Israel’s central bank may need to surpass an interest-rate hike by the US Federal Reserve for the first time since starting its cycle of monetary tightening last April, as it tries to fight off pressures on inflation and the shekel.
(Bloomberg) —
Israel’s central bank may need to surpass an interest-rate hike by the US Federal Reserve for the first time since starting its cycle of monetary tightening last April, as it tries to fight off pressures on inflation and the shekel.
Though an increase of a quarter percentage point that would match the Fed’s last decision is still the most likely outcome, a larger move is also a possibility.
Economists at Bank Hapoalim and Goldman Sachs Group Inc. are among forecasters not ruling out a hike above 4% from 3.75%. Four of the 13 participants in a Bloomberg survey see a 50 basis-point rise.
The calculus may be changing for the Bank of Israel after a surprise acceleration in inflation and economic growth added to a bout of political turbulence that helped make the shekel the worst-performing currency in the Middle East this month, after the Lebanese pound.
“The recent shekel volatility and financial stress — due to concern regarding the proposed judicial reform — will all support a rate hike of half a percentage point,” said Jonathan Katz, macro strategist for Leader Capital Markets.
The rationale for a bigger move also includes “the combination of a higher than expected CPI and acceleration in core inflation in January, fairly robust growth and a tight labor market,” Katz said.
Above Target
Price gains, above the official target range of 1%-3% for over a year, unexpectedly accelerated to an annual 5.4% last month, even after the central bank’s longest tightening cycle in decades brought rates to a level last seen in 2008.
Higher energy costs for households, alongside housing inflation, were among the biggest drivers of price increases in January.
“The high CPI in January strengthens our assessment that policy rates will increase above the 4% level, and will remain high for an extended period of time,” economists at Hapoalim, Israel’s second-biggest bank, said in a research note.
“Apprehension regarding the negative impact on mortgage borrowers is the only factor that may moderate the increase in interest rates,” they said. “It is possible that already in the upcoming decision they will exceed 4%.”
The Bank of Israel started to raise borrowing costs in smaller increments from November even as inflation has for now shown little sign of easing. Governor Amir Yaron has signaled policymakers “are determined” to bring price growth back into its target range and expects a deceleration to take hold after February.
But the latest forecasts from the central bank’s research team suggested the benchmark rate will average only 4% in the final three months of this year.
Expectations in the market, however, are for much more aggressive tightening. Israel’s one-year currency swaps indicate investors see the base rate rising to around 4.5% a year from now.
Though expected to moderate in the months ahead, inflation is also coming under pressure from the shekel, whose strength was once a key factor in holding back consumer prices. It’s down almost 3% against the dollar so far in February.
Closely correlated with the performance of US equities, the Israeli currency lost nearly 12% last year against the dollar in its worst performance since 1998. The political backlash against the government’s plans to reshape the judiciary has also become a factor, stoking a depreciation that makes imports more expensive.
Goldman economists Tadas Gedminas and Kevin Daly, whose base case is for a rate increase to 4% on Monday, said “the risks are skewed toward a larger hike and the decision is likely to be paired with more hawkish communication,” according to a report.
“After a prolonged period of weakness, the exchange rate is switching from pulling down inflation in 2022 to pushing up inflation this year,” they said. “It will be much harder for the Bank of Israel to bring inflation back to its target if the FX weakness persists.”
–With assistance from Harumi Ichikura and Alisa Odenheimer.
(Updates number of survey participants in third paragraph)
More stories like this are available on bloomberg.com
©2023 Bloomberg L.P.