Bank of Israel slashes rates to four-year low to bolster postwar economic rebound

The Bank of Israel on Tuesday cut interest rates to the lowest level in almost four years to help stimulate postwar economic recovery and provide some relief for struggling households and businesses.

The central bank, led by Governor Amir Yaron, decided to lower borrowing costs by 25 basis points to 3.25 percent after trimming interest rates in July, May, and January.

High credit costs for borrowers have been reduced by a cumulative 1% so far this year as households and businesses struggle to make mortgage and loan repayments after more than two and a half years of hostilities on multiple fronts.

The central bank’s move comes as the annual inflation rate in July fell to a five-year low of 1.5%, well within the Bank of Israel’s 1% to 3% target range, allowing policymakers to shift focus to supporting growth in the economy.

In its announcement, the Bank of Israel raised concerns that recent growth figures for the first half of the year only “partly reflect recovery of the economy from the impact of the military operation against Iran” in late February, as “excluding production of Israeli companies abroad, activity was more moderate.”

“Current indicators of economic activity show that credit card expenditures in current prices are volatile and slightly below the long-term trend line,” the central bank said. “Foreign trade data for July indicate a moderation of goods imports following a sharp increase in May and June.”

Ahead of Tuesday’s decision, forecasters were split over whether the Bank of Israel would lower borrowing costs or take a more cautious stance and take a breather, as major central banks of advanced economies left interest rates unchanged and pressure has been mounting for rate hikes.

“The Bank of Israel has opted for a more dovish stance, providing a lifeline to the local economy,” said Gali Ingber, head of finance studies at the College of Management Academic Studies. “It highlights the unique challenges facing the Israeli economy: the need to curb prices on the one hand, and the urgent need to support real economic activity by providing relief to households and businesses amidst prolonged uncertainty on the other.”

“The economy has been swept up in geopolitical turmoil, creating a critical need to support the business sector, investment, and growth, and with this move, the Bank of Israel is essentially signaling its willingness to take a calculated risk to avoid stifling local economic activity,” Ingber added.

The overly strong shekel has also helped drive deflationary forces, as it makes imports cheaper, restrains price increases, and enables the Bank of Israel, which is concerned about price stability, to lower interest rates.

However, the shekel’s 10% appreciation against the dollar over the past year has also been hurting exporters’ competitiveness and profitability as they earn in dollars but pay expenses in shekels. Exports make up as much as 40% of Israeli economic activity.

In recent months, local manufacturers and exporters have accused Yaron of doing too little too late to help moderate sharp gains in the shekel, which has been trading around a 33-year high against the US dollar.

Exporters have been warning that the local currency’s strength poses a risk to growth prospects in the economy, and have been calling for larger and faster interest rate cuts.

The Israel Manufacturers’ Association welcomed the central bank’s action as a “correct and necessary step.”

“The Bank of Israel’s interest rate cut is a step in the right direction, in light of the moderation in inflation over the past year,” said Israel Manufacturers’ Association President Avraham (Novo) Novogrotzky. “But industry and the export sector need to be able to rely on monetary policy action aligned with current economic realities, rather than a lagging response as the local currency’s appreciation continues to erode profits and competitiveness, hampering investment, expansion, and the maintenance of operations in Israel.”

“The Bank of Israel should capitalize on the window of opportunity that has opened and pursue a continuous, more rapid path of rate cuts, as long as inflation remains near the target range,” he demanded.

The next Bank of Israel interest rate decision is on October 21, just days before Israel’s national elections.

“The Bank of Israel is unlikely to lower borrowing costs close to the elections; therefore, any further rate cut will only take place after,” said Israel Discount Bank chief economist Einat Meir.