VZCZCXRO1695
RR RUEHROV
DE RUEHTV #2561/01 3311519
ZNR UUUUU ZZH
R 271519Z NOV 09
FM AMEMBASSY TEL AVIV
TO RUEHC/SECSTATE WASHDC 4379
RUEATRS/DEPT OF TREASURY WASHDC
RHEHNSC/NSC WASHDC
INFO RUEHXK/ARAB ISRAELI COLLECTIVE

UNCLAS SECTION 01 OF 02 TEL AVIV 002561 
 
SIPDIS 
 
STATE FOR NEA/IPA GOLDBERGER AND FRELICH; EBB/IFD FOR 
PERDUE; TREASURY FOR BALIN 
 
E.O. 12958: N/A 
TAGS: ECON EFIN IS
SUBJECT: INTEREST RATE HIKE AND THIRD QUARTER DATA EVIDENCE 
ISRAEL'S CONTINUED ECONOMIC RECOVERY 
 
¶1.  Summary:  On November 23, the Bank of Israel (BoI) 
announced a 0.25 percent increase in interest rates, bring 
the BoI rate to 1 percent in a move intended to return 
inflation to well within the target range yet low enough to 
support the continuing economic recovery.  Preliminary third 
quarter economic data from the Central Bureau of Statistics 
indicates 2.2 percent growth, an increase in exports and a 
surge in imports.  Even unemployment declined slightly in the 
third quarter, while labor participation remained basically 
unchanged. The BoI has continued to limit its intervention in 
the foreign exchange market and remains cautious about a 
monetary policy that would put additional downward pressure 
on the dollar.  The OECD recently expressed its reservations 
about the BoI's previous interventions but has yet to comment 
on the BoI's more recent actions.  These encouraging signs 
indicate that the recession was truly mild for Israel and 
that economic recovery is less tentative than first assumed. 
However, most commentators note that a fully global recovery 
is the surest sign of success for Israel's own.  End summary. 
 
¶2.  The Central Bank intended to strike a balance between 
inflation considerations and supporting the economy's path of 
recovery in its decision to raise the interest rate by .25 
percent.  The target range for inflation is 1-3 percent, with 
Governor Stanley Fischer's ideal annual rate at the mid-point 
2 percent.  The inflation rate for the last 12 months was 2.9 
percent, and but inflation rose 3.6 percent for the first 12 
months of 2009.  The BoI's press release accompanying the 
rate hike said the low interest rate of 1 percent continues 
the "accommodative monetary policy that is intended to 
support further economic recovery, ... as well as placing 
inflation firmly within the target range."  The release also 
noted that inflation is expected to be above the upper limit 
of the target in the coming months, as 12-month forecasts 
increased slightly following the October CPI.  Economic 
forecasters expect that the BoI will continue to increase 
interest rates by 0.5 percent over the next three months, 
gradually working up to 2.5 percent by the end of 2010 unless 
significant exchange rate or other macroeconomic changes 
occur. 
 
¶3.  In a recent meeting with Econoff, Dr. Karnit Flug, Head 
of Research at the Bank of Israel said that while economic 
results in the third quarter were good, the real question is 
sustainability. Following growth of 1 percent in the second 
quarter, real GDP growth is at 2.2 percent, while per capita 
GDP grew slightly by 0.3 percent after four quarters of 
negative readings.  Exports were up more than 21 percent 
after increasing 15 percent in the second quarter, and 
imports grew by 61.9 percent.  Private consumption was up by 
almost 9 percent and investment in fixed assets increased by 
over 23 percent.  Unemployment was at least less bad, 
declining to 7.8 percent from 8 percent in the second 
quarter.  This was the first decline in unemployment since 
the third quarter of 2008. Labor participation rates were 
steady with the notable exception of Jerusalem, which usually 
has the lowest participation rates and among the highest 
poverty rates.  Jerusalem's labor participation rate inched 
up 1. 9 percent in the first 10 months of 2009, which may 
indicate some early success of pilot projects to incorporate 
ultra-orthodox Jews into labor market. 
 
¶4.  The Bank's November 23 interest rate announcement noted 
that the dollar had strengthened against most currencies 
during the last month.  In the period between the BoI's last 
monetary policy discussion and the November 23 rate hike, the 
shekel weakened against the dollar by 3.2 percent, by 2.2 
percent against the euro and by 2. 9 percent against the 
basket of currencies.  As the BoI policy is now to refrain as 
much as possible from forex intervention, they are cautious 
about monetary policy that might put downward pressure on the 
dollar. BoI contacts insist there is no dollar-shekel target 
exchange rate (the current shekel/dollar rate is about 3.8) 
and note the Governor's desire to move in the direction of 
infrequent to zero intervention in the forex market.  In 
reference to the Bank's actions prior to September 2009, the 
OECD wrote in a November 19 announcement that the Bank of 
Israel's "continued foreign exchange interventions risk 
bringing additional inflationary pressures and damaging 
policy credibility and coherence."  The monthly foreign 
exchange reserve report indicates that the Bank has in fact 
decreased USD purchases.  In October, the Bank purchased USD 
1.27 billion compared with USD 1.6 billion in September and 
USD 4 billion in August.  The OECD is expected to release a 
final report in December that softens its criticisms of BoI 
actions in the forex market. 
 
 
TEL AVIV 00002561  002 OF 002 
 
 
¶5.  Following the rate increase, some commentators, such as 
Michael Sarel, focused on the significant increase in exports 
as the critical factor in pushing Fischer to raise rates.  As 
long as the export situation improves, the Bank's concern 
about a strengthening shekel is diminished.  Despite the 
increase, real short term rates remain very low, similar to 
levels in the U.S., U.K and Canada where the crisis was 
deeper and inflationary pressures more moderate.  Sarel warns 
that inflationary pressures could become significant within 
the next year or two if rates remain so low.  The rate 
increase also provided the pres an opportunity to praise 
Stanley Fischer's stewardship of the economy, citing local 
and international economists' assessments that Fischer's 
continued presence at the helm of the Bank is critical to 
Israel's continued economic recovery.  If the figures speak 
for themselves, his continued tenure is his for the asking. 
 
MORENO