New research at the Bank of Israel shows that every $100 million purchased by the central bank has contributed to a deprecation of 0.07–0.09 percent in the exchange rate in the period from 2009 to 2015.
The research, conducted by Dr. Sigal Ribon of the Bank of Israel Research Department, examines the effect of the Bank of Israel’s intervention in the foreign exchange market on the exchange rate in that period.
The Bank of Israel has been trying to curb the rise of the shekel, which is trading near its highest level since 2014 and hurting exporters whose sales in foreign markets account for about a third of gross domestic product. Its rally is also due to incoming currency as foreign firms acquire local companies, such as the recent acquisition of Mobileye by Intel Corp., and to the impact of natural gas production, which lowers the need for imported energy resources.
After about a decade of not intervening in the foreign exchange market, the Bank of Israel resumed the practice in March 2008. In the beginning, the intervention came at predetermined amounts — purchases of $25 million per day, and then $100 million per day. In August 2009, the Bank changed its policy and switched to intervening at its discretion, at amounts that were not set in advance, the report said.
The results of the research, which examines whether the interventions in the market contributed to a depreciation in the exchange rate, or a slowdown in the rate of appreciation, indicate that from September 2009 through the end of 2015, every $100 million purchased by the central bank contributed, all else being equal, to deprecation of 0.07–0.09 percent in the exchange rate. The average monthly scope of purchases during that period — 830 million — was found to have an impact of 0.6 percent on the exchange rate during that month.
The research also shows that both the interventions themselves as well as the overall monetary policy, which created intervention expectations, had an effect on the currency.
“The intervention’s impact derives as well from the signaling — by the intervention itself — regarding the Bank’s overall monetary policy, and not just from the direct effect of the intervention on the asset market,” the research showed.
The research found that the central bank intervenes in the market “when it assesses that the real exchange rate is deviating (overvalued) relative to the long-term equilibrium exchange rate,” the report said.
The level of foreign exchange reserves relative to GDP was also found to have an impact on the intervention — the lower the level, the greater the intervention. It was found as well that growth of exports tends to reduce the intervention. Also, the research found that to the extent that 1-year inflation expectations are lower, the Bank will tend to intervene more. That is, intervention in the foreign exchange market also serves as a tool to support the attaining of the inflation target, the report said.
The central bank has come under pressure recently by critics who say that its intervention policy has not managed to keep the shekel’s rise in check.
In January, in an interview with Bloomberg News, Barry Topf, a former director of market operations at the Bank of Israel who helped design the central bank’s foreign currency intervention program, said the dollar purchases that initially helped Israel weather the global financial crisis may now be hurting the economy by distorting prices. Topf suggested the Bank of Israel should scale back the program significantly, after the country tripled its foreign exchange reserves in less than a decade.
The central bank cut the benchmark interest rate to a record low 0.1 percent in 2015 in an effort to boost inflation and rein in the currency, and held it at that level also last month.
In February, Flug hinted the Bank of Israel would continue intervening in the market, when necessary, by buying dollars to keep the shekel in check.
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