Israel Set to Hold Rates With War Fueling Inflation Pressures

The Bank of Israel is expected to keep interest rates unchanged at its upcoming meeting, as the ongoing war with Hamas and Hezbollah continues to fuel inflationary pressures. The central bank has maintained a steady interest rate of 4.5% since April 2024, focusing on stabilizing markets and reducing uncertainty while balancing price stability and economic activity.

The annual inflation rate in Israel has been hovering near the upper bound of the government's target range, reaching 3.6% in August 2024. This increase in inflation is largely attributed to supply constraints related to the war, as well as accelerating fighting with Hezbollah in Lebanon. The Bank of Israel has expressed concerns about the rising inflation and its potential impact on the economy.



The OECD has downgraded its growth projections for Israel, forecasting a mere 0.6% GDP growth in 2024 and 2.4% growth in 2025. Inflation expectations have been revised upward, reaching 3.1% for 2024 and 3.6% for 2025, well above the government's target range. The OECD has warned that inflationary expectations hovering near the upper limit of the government's 3% target may necessitate further interest rate hikes.

The Bank of Israel's decision to keep interest rates steady comes despite the bank's research department slashing its forecast for Israeli economic growth this year to 0.5% from a previous estimate of 1.5%. The economy grew an annualized 0.7% in the second quarter, slowing markedly from a 17.2% pace in the first quarter.

The ongoing conflict has disrupted Israel's economic activity, with government military spending remaining elevated while private consumption has weakened. Consumer confidence remains fragile, in contrast to a partial recovery in business sentiment, as reflected in the stabilization of local stock markets and foreign exchange markets. However, persistent labor shortages, particularly in the construction sector, continue to constrain investment.

The Bank of Israel's decision to hold rates steady is likely to be influenced by the need to maintain international investor confidence, given the potential for higher government bond yields due to the war's impact on the economy. The central bank can use its monetary policy tools to manage inflation and maintain economic stability, while also communicating effectively with investors to reduce uncertainty.

In conclusion, the Bank of Israel is expected to keep interest rates unchanged at its upcoming meeting, as the ongoing war with Hamas and Hezbollah continues to fuel inflationary pressures. The central bank's decision to hold rates steady is likely to be influenced by the need to maintain international investor confidence, while also balancing the need to control inflation and support economic activity amidst geopolitical uncertainty.