highlights
Tax revenues, both direct and indirect, rise significantly above the multi-year trend and indicate high growth in the economy.
Treasury balances are at their peak and are expected to limit the supply of bonds.
Credit in the economy is growing at a very high rate, especially business credit to real estate and mortgage companies, which raises financial risk.
The shortage of raw materials and equipment in industry in Israel continues and has even worsened.
The shortage of workers has diminished in the trade, leisure and leisure industries which suffered greatly from it when the restrictions were lifted, but remains high in most other industries which usually require a higher level of skill. This situation indicates that this problem is likely to persist over time.
It seems that the forces that strengthen the shekel are mainly of a speculative nature.
Most signs show that world inflation continues to rise and become broader and more established.
The Fed is more likely to raise interest rates in the first half of 2022.
Israel.
Tax revenues indicate that the economy is “hot”
The government’s budget deficit fell to 5.5% in October. The decrease in the deficit occurs against the background of an increase in state revenues at an annual rate that rises by about 5% above the pre-crisis trend (Figure 1). Both direct tax revenues (income tax and property) and indirect taxes (VAT and customs) are significantly higher than the trend (Figure 3-4).
Despite reverse tenders and a reduction in the size of issues, the treasury balances in the fund increased by about NIS 12 billion in October and reached a peak of about NIS 85 billion, compared with an average of about NIS 30 billion before the crisis (Figure 2). In November, a revenue of about NIS 20 billion is expected to reduce the amount of balances, but the Treasury is still expected to continue working to reduce the balances in the coming months.
Another sign of a “hot” economy – rapid growth in credit
Credit in the economy continues to grow rapidly. According to the updated data, business credit has risen at the highest rate in the past year at least since the crisis in 2008. The growth rate of credit to households has also accelerated sharply (Figure 5). About two-thirds of the increase in business credit is directed to companies in the field of construction and real estate. In households, credit flows mainly to mortgages. As a result, the weight of loans in banks related to real estate, commercial or residential, increases rapidly .
A very rapid increase in credit, especially in the real estate sector, is further evidence of a “hot” economy that justifies some restraint on the part of monetary policy.
Shortage of workers declined in the reopening industries, but remained in the rest
According to the Consumer Sentiment Survey, consumers’ expectations of their situation and the economic situation in the country in the next 12 months have risen in the last two months (Figure 8). Business expectations in the Business Trend Estimates Survey also rose in October.
Businesses continue to report a shortage of raw materials and equipment, and the manufacturing industry is also reporting a worsening (Figure 7).
In the labor market, the problem of finding workers has become much less acute in the “reopening” industries that have been more affected by the crisis (trade, food services, hotels) and are looking for less skilled workers (Figure 10). In contrast, in much less affected industries, such as manufacturing, business services, financial services, information and communications and other services, the difficulty of finding workers remained and even increased (Figure 9). This development indicates that the shortage of workers is not expected to pass quickly.
Business expectations of inflation have risen, both in the services sector and in retail trade (Chart 11). Although consumer inflation expectations have fallen, they are much higher than in the last decade (Chart 12).
Hi-tech is not the reason for the strengthening of the shekel
Although it is customary to explain the strength of the shekel in economic parameters related to exports and in investments in Israeli companies in the field of technology, it seems that the strengthening of the shekel is mainly based on speculative forces. The definition of “speculative” is that the purchase of the shekels by them is not necessary and its purpose is to increase profit or reduce loss.
Israel’s trade deficit (surplus imports over merchandise exports) has risen in the last 12 months from $ 20 billion to $ 32 billion, an all-time high, following the sharp rise in merchandise imports (Chart 13). Thus in commodity trading industries the demand for forex has risen sharply.
It is doubtful that the increase in the export of technology services really has a significant effect on the foreign exchange market.
It is also doubtful that the acquisitions of Israeli technology companies by foreigners cause a significant increase in demand for shekels. A high percentage of the companies acquired belong to venture capital funds that do not need many shekels.
The demand for shekels from technology companies for the purposes of paying taxes, salaries or rent has probably not increased dramatically. For example, the total salary in the information and communication industries, and scientific and technical services, in which high-tech workers are employed, increased in the past year compared with 2019 by about NIS 11 billion (about $ 3.4 billion). This is a relatively negligible amount that can not change the balance in the foreign exchange market, especially given the fact that not all companies’ revenues in these foreign exchange industries.
