Israeli interest rate off the table as war complicates next step | World news

“We expect the Bank of Israel to play it safe and not cut rates any further this year,” said economists at Barclays Plc, including Zalina Alborova. “Even in a scenario of geopolitical improvement, inflationary pressures are likely to prevent the bank from cutting rates.”

Israel’s war against Hamas has now lasted for ten months, and the danger of open conflict with Iran-backed Hezbollah in Lebanon is growing. While talks on a ceasefire in the Gaza Strip have resumed, Prime Minister Benjamin Netanyahu’s government is preparing for the possibility of open war with Hezbollah militants in Lebanon.

The further development of the security crisis will be of importance for the central bank. Since the war began in October, it has assumed that the economic impact of the conflict will gradually diminish over the course of the year.

“If this assumption changes to a more drastic scenario, it would likely negate the possibility of a rate cut,” said Ronen Menachem, chief market economist at Bank Mizrahi Tefahot.

The turmoil is spilling over into the markets. The yield on the government’s 10-year shekel bonds hit a 13-year high of 5.2 percent this month. The shekel has fallen by almost four percent against the dollar since the beginning of March, making it one of the worst performers in a basket of 31 major currencies tracked by Bloomberg.

An escalation of hostilities on the northern border with Lebanon risks further devaluation of the shekel, supply shortages and a greater fiscal burden, which would increase inflationary pressures.

Government spending has already soared due to the war. Israel is on track to record one of the largest budget deficits this century. The government estimates that the deficit will reach 6.6 percent of gross domestic product in 2024.

Annual price growth is currently at 2.8 percent, within the official target range, but likely to exceed the 3 percent ceiling. Bank Hapoalim expects inflation to reach 3.3 percent over the next 12 months, and Leader Capital Markets expects inflation to reach up to 3.4 percent, depending on the exchange rate of the shekel against the dollar.

A longer wait for a US interest rate cut is likely to delay the prospect of monetary easing in Israel, as a larger interest rate differential could jeopardize capital inflows and weaken the local currency.

At their last meeting, representatives of the US Federal Reserve scaled back their expectations regarding the number of interest rate cuts this year. The US Federal Reserve has kept its key interest rate at its highest level in more than two decades since last July.

“These conditions do not allow for a rate cut,” analysts at Bank Hapoalim’s financial department said in a report. “In a positive scenario that assumes a cessation of hostilities, a rate cut will be back on the agenda towards the end of the year, but only when the US Federal Reserve begins easing its monetary policy.”