As expected, the Bank of Israel has raised its interest rate by 0.25% to 4.5%. It is the ninth increase in the space of twelve months and the highest level since the 2008 global financial crisis, reflecting the bank’s hawkish approach to containing rising inflation. This move follows in the footsteps of the US Federal Reserve and the European Central Bank, which have also increased their interest rates by 0.25% and 0.5%, respectively, in recent weeks.
The Monetary Committee is worried that inflation is becoming entrenched and will be difficult to contain. Inflation in Israel has been high in a wide range of Consumer Price Index (CPI) components, with an annual rate remaining at 5.2% over the past 12 months, which is well above its target range of 1%-3%. While there has been some moderation in inflation, its rate continues to be considerably slower than anticipated.
The Bank of Israel anticipates that inflation will climb down to 3.9% by the yead end, and has revised the GDP growth forecast for 2023 from 3% to 2.5%. It further warned that the judicial reform could result in a decrease of Israel’s GDP by 2.8%.
Despite these challenges, the Bank of Israel remains confident that annual inflation will return to its target range over the next year. The bank has noted that inflation expectations and forecasts for the first year from all sources have increased and are around the upper bound of the target range. However, capital market expectations for the second year and beyond are within the target range.
The Bank of Israel also highlighted that economic growth is slowing, with economic activity around the long-term trend, but expansion has slowed compared to the previous year. The labor market remains tight, with an employment rate that reflects full employment. However, the job vacancy rate is moderately declining.
The increase in interest rates by the Bank of Israel is indicative of the central bank’s resolve to combat inflation and preserve macroeconomic stability. As the year progresses, it will become increasingly apparent that businesses and families will have to absorb a larger share of the rising cost of financing. Though the bank has lowered its prediction for GDP growth, it still believes inflation can be brought under control and economic growth can continue at a sustainable rate.