Demand for shekels from foreign financial investors has risen, but it is doubtful whether it also provides an explanation for the demand for shekels. Although foreign investors returned to the domestic stock market after an absence of two years, since the beginning of the year they have bought shares in Israel for a relatively moderate amount of about $ 2.4 billion (Chart 14). Bond purchases in Israel were higher, but these are probably mainly short-term bonds and quotas (foreigners hold about a third of all quotas) as part of swap transactions that do not affect the exchange rate.
A relatively moderate increase in the demand for shekels for non-speculative needs also results in a relatively small increase in foreign exchange conversion turnover, which increased this year by only 6% compared to 2020. In contrast, there was a sharp increase in foreign exchange trading Has an average daily turnover of $ 6.7 billion, three times the turnover in conversion transactions (Figure 15).
Most of the increase in swap transactions is probably due to currency hedging transactions by institutional investors that have risen by about $ 30 billion in the past year (Chart 20). The last 12 months by NIS 19 billion, a fairly sharp decrease compared to 2020 (Figure 16).
Why are institutional defense deals speculative? Because a change in their hedging position is fairly consistent with the changes in the shekel’s exchange rate.
Looking ahead, there is potential for a significant increase in hedging transactions by the institutional investors. 16% (Figure 18).
One graph showing a close relationship (88% correlation) between the shekel’s exchange rate and the S&P 500 in the last two years (Chart 19) could have saved all the explanations for why the shekel’s strength is less related not to high tech or Israeli exports, but to institutional activity.
world.
The escape of inflation
The inflation data that beats the forecasts continue to produce economic headlines. Last week, producer price indices rose at a higher rate than expected in China and Japan. The main headline was, of course, the US consumer price index, which rose by 0.9% in October from the forecast to 0.6% and jumped the inflation rate from 5.4% to 6.2%. Excluding food and energy and services (Figure 21).
Apparently, the chance that inflation will fall on its own in a short time without causing any damage to the economy is quite small. It is more likely that the Fed will have to raise interest rates sooner and faster than expected or that consumers will vote with their feet and lower demand following the erosion of their real revenues. As we have shown many times in previous reviews, there is a very close relationship between US GDP growth and the change in total real income from work. According to the University of Michigan Consumer Sentiment Survey, a rise in prices has led to a sharp decline in sentiment toward purchases of large cars, homes and durable goods to a low level in the last 30 years (Figure 22).
A variety of economic data, including those published last week, raises concerns that inflation has already “escaped” and is beginning to feed itself through rising expectations and feeding pressure on rising wages:
The Small Business Survey shows that the component of wage expenditures and the component of price increases in the survey rose to the highest level since the mid-1980s (Figure 24).
4.4 million Americans, an all-time record, resigned from work in September. The gap between the increase in the salaries of the resigning and those remaining in the workplace is widening rapidly.
The number of job vacancies in industries that were more affected by the epidemic (trade, recreation, leisure, recreation) and recovered quickly after the removal of restrictions began to decline in recent months. In contrast, in the other industries much less affected by the crisis, job vacancies continue to rise (Figure 23). This situation indicates that the shortage of workers is not temporary.
The Fed is expected to raise interest rates before mid-2022
Although the real interest rate (the Fed interest rate minus actual inflation) has fallen to minus 6%, the low level since the early 1950s (Chart 25), the markets do not give much chance to the scenario of loss of control by the Fed and the flight of inflation.
While inflation expectations have risen to almost the highest level ever (Chart 26), contractual interest rate expectations have added only one rate hike by the end of 2023 (from 1.37% to 1.62%). If the markets were afraid of losing control the nominal yields would rise much more while rising the steepness of the curve. The stock market also settled for declines of only one day.
In the coming months, a rapid increase in the rate of core inflation in the US is expected, since the cumulative increase in the core indices in November-February last year was very small and lower than the average in 2017-19 (0.35% vs. 0.7%). Until after the end of the acquisitions in the middle of next year.The consensus “transits” in the Monetary Committee may disintegrate, especially in view of the end of the governor’s term.
The stock market is expected to continue to show strength as long as interest rates remain low and corporate profitability continues to rise.
The Bottom Line: We continue to recommend medium-short maturities in the bond channel.
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