Bank of Israel governor Amir Yaron on Sunday urged the government to tackle budgetary priorities and economic issues after US ratings agency Moody’s cut the country’s credit rating over the weekend.
Yaron emphasized that the government and the Knesset need to “act to deal with the economic issues” raised in the Moody’s report that led to the downgrade, in order to strengthen and restore the confidence of the markets and credit rating companies in the Israeli economy.
Late on Friday, Moody’s lowered Israel’s credit rating by one notch from A1 to A2, and changed its outlook to “negative,” citing the impact of the ongoing war with the Hamas terror group in Gaza on the government’s debt burden, as well as fiscal and political risks.
Yaron noted that the reasons behind Moody’s downgrade are the “uncertainty regarding timing and manner of the end of the war, and the war’s impact on the willingness of the government and the Knesset to deal with core economic and social issues, and the change in the fiscal situation.”
The central bank chief reiterated that the Bank of Israel has already presented to the government “a number of ways to act in this spirit” to balance the increase in defense and civilian expenditures resulting from the campaign against Hamas, including the rehabilitation of war-ravaged southern communities along the Gaza border and an increase in government debt interest expenses.
Yaron has in recent weeks called on the government to make amendments in the 2024 state budget by cutting all non-war related expenditure and eliminating ministries that are deemed unnecessary while focusing on spending that drives economic growth.
But Yaron signaled confidence in the Israeli economy, which is “rooted in strong and healthy economic fundamentals, and is a world leader in the fields of innovation and technology.”
“We have known how to recover from difficult periods in the past and rapidly return to prosperity, and the Israeli economy has the strength to ensure that this will happen this time as well,” he said.
Meanwhile, in response to the Moody’s move, the Tel Aviv Stock Exchange’s benchmark TA-125 index and the TA-35 index of blue-chip companies both fell more than 1% in Sunday morning trading in Tel Aviv. The TA index of the five largest banks dropped 1.9% and the TA-Insurance & Financial Services slid 1.5%.
Israel is more than four months into a war in Gaza after the brutal Hamas-led onslaught on October 7, in which Palestinian terrorists killed some 1,200 people, mostly civilians, and took 253 as hostages into the Gaza Strip. Israel launched airstrikes and a ground offensive aimed at toppling the Gaza-ruling Hamas and returning the hostages.
The costs of the military campaign for the years 2023 to 2025 will stand at about NIS 255 billion ($69 billion) or around 13% of GDP, amid expectations of lower tax revenues, according to Bank of Israel estimates.
“The local financial market anticipated a rating downgrade but what it did not foresee is the accompanying negative outlook,” said Yaniv Pagot, head of trading at the Tel Aviv Stock Exchange. “The yellow card that Israel received as part of the downgrade obligates the government to take urgent steps to prevent a snowball effect of further downgrades in the future.”
“This necessitates crucial decisions by the government for a change in fiscal management, including fiscal cuts and steps to encourage growth and advance the economy. Otherwise we will be in a much more uncomfortable place,” Pagot added.
Israel’s hardline coalition has been criticized for failing to shift funding priorities in the revised 2024 budget, which is intended to finance the conflict and which awaits final approvals in the Knesset. The government has opted for across-the-board cuts, rather than jettisoning ministries deemed superfluous, and has left in place discretionary funds made available to political allies under deals reached in coalition talks over a year ago. Ultra-Orthodox parties in particular have been criticized for continuing to insist on money to fund educational institutes that do not meet core curriculum requirements.
In its report, the US ratings agency scrutinized the government for rebuffing any long-term plans for the day after the war which could “contribute to improved security for Israel” and lead Israel’s economy to a path of recovery.
Moody’s said it would “stabilize” the country’s credit outlook “if there was evidence that Israel’s institutions are able to formulate policies that support the economic and public finance recovery and restore security while dealing with a wide range of policy priorities.”
Yaron’s appeal came amid muted responses by Prime Minister Benjamin Netanyahu and Finance Minister Bezalel Smotrich to Moody’s decision. They both asserted that the Israeli economy is “strong,” and appeared to show little indication that the government will do anything to change course.
Netanyahu said that the “rating downgrade is not connected to the economy,” alleging that “it is entirely due to the fact that we are in a war.” Meanwhile, Smotrich dismissed Moody’s assessment as “a political manifesto based on a pessimistic and unfounded geopolitical worldview.”