The Bank of Israel has announced that the interest rate for the month of September 2009 will go up by 0.25 % and will stand at 0.75%.  Pay attention to the fact that the Bank of Israel rates for October 2009 will be published on Thursday, September 24, 2009 at 17:30.

Background Information

Inflation statistics:  The Consumers Cost of Living Index for the month of July went up by 1.1% - a surprising jump upwards compared to inflation forecasts which ranged between 0.8% - 0.9%.  But, in light of the influence of costs going up as a result of changes in taxes and supervised prices, the July index went up by 0.5%.  Continuing the trend which began in April, the increase in prices relates to most of the index items.  The Consumers Cost of Living Index went up from the beginning of the year by 3.2% and over the last twelve months by 3.5%.

Inflation and Rates Forecasts

At the beginning of August inflation expectations rose (for the coming twelve months) both by the forecasters and those that are measured in the capital market hovering around the upper limits of the inflation target, but after publishing the index there was a further sharp drop and it reached close to the center of the target.  Therefore, the average expectations of the forecasters and those that are measured in the capital market last week reached 2.3% and 2.2% respectively.  Average forecasts for the months of August and September show an increase of 0.6% and a drop of 0.2%, respectively.  According to these forecasts, inflation, when regarding the last twelve months, is expected to remain around the higher limit of the target also in the months to come.  The forecast for interest rates in September ranges between no change and perhaps an increase of 0.25%.  Bank of Israel rates in another year's time are speculated to be 2.1% and 2.5% respectively.

Realistic Activity

Statistics accumulated so far point at a halt in decreases and an upward trend in activity, but slowly.  National accounting statistics for the second quarter point at a certain expansion of produce with an increase in export and private and public consumerism:  Produce went up this quarter by an annual rate of 1%, after a drop of 3.7%, in annual terms, in the first quarter; and export of merchandise and services and private consumer needs by 5.8% and 4.4%, respectively.  The Bank of Israel combined index for the month of July went up by 1.2% - and accordingly the previous three months index was adjusted. Increases in the combined index results from an increase of components, especially the industrial product index and proceeds from commerce and services.

Job Market and Salary

Ministry of Labor and Social Affairs survey statistics point at a decline in jobs being offered in the second quarter of the year even though slower than in previous quarters.  According to the Employment Bureau, beginning April, there has been a decrease in the number of new job seekers.  However, the rate of unemployment continued to rise in May and reached 8.4%.  The realistic wage and nominal wage during the months of March - My 2009 were lower by 3.5% and 0.3% respectively, compared with the same period last year.

Budget Statistics

The overall total deficit for the months January - July including net credit totaled 17.3 billion shekels, compared to surpluses at the same time in previous years.  The accumulating high deficit in local activity reflects the steep drop in income from taxes which began in the second half of 2008.  In July, for the first time this year, there was a rise in indirect taxes and the Government had a surplus of 0.4 billion shekels in the overall budget not including credit.

Foreign Currency Budget

Since the last monetary discussion which took place in 26.7.09 and up till 21.8.09, the shekel was strengthened against the dollar by 1.3%, and against the Euro by 0.7%.  In terms of effective rate exchanges the shekel was strengthened during this period by 1%.  Strengthening of the shekel was a result of positive indicators in the Israel market which were published throughout the month, and the July index was higher that previous forecasts.  Bank of Israel announcements about changes in its policies of involvement in the foreign currency market, and ceasing daily purchases of foreign currency added to the strengthening of the shekel.

Capital Market and Funds

Since the last monetary discussion which took place in 26.7.09 and up till 21.9.08 the Tel Aviv 25 and Tel Aviv 100 shares went up by 3.6% and 4.2% respectively.  The increase trend was registered in most of the leading stock markets in the world.  The Government bonds yield curves flattened out with stability in bonds for ten years and increases in yields for bonds of two - five years:  There have been increases of 30 base points in non-linked Government bonds, and increases of 10-50 bases points in linked Government bonds.  The difference between non linked Government of Israel bonds for 10 years and United States bonds remained almost without change at a rate of 1.73 base points.  Also during this period, there has been a rise in cost of holding company bonds and a drop in latent yields.  Tel Bond 20 and Tel Bond 40 indexes went up by 2.1% and 3.8% respectively.  At the end of the month Bank of Israel completed its purchasing plan of Government bonds which began in March this year, after buying a sum total of 18 billion shekels.  Israel's risks premium for five years, according to the CDS, dropped by 1.31%. to a level of 1.15%.

Amount of Funds

In the last twelve months payment methods went up:  The M1 (money the public has + cash accounts) went up by 56.1% and the M2 (not linked accounts of up to one year) by 20.5%.  The high increase of M1 primarily was due to the transfer of time allotted accounts to cash accounts because of the low interest rates paid on M2 type accounts.

The World Market

Economic statistics published during the last month strengthened the estimate that financial stability is beginning and there is an anticipated slow recovery.  In most financial markets the atmosphere over the last month has been positive.  During the first half of the month the stock markets continued to rise but in the last two weeks fears have grown regarding the stability of the economic recovery, especially in China, and because of this, the markets dropped somewhat.  Governments and central banks worldwide expect to continue their policy of expansion and to gradually continue support.  Despite the rise in costs of merchandise in general and energy in particular since the end of February, investment houses, on average, expect a substantial drop in global inflation during 2009 to a level of 1.6%.

Main Reasons for the Decision

The decision to raise the interest rates in September by 0.25% to a level of 0.75%, contributes to returning inflation to its target and to strengthening the market's ability to base recovery in activity while supporting financial stability.

During the last few months there was inflation (looking at the past twelve months) which was higher than the upper limit of the target range of price stability.  A large part of the diversion results from one time causes (increase in taxes including VAT, cost of water) but if these are deducted, then inflation stood within the upper target limit.  Inflation expectations for the next twelve months are derived from the Capital Market and forecasts which dropped to near the center target.  Nevertheless, the evaluation is that the drop in inflation expectations for the coming 12 months results not only from the continuing expansion of the gap between potential produce to actual produce, but also from expectations to raise the Bank of Israel interest rates during the coming months.

Statistics about realistic activity which were added lately strengthen the estimation that there is a turnabout in realistic activity, although there is great uncertainty about the expected growth budget.

Central banks interest rates in leading markets expect to remain without change until the end of the year and even until the middle of next year.  Contrary to the situation of the Israeli market, these countries expect a low inflation this year and next year.

In this case, Bank of Israel's decision to raise the interest rate by 0.25% balances the need to control inflation, and the need to continue supporting the market's activity recovery which has taken place during the last few months, while taking into consideration that unemployment is expected to continue rising in the next few months.  Setting the rate at a low level 0.75% continues the expanding monetary policies.

Bank of Israel will continue to follow developments of the Israeli and world markets and will use tools at its disposal for obtaining its goals - price stability, employment encouragement and supporting stability of the financial system.