Budget Cliffhanger Deemed Risk to Israel Rebound Alongside Virus

Politics, Shekel Steal Show From Israel Rate: Decision Day Guide

The Bank of Israel pointed to the economic drag caused by a government split over the budget and the turmoil that came with the coronavirus pandemic as threats to a recovery as it maintained its crisis-era programs without change on Monday.

Israel has yet to pass a budget for this year or next, after a series of deadlocked votes and the installation of an emergency coalition this May that has been unable to agree on the timeline for a new fiscal plan. The result has been to limit funding for some programs this year and hamstring the government’s ability to plan for the long term.

Read more: Israeli Ruling Partners Face Midnight Deadline to Save Coalition

“Uncertainty regarding the ways to deal with the health situation, as well as uncertainty regarding the date on which the budget for 2021 will be approved, are liable to have a negative impact on continued economic recovery,” the central bank said. Its key interest rate was kept at 0.1%, in line with all forecasts.

Policy makers also repeated their previous guidance that the central bank could expand the use of existing tools, including rates, and introduce new ones depending on the length of the crisis. The shekel traded little changed after the announcement while local stocks erased daily gains.

After a resurgence in Covid-19 cases this summer outpaced Israel’s first wave and led to fears of another lockdown, the outbreak has stabilized. Officials are still debating the need for a further lockdown to bring cases down further.

Budget Showdown

A political wrangle was in focus in the days before the central bank’s meeting this week, with Governor Amir Yaron warning that new elections would hurt the economy even as a resurgence in coronavirus cases plateaus.

The government appeared to narrowly avoid collapse ahead of a Monday midnight deadline to pass a budget, after Prime Minister Benjamin Netanyahu said he’d support a compromise to push that date back a few months.

In the run-up to the rate announcement, Netanyahu and his main coalition partner were unable to agree on the country’s next fiscal plan or a deadline extension. Under Israeli law, parliament would have been automatically dissolved if a spending plan wasn’t passed by a stipulated date and the country would have headed to its fourth elections in less than two years.

With the next meeting not scheduled for another two months, the central bank is relying on programs it’s rolled out since the virus struck, including plans announced in July to purchase corporate bonds for the first time. Second-quarter data showed a record economic contraction, though the economy fared better than some estimates.

The central bank released an updated research staff forecast:

  • In an optimistic scenario where economic expansion starts in September, output is seen contracting 4.5% this year before rebounding to 6% in 2021
  • Under scenario of further waves of morbidity due to Covid-19 outbreak, the economy will shrink 7% this year and expand just 3% next year
  • Measure of “broad unemployment” is at 12%; it’s expected to reach 11.6% at the end of this year and 7.7% at end-2021, a worse expectation than the previous forecast in July

The shekel has meanwhile strengthened against the dollar to test a key level for just the fifth time in the last decade, prompting the central bank to buy foreign exchange at the highest rate since 2009 to stem the rally.

The Bank of Israel has spent billions of dollars intervening in foreign exchange markets this year to weaken the shekel and boost inflation toward its target range of 1% to 3%. Consumer prices have been falling on an annual basis for the past four months.

In the view of Barclays Plc economists including Ercan Erguzel, the Bank of Israel would be more likely to hold off on a rate cut and “instead explore more options that have a direct impact on the volume of shekel liquidity such as bond purchases,” according to a report.

“It will also likely continue its FX purchases,” they said before the rate decision.

©2020 Bloomberg L.P.

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