Remarks by the Governor of the Bank of Israel at the press briefing on monetary policy held today at the Bank of Israel
Yesterday and today, the Monetary Committee held discussions at the Bank of Israel in order to decide on monetary policy. At the end of the discussions, the Monetary Committee decided to increase the interest rate by 0.5 percentage points.
We are facing a complex reality, with significant developments in both the domestic and global economies. Some are positive, indicating a recovery after the crisis and showing the return to strong activity, which in some measures is even higher than before the crisis. However, others are less positive, and indicate difficulties in supply chains, increased uncertainty and inflationary developments.
How policymakers handle this range of developments is important to a successful economic outcome. Central banks’ monetary policy has considerable weight in how economic processes will develop in various economies and how they will be expressed in everyone’s daily life. Our main priority is to return inflation to its target range while maintaining as high a level as possible of economic activity.
The current rise in inflation derives partly from factors that are external to the Israeli economy, with considerable uncertainty surrounding them, such as the war in Ukraine and the continued disruptions in global supply chains, but also from domestic inflation processes, against the background of the strong activity in the economy.
Therefore, we in the Bank of Israel’s Monetary Committee are continuing to implement a process of monetary contraction. We are determined to return the inflation rate to within the target, and the process of monetary contraction is intended to bring that into effect while taking into account the range of considerations and economic developments in Israel and abroad. Of course, we are not alone in conducting such policy, it is a worldwide trend. In many other countries, inflation has deviated from the target and central banks are tightening monetary policy. Recall that the inflation environment in Israel is notably low compared to most OECD countries. However, with that, I will reiterate: maintaining price stability is the foundation of orderly economic activity and sustainable growth. A high inflation rate adversely impacts certainty and economic activity, and negatively impacts more the weaker segments of society.
The steps that we are taking are a continuation of the same policy line that we have been conducting for some time. The Monetary Committee began a gradual process of contraction of the monetary accommodation a year ago, at the beginning of the second half of 2021. At that time, we announced the gradual termination of the special tools we had put into operation at the height of the COVID-19 crisis, such as bond purchases and monetary loan programs.
In analyzing the inflation processes, we assign an important weight as well to a forward view—to expectations, forecasts, and pricing in various markets. The anchoring of expectations within the target is a very important factor in conducting monetary policy, and even more so in its effect on many economic processes. In this regard, we can say that expectations in Israel for the medium and long term are in fact well anchored within the target range, and have even declined slightly since the previous interest rate decision.
I will switch over now to looking at real activity and the connection to inflation. The labor market remains tight. The employment rate returned to its pre-COVID-19 crisis levels and even higher. The number of job vacancies is high in most industries. The tight labor market is also leading to some wage increases, particularly in industries with high demand for workers, and therefore it also has an impact on the development of inflation.
One of the important public issues is housing—both home prices and rents. Home prices continue to increase at a markedly high rate compared to the pace of recent years, but the trend of steeply increasing prices moderated slightly in the past month. First quarter data showed a sharp increase in building starts and construction permits, but in contrast, building completions remain low. In this regard, it should be noted that reaching 20,000 building starts in the first quarter of the year is a positive development but it is important to maintain it continuously, as this market is also driven by expectations of buyers and sellers.
The updated macroeconomic forecast published today by the Research Department incorporates the various developments and foresees continued solid growth of GDP, alongside the monetary tightening. The Department expects that GDP will grow by 5 percent in 2022 and by 3.5 percent in 2023. Although these are slightly lower paces than assessed in the previous forecast, I would like to emphasize that this is certainly growth that reflects a robust level of economic activity. The forecast indicates that inflation is expected to be above the target range at the end of 2022, but in 2023, it is expected to return to within the target and to total 2.4 percent. According to the forecast, the labor market will remain tight. The unemployment rate among the prime working ages (25-64) is expected to be 3.5 percent at the end of 2023. With all that, it is important to emphasize that considerable uncertainty remains, and the Research Department does point to several main risks to the forecast: high global inflation that does not manage to stabilize in 2023, and the extent of central banks’ ability worldwide to restrain it without sharply adversely impacting economic activity. In addition, there are risks in the domestic environment as well, such as the political uncertainty that can impact on economic developments and on fiscal policy, as well as the possibility of a worsening in COVID-19 morbidity to the extent that it will negatively impact economic activity.
In the recent period, we have witnessed marked declines in major equity indices, both in Israel and abroad, with considerable volatility. This is in view of the increase in uncertainty—the continued war in Ukraine, China’s policy to deal with the pandemic, and increased inflation and a move towards a tighter monetary policy worldwide. There was also considerable worldwide volatility in government bonds alongside increases in corporate bond spreads. We are also exposed to a decline in the value of technology companies worldwide including Israeli high-tech firms. At the micro level, there certainly could be difficulties for some of the companies in this industry. In this regard, it is important to me to emphasize that the Israeli high-tech sector of 2022 is in better shape than that of 2000. It is a high-tech sector with broad industry diversification, revenues, liquidity, and access to sources of financing.
I note the health-related developments—with which we would actually have begun the speech, and opened the news broadcasts not long ago—regarding COVID-19. As we are seeing at this time, the virus in its various forms is still here and apparently will remain with us going forward. We can say that after more than two years of pandemic, the public has adjusted to this reality and has learned how to deal with the virus and with the morbidity and how to have an active and growing economy alongside it.
I will conclude with the overall perspective that Israel’s economy is strong from many aspects. Growth is high, the labor market is tight, the government deficit is low, tax revenues are increasing and businesses continue to report an improvement in their situation. As we head into another round of elections and an environment of political uncertainty, it is important to remember that uncertainty in general, and political uncertainty in particular, are not good for the economy. With that, the Israeli economy has proven an impressive ability to grow and to prosper in the short term even in conditions of uncertainty. However, to ensure economic growth into the future, it is important to act with fiscal responsibility in this period, and that whatever government is elected, it will act to pass a State budget soon after entering office while advancing the reforms and investments required for the growth of the economy.