurozone growth forecasts for 2013 downward, with neither entity forecasting positive growth until 2014. In China, recent macro data indicated some loss of momentum in the growth rate. In the eurozone, there were two factors in the recent month which increased concern of a return of the debt crisis in Europe—election results in Italy which raised doubts about continued implementation of reforms in the country, and developments in Cyprus. Over the period, stock market indices of advanced economies increased. Oil and metals prices declined during the period, and agricultural commodity prices were stable. Monetary policy at most central banks did not change during the past month, and interest rates in major economies remained low, with expectations for accommodative monetary policy to continue.
 
The main considerations behind the decision
 
The decision to keep the interest rate for April–May 2013 unchanged at 1.75 percent is consistent with the Bank of Israel's interest rate policy, which is intended to entrench the inflation rate within the price stability target of 1–3 percent a year over the next twelve months, and to support growth while maintaining financial stability. The path of the interest rate in the future depends on developments in the inflation environment, growth in Israel and in the global economy, the monetary policies of major central banks, and developments in the exchange rate of the shekel.
 
The following are the main considerations underlying the decision:
 
·        The inflation environment reflected in increased actual prices and expectations for one year ahead remains stable. Inflation over the previous 12 months was 1.5 percent, and forecasters' inflation projections for the next year are 1.8 percent, on average.
 
·        Updated indicators of economic activity in February point toward continuation of the signs of improvement which began to be seen in January, but it is still too early to determine if this is a positive turning point. According to the Research Department's staff forecast, GDP growth is expected to be 3.8 percent in 2013, and 4 percent in 2014. Excluding the effects of natural gas production from "Tamar" drilling, GDP growth is expected to be 2.8 percent in 2013 and 3.3 percent in 2014.
 
·        One of the sources of uncertainty regarding developments in the economy is the government's fiscal policy. An examination of the budget commitments which are already in place indicates that in order to abide by the expenditure rule, the government must reduce commitments this year by about NIS 13 billion (about 1.3 percent of GDP). Even after such a reduction, the budget would reflect a real expansion of 4.5 percent compared with the 2012 budget. Deviation in the government deficit is liable to lead to increased interest rates in the economy.
 
·        The global macroeconomic picture is mixed. There are signs of recovery in the US economy, while in Europe, the slowdown continues. With that, it appears that the there has been a decline in the probability of a crisis occurring, a development which has reduced the high level of uncertainty that prevailed in the past year.
 
·        In terms of the nominal effective exchange rate, the shekel continued its appreciation this month, following its strengthening in recent months.
 
·        The rate of increase in home prices continues to rise, and in the 12 months which ended in January, home prices increased by 8.6 percent, compared with an increase of 6.7 percent in the 12 months which ended in December.
 
·        During the past month, the expansionary policies of major central banks continued, and interest rates in those economies remained near zero. The accommodative policies of central banks in major advanced economies, based on their announcements, are expected to continue during the rest of the year.
 
The Bank of Israel will continue to monitor developments in the Israeli and global economies and in financial markets, particularly in light of the continuing high level of uncertainty in the global economy. The Bank will use the tools available to it to achieve its objectives of price stability, the encouragement of employment and growth, and support for the stability of the financial system, and in this regard will keep a close watch on developments in the asset markets, including the housing market.
 
 
The minutes of the discussions prior to the interest rate decision for April–May 2013 will be published on April 7, 2013 (Sunday).
The decision regarding the interest rate for June 2013 will be published at 17:30 on Monday, May 27, 2013.