Gradual increase in interest rates? The decision of the Bank of Israel speaks for itself

by time news
Gradual increase in interest rates?  The decision of the Bank of Israel speaks for itself

| Rafi Gozlan, Chief Economist at IBI Investment House

The Monetary Committee of the Bank of Israel at 40 basis points to 0.75%, higher than the consensus estimate for an increase of 25 basis points. Although the tone accompanying the announcement was no longer “hawkish”, including the message from the future direction of a gradual process of interest rate hikes depending on the data, but a second hike above expectations, while increasing the dose, speaks for itself and shows discomfort with the negative real interest rate “Nitzit” of the committee.

Given the high inflation from the target and the risk of an increase in the rate in the coming months, the probability of increasing the dose of interest rate increases (ie, an increase of 50 basis points) in subsequent decisions has increased.

The duration of interest rate hikes depends largely on global developments, and in our view at the IBI, towards the end of the year the moderating effect of the geopolitical deterioration and the global monetary contraction on growth and inflation will be felt. Therefore, we estimate that most of the interest rate adjustment, at a rate of 100-125 basis points to a level of 2% -1.75%, will be made by the end of the year.

The Monetary Committee has decided to raise it by 40 basis points to 0.75%, higher than the consensus estimate (for the second time in a row) of a 25 basis point increase. Apparently the messages accompanying the decision were contradictory. On the one hand, and similar to the previous post, the tone that accompanied the post was not “hawkish”. Thus, the reference to inflation remains the same as in the previous post, with a mention that inflation is above the upper limit of the target, significantly lower relative to the world and with long-term inflation expectations anchored within the target. Also, the future direction remained unchanged, and continued to indicate an expectation of a gradual process of raising interest rates according to the data.

On the other hand, the committee chose to raise the interest rate for the second time in a row above market expectations, while increasing the dose, and in our opinion, this move speaks for itself and reflects a reference to the committee’s “hawkish” position. The committee chose not to rely on recent inflation and growth data, which ranged from a downward surprise (March and first-quarter growth index) to expectations (April index).

It seems that the tight labor market situation, with the background of the increase in the annual inflation rate to 4%, led the committee to estimate that the current confidence interval against inflationary surprises is quite low, so it chose to raise the interest rate at a higher rate than expected.

Market expectations, including ours in the IBI, for an increase of 25 basis points, relied mainly on the message of future guidance for a gradual rate hike. In practice, after two higher-than-expected hikes, the mention of a “gradual hike” seems less relevant. Raising the interest rate from 25 basis points to 40 basis points sends a message of the Committee’s higher concern about the acceleration in inflation, and that the current (negative real) interest rate environment is far from compatible with the state of the economy.

Hence, in a scenario where there is indeed a further acceleration in inflation (and the chance of an acceleration in the inflation rate in the coming months is not negligible), the committee will not be able to slow down the rate of increases, but accelerate it – so the probability of raising interest rates by 50 basis points in one of the following decisions has certainly increased.

Therefore, we update upwards the forecast for raising the interest rate and expect a cumulative increase of 100-125 basis points by the end of the year, to a level of 2% -1.75%.

The duration of the interest rate hike cycle depends largely on global developments, with our assessment that towards the end of the year the moderating effect of geopolitical deterioration and global monetary contraction on growth and inflation will be felt, so most interest rate adjustments are expected by the end of the year.

The authors of the article and the Israel Stock Exchange and Investment Services Company – IBI Ltd. (“Stock Exchange Services”) do not have an investment marketing license and are not insured with the insurance required of licensees in accordance with the Law Regulating the Investment in Investment Consulting, Investment Marketing and Investment Portfolios, 5755- 1995. At the time of publication of the article Stock Exchange Services and the authors of the article have a personal interest in its subject arising from their holdings in the securities mentioned in the review or the existence of business relationships with the companies mentioned. It will be clarified that the aforesaid in the review does not constitute a substitute for investment marketing that takes into account the data and the special needs of each person.

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