The Monetary Committee decides on October 23, 2023 to leave the interest rate unchanged at 4.75 percent

To view the message as a file click here

• The State of Israel is involved in a war after having been attacked just over two weeks ago. The war is having various economic effects, both on real activity and on the financial markets.  The Bank of Israel has taken a number of policy measures to deal with the situation.  The financial markets are functioning, and a large part of economic activity is continuing as usual.
• The Israeli economy is strong, stable, and based on solid foundations. In the past, it has demonstrated its ability to recover from difficult periods.  Prior to the war, the Israeli economy had a current account surplus, a low debt-to-GDP ratio, and high foreign exchange reserves. Economic activity in Israel was at a high level, despite some moderation in growth that was recorded in recent months.  The labor market is tight and in a full employment environment.
• Inflation is moderating, and was 3.8 percent over the past year. Inflation remains above the target range, and is affected by developments with regard to the exchange rate. One-year inflation expectations and forecasts are within the target range, near the upper bound. Expectations derived from the capital market for the second year onward are within the target range.
• The Bank of Israel Research Department revised its macroeconomic forecast in accordance with initial information gathered since the start of the war. The forecast is accompanied by particularly high uncertainty.  Under the assumption that the war will be concentrated on the southern front during the fourth quarter of the year, GDP is expected to grow by 2.3 percent in 2023 and by 2.8 percent in 2024.  It is expected that the impact to economic activity will lead to an increase in the government’s budget deficit, which will reach 2.3 percent of GDP in 2023 and 3.5 percent of GDP in 2024.  In view of this, the debt-to-GDP ratio at the end of 2024 is expected to be 65 percent.
• Since the outbreak of the war, there has been a further significant depreciation of the shekel, in addition to the depreciation since the beginning of the year. In view of the war’s impact and in order to stabilize the markets, the Bank of Israel announced a program to sell up to  US$30 billion in foreign exchange, and a program to make swap transactions up to $15 billion in the foreign exchange market.  Since the previous interest rate decision, the shekel has weakened by 6.3 percent against the US dollar, by 4 percent against the euro, and by 4.8 percent in terms of the nominal effective exchange rate.
• In the credit market, the banks and credit card companies adopted a broad loan repayment deferral program that was formulated by the Banking Supervision Department. The program is intended to assist individuals and businesses who have been harmed, and to help with their cash flow during the upcoming period.
• Globally, the security situation in Israel has led to increased geopolitical tension in the Middle East, but the impact on the global financial markets has been moderate so far, although there has been an impact on the prices of oil and natural gas.

In view of the war, the Monetary Committee’s policy is focusing on stabilizing the markets and reducing uncertainty, and it has activated a program to sell foreign exchange and to provide liquidity in the swap and repo markets.  The interest rate path, and the use of additional monetary policy tools, will be determined in accordance with this purpose and with developments in the war, as well as with data on economic activity and the inflation dynamics, in order to continue supporting the markets’ stability and achieving the policy objectives and the needs of the economy. 

For the file of figures accompanying this notice, click here.

The State of Israel is involved in a war that began about two weeks ago when terrorist organizations in Gaza committed a murderous atrocity in Israel, violating every basic rule of morality and humanity.  Along with the harm to human life and the tremendous pain, the war has various economic implications, both on real activity and on the financial markets.  The Bank of Israel has accordingly taken a number policy measures, based on the experience gained during the COVID-19 period.  The financial markets are functioning, and much of the country’s economic activity is continuing as usual.  However, there is great uncertainty regarding the depth and duration of the impact, and this will be affected by the extent of the fighting.  The Israeli economy is strong, stable, and based on solid foundations, and it has in the past demonstrated its ability to recover from difficult periods.

Prior to the war, the Israeli economy was characterized by strong fundamentals, and had a current account surplus, a low debt-to-GDP ratio, and high foreign exchange reserves. Economic activity in Israel was at a high level, despite some moderation in growth in recent months.  The labor market remains tight and in a full employment environment.  Inflation is moderating, but remains above the target range, and is affected by the development of the exchange rate.

Since the previous policy decision, the CPI declined by 0.1 percent in September, after increasing by 0.5 percent in August. Inflation in the past 12 months remained above the upper bound of the target range, at 3.8 percent (Figure 1). Inflation remains lower in Israel than in most of the advanced economies. Net of energy and fruits and vegetables, inflation in the past year is 3.6 percent, and with the further neutralization of the effects of taxation and regulation, inflation is 3.8 percent (Figure 2). The pace of annual inflation of the nontradable components of the CPI, which mainly reflects the housing services component and the services industries, declined but remained high, at 4.6 percent. The annual pace of inflation of the tradable components has been volatile lately, and stands at 2.6 percent (Figure 3). One-year inflation expectations and forecasts remained relatively stable, and are within the target range, around its upper bound. (Figure 6). Expectations derived from the capital market for the second year and onward are also stable and within the target range (Figure 7). In view of the decline in demand, and along with supply side limitations due to the war, there is considerable uncertainty with regard to the development of inflation in the coming period. The Monetary Committee’s assessment is that the current monetary policy supports the convergence of inflation to its target.  The depreciation of the shekel poses a significant risk of increase in the pace of inflation, and the development of the exchange rate in the coming months will have an impact on it.

