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Bank of Israel raises interest rate to 2% as inflation continues to climb

Hike comes just over a month after central bank increased key rate to 1.25%, with additional rises expected

Ricky Ben-David is The Times of Israel’s Tech Israel editor and reporter.

View of the Bank of Israel main offices in Jerusalem, on March 31, 2019. (Yonatan Sindel/Flash90)
View of the Bank of Israel main offices in Jerusalem, on March 31, 2019. (Yonatan Sindel/Flash90)

The Bank of Israel delivered its biggest increase in two decades to the benchmark interest rate on Monday, hiking the key rate by 0.75 points to 2.0% in a bid to rein in fast-growing inflation that reached 5.2% over the past 12 months.

The rate jump came just over a month after the bank raised the interest rate from 0.75% to 1.25% in July. Monday’s announcement marks the fourth rate increase in 2022 as Israel contends with the fastest yearly inflation rate in 14 years and a housing market that has seen price rises of an annual 17.8%, the fastest in a decade.

Economists expect additional hikes in 2022. The bank’s next decision will be announced in October.

The Bank of Israel began warning in February that it would start gradually increasing the interest rate to tamp down inflation, citing Israel’s strong economic performance and indications pointing to “continued strong activity” alongside a spiraling energy crisis sparked by Russia’s war on Ukraine, a global slowdown in economic activity, and production chain disruptions.

The first hike came in April when the bank raised the key rate from an all-time low of 0.1% to 0.35% — a minimal rate it kept for several years and throughout the COVID-19 pandemic, following by a rise to 0.75%, then to 1.25% in early July.

In a statement on Monday, the central bank said: “The Israeli economy is recording strong growth, accompanied by a tight labor market and an increase in the inflation environment. The increase in inflation is broad-based, with contributions from most CPI components.”

The CPI — the Consumer Price Index — is a measure of inflation that tracks the average cost of household goods like food, clothing, and transportation. It excludes housing prices, which are tracked separately. The CPI rose an unexpected 1.1% in July and an annual 5.2% compared to July 2021, according to the latest figures by the Central Bureau of Statistics.

Though higher than estimated, inflation in Israel is lower than the OECD average of 9.1% for July, the bank said. In the US, the inflation rate appears to be slowing to 8.5% for July but remains high.

On Israel’s labor market, the bank said the country’s unemployment rates reached their pre-pandemic levels, but pointed to an ongoing shortage of workers as constraining the operations of businesses in most industries. “The tight labor market is also reflected in some wage pressures in the business sector, mainly in industries that generally feature high wages and professional employees. Wages in the public sector are increasing more moderately,” the bank said.

At the same time, Israel showed higher-than-expected GDP growth of an annualized 6.8% in the second quarter of 2022. The bank had forecasted that GDP will grow at a rate of 5% in 2022 and 3.5% in 2023.

However, the central bank said, “the continued moderation of global activity, as well as political uncertainty in Israel, may weigh upon economic activity. Inflation continues to increase, and is above the target range.” The central bank had estimated an upper inflation range of 3% for 2022 and 2% in 2023 in January.

The bank’s monetary policy committee “has therefore decided to continue the process of increasing the interest rate,” it said.

Higher interest rates are designed to restrict the flow of money by making borrowing less attractive, eventually dampening consumer demand, and easing inflationary pressures wrought by an undersupply of goods and an oversupply of cash.

The move will send adjustable-rate mortgage payments further up, on top of already-high housing prices that rose by 17.8% over the past year. Housing prices rose by 2% between May and June, compared to the period from April to May, despite higher rates. Rent prices have also gone up, reaching an increase of 0.7% in July.

“Home prices increased by 17.8 percent in the past 12 months, a significantly higher pace than in previous years. However, the number of transactions declined in recent months, and the number of building starts and building permits is high, following increases in the first quarter,” the bank said.

The rising cost of living and housing in Israel is high on the agenda ahead of another round of elections in November. According to a recent survey by the Israel Democracy Institute (IDI), 44% of Israeli respondents said a given party’s economic platform and its plan for addressing the rising cost of living were the main factors influencing their decision when voting on November 1.

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