ISRAEL AT WAR - DAY 145

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Fitch affirms Israel’s A+ rating, but warns of impact of planned judicial overhaul

Ratings agency cites risks to Israel’s system of checks, investor sentiment; cautions about importance of central bank independence for credibility of policy-making

Sharon Wrobel is a tech reporter for The Times of Israel.

Illustrative: An aerial view of the Tel Aviv Stock Exchange and the surrounding area, April 20, 2022. (Matanya Tausig/Flash90)
Illustrative: An aerial view of the Tel Aviv Stock Exchange and the surrounding area, April 20, 2022. (Matanya Tausig/Flash90)

Fitch Ratings affirmed Israel’s A+ credit rating with a stable outlook on Wednesday, citing the country’s “diversified, resilient” economy, while warning that the government’s planned judicial changes could have a “negative impact” on the country’s credit profile.

Fitch cautioned that the judicial overhaul could weaken institutional checks, leading to “worse policy outcomes or sustained negative investor sentiment.”

Prime Minister Benjamin Netanyahu’s hard-right coalition has prioritized the controversial proposals to transform the justice system, which are being spearheaded by Justice Minister Yariv Levin. The proposed legal overhaul would grant the government total control over the appointment of judges, including High Court justices, and severely limit the High Court’s ability to strike down legislation.

Despite mass protests and opposition from leading economic voices and former policymakers calling for the protection of Israel’s democracy and system of checks and balances, the government has declared itself determined to press ahead with advancing the overhaul package at full speed.

“Some countries that have passed major institutional reforms reducing institutional checks and balances have seen a significant weakening of World Bank governance indicators (WBGI), the most influential indicators in our Sovereign Rating Model (SRM),” Fitch said in a statement. “It is unclear at this stage whether the proposed reforms in Israel would have a similarly large-scale impact.”

Fitch also cited recent comments by Israeli lawmakers threatening to challenge the independence of the central bank and the pass-through of interest rates to mortgages.

“So far, these efforts have been resisted by the prime minister and the minister of finance,” Fitch said. “While not our base case, a weakening of central bank independence would reduce the credibility of Israel’s policy-making, currently a rating strength.”

Fitch said that maintaining Israel’s credit rating was supported by a “diversified, resilient and high value-added economy and strong external finances against a high government debt/GDP ratio, elevated security risks, and a record of unstable governments that has hindered policymaking.”

The credit rating agency expects Israel’s economy to grow at rate of 2.9% in 2023 after expanding 6.4% in 2022, despite global challenges and monetary policy tightening that will curtail private consumption and investment. It sees the economy returning to grow above 3% in 2024 and 2025 backed by exports from the high tech and the defense industries, strong population growth and increased government spending.

Fitch’s affirmation comes after the government on Friday passed a simplified, water-down version of the 2023-2024 state budget, versus a full, negotiated document, passing the heavy lift to the Knesset.

The credit rating agency forecasts a budget deficit of 1.2% of gross domestic product in 2023, after Israel posted of surplus of 0.6% surplus last year, citing growing spending pressures on coalition commitments and infrastructure needs. For 2024, it forecasts a deficit of 2.5% of GDP.

“We see risks to this forecast as the budget will go through the Knesset, additional pledges have been made to placate key constituencies and there are risks on the revenue side,” Fitch remarked. “Beyond the current draft budget, the authorities are likely to continue a policy of higher subsidies that favor demographic groups with low employment rates at the expense of the budget balance given the right’s aversion to tax increases.”

Finance Minister Bezalel Smotrich hailed Fitch’s affirmation, adding that it shows that the government is “taking all the right steps to move the State of Israel forward.”

“Last week, the government approved an excellent, responsible, restrained and growth- and infrastructure-oriented budget, and despite rising global inflation, we manage to fortify the State of Israel as an island of stability, a growing economy and an excellent place for investment,” Smotrich said in a statement.

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