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Israel passed the US Federal Reserve’s rate hike for the first time since it began raising borrowing costs in April, extending the longest period of monetary tightening in decades.
The Central Bank raised the interest rate from 3.75% to 4.25% on Monday. Most economists polled by Bloomberg expected a quarter rate hike, in line with the Fed’s latest move.
The monetary committee did not signal the end of the tightening cycle, saying it “decided to continue the process of raising interest rates” with an eighth consecutive hike. The shekel weakened 0.8% against the dollar at 17:18 in Tel Aviv, closing at its weakest since early November.
With borrowing costs at their highest level since 2008, the Bank of Israel now has to contend with inflation and an unexpected acceleration in economic growth. The rise adds to political turmoil that has helped the shekel become the worst-performing currency in the Middle East this month, after the Lebanese pound.
The Bank of Israel has started raising borrowing costs in smaller increments since November, despite inflation showing no sign of abating. Governor Amir Yaron has told policymakers they are “determined” to bring price growth back into the target range and expects the slowdown to continue after February.
Price increases, above the official target range of 1% to 3% for the year, unexpectedly accelerated to 5.4% annually last month.
Higher energy costs for households, along with housing inflation, were among the biggest drivers of price increases in January.
To rise higher
Ofer Klein, head of economics and research at Harel Insurance Investments & Financial Services, said: “Strong growth figures and rising inflation combined with the devaluation of the shekel contributed to the move.”
Klein said he did not rule out raising the interest rate to 4.5% at the central bank’s next meeting in April, “at a time when the focus will be on whether the shekel’s depreciation will continue or slow down and how the world’s central banks will behave.”
Market expectations are for further monetary tightening ahead. Israel’s one-year currency swaps see investors’ base rate rise to around 4.5% per annum thereafter.
Although expected to moderate in the coming months, the strength of inflation is under pressure from the shekel, once a key factor in maintaining consumer prices. It has fallen about 3% against the dollar so far in February.
The Israeli currency, closely linked to the performance of US stocks, lost nearly 12% last year, its worst performance since 1998. Political backlash against the government’s plans to reshape the judiciary also led to devaluation, which made imports more expensive. .
In a statement on Monday, the central bank stressed that “exchange rates are characterized by significant volatility,” but did not say how this might affect its decision.
Jonathan Katz, macro strategist at Leader Capital Markets, said the shekel’s volatility was likely a “swing factor” for the Bank of Israel.
“It is quite clear that in the near term, unless a reasonable compromise is reached on judicial reform that the government and the opposition can agree on, we will see continued pressure on the shekel,” Katz said.
–With assistance from Harumi Ichikura and Alisa Odenheimer.
(Updated with analytical comments starting from the eighth paragraph.)
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