The Bank of Israel Research Department revised its macroeconomic forecast in accordance with initial information accumulated since the start of the war.[1]  The forecast includes an assessment of economic developments assuming that the war will be concentrated on the southern front during the fourth quarter of the year.  There is a particularly high level of uncertainty surrounding the forecast.  A longer or shorter duration and the expansion of the war to other fronts may change the forecast significantly. The Research Department’s assessments concerning the macroeconomic impact of the war were compiled on the basis of the forecast’s starting point prior to the war, in which economic activity was higher than assessed in the previous forecast from July. The Research Department’s assessment is that GDP will grow by 2.3 percent in 2023 and by 2.8 percent 2024 (Figure 17).  The unemployment rate among the prime working ages (25–64) is expected to increase to an average of 3.2 percent in 2023 and 3.6 percent 2024.  Inflation in the four quarters ending in the third quarter of 2024 is expected to be 2.9 percent, and in the four quarters ending in the fourth quarter of 2024, it is expected to be 2.5 percent.  In view of the effects of the war, it is expected that the impact to economic activity will lead to a decline in tax revenue, with a parallel increase in defense expenditures, and that the government will operate a civilian assistance program.  All these are expected to be reflected in an increase in the government’s budget deficit, which will total 2.3 percent of GDP in 2023, and 3.5 percent of GDP in 2024.  In view of this, the debt-to-GDP ratio is expected to be about 62 percent in 2023 and about 65 percent in 2024.

Activity indicators prior to the war indicated solid economic activity, but with some moderation of growth.  The aggregate balance of the Central Bureau of Statistics Business Tendency Survey was in a downward trend, but continued to indicate businesses’ positive assessments of their state. Tax revenues in September were about 7.6 percent lower in real terms than in the same period last year. Goods and services exports stabilized in recent months (Figure 20). Goods imports have been in a downward trend in recent months (Figure 21).

The labor market remains tight and in a full employment environment, and the job vacancy rate remained steady in August. The employment rate among those aged 15 and over (61.4 percent, seasonally adjusted, in September) and the employment rate among the prime working ages (25–64, 79.4 percent, seasonally adjusted, in August), are higher than before the COVID-19 crisis (Figure 22). The unemployment rate for those aged 15+ remained similar in September to the previous month, at 3.2 percent, seasonally adjusted, while the unemployment rate among the prime working ages declined to 2.7 percent (seasonally adjusted, in August) (Figure 23). The average wage per employee post in July, as well as the nowcast estimate for August, increased at a relatively high annual pace, but the real wage level remained stable (Figure 24).

The volume of activity in the housing market continues to moderate, and there are short-term difficulties in activity in the construction industry due to the war. Home prices are declining, and the pace of home price increases in the past 12 months moderated to 0.8 percent (Figure 12). In July–August 2023, the Index of Home Prices declined by 0.4 percent, and the prices of new homes declined by 0.6 percent. The downward trends in the number of housing transactions and in new mortgage volume slowed, but still cannot provide an indication for the future due to the uncertainty created by the war. In September, new mortgage borrowing totaled NIS 5.5 billion (Figure 13). The increase in the owner-occupied housing services component in the CPI moderated to 5.5 percent in the past year. Monthly rents for tenants renewing their contracts increased by 3.5 percent in September, and monthly rents on new contracts increased by 7.6 percent.

Since the beginning of the year, the shekel has weakened against most of the major currencies (Figure 9), with high volatility in the exchange rate.  The shekel has depreciated further since the outbreak of the war.  In view of the effects of the war, and in order to stabilize the markets, on October 9 the Bank of Israel announced a program to sell up to US$ 30 billion in foreign exchange out of the large foreign exchange reserves that had stood at about $200 billion (about 40 percent of GDP).  As part of the program, the Bank will operate in the market as necessary in order to moderate volatility in the shekel exchange rate and to provide the necessary liquidity for the continued proper functioning of the financial markets.  In addition to the $30 billion program, and as necessary, the Bank of Israel will also supply up to $15 billion in liquidity to the market by using a swap mechanism in the foreign exchange market.  In addition, the Bank has activated a repo program for government and corporate bonds. Since the previous interest rate decision, the shekel has weakened by 6.3 percent against the US dollar, by 4 percent against the euro, and by 4.8 percent in terms of the nominal effective exchange rate (Figure 8).

In the capital market, equity prices have fallen sharply since the outbreak of the war (Figure 34). Yields on long-term government bonds and on corporate bonds increased.  In the credit market, the banks and credit card companies adopted a broad loan repayment deferral program that was formulated by the Banking Supervision Department.  The program is intended to assist individuals and businesses who have been harmed, and to ease their cash flow during the upcoming period.  Prior to the war, there was a slowing trend in bank and nonbank credit to all activity segments and all industries. There was also a slight increase in the indices of credit risk to medium, small and micro businesses. The amounts of capital raised by the high-tech sector stabilized at the end of the third quarter, at low levels relative to recent years, which is part of the global trend (Figure 26).

Globally, the security situation in Israel has led to increased geopolitical tension in the Middle East, but so far the fallout on the global financial markets has been moderate, although there has been an impact on the prices of oil and natural gas.  The International Monetary Fund’s growth forecasts for 2024 declined slightly, with the IMF forecasting global growth of 2.9 percent.  The forecast for the volume of world trade (goods and services) was revised downward (Figure 28). In the US, economic activity was particularly positive, and the growth forecast was revised upward. The global purchasing managers’ indices for both advanced economies and emerging markets continued to trend downward in September, and the index for the advanced economies declined to a level that reflects economic contraction (Figure 29).

The inflation environment moderated in many countries, but remains above their central bank targets (Figure 32). Core inflation, which was more “sticky”, is also moderating. With that, monetary tightening around the world continues and market expectations are that the interest rate environment will remain high for a longer period than was expected prior to the previous decision.

The minutes of the monetary discussions prior to this interest rate decision will be published on November 6. The next decision regarding the interest rate will be published at 16:00 on Monday, November 27, 2023.

[1] The full forecast is being published separately, and can be found at {link}.