Central Bank Chief Open to Another Rate Cut, Unconventional Tools

Karnit Flug, however, declines to specify whether the Bank of Israel would buy bonds like the U.S. Federal Reserve.

Bank of Israel Governor Karnit Flug voiced openness Friday to reducing interest rates further or using other unconventional policy tools to boost inflation back to the target range.

In an interview with Reuters television, she also said she was more comfortable with the exchange rate than before the Israeli currency’s recent depreciation against a broadly strengthening dollar, and was not considering imposing a floor on the dollar-shekel rate at this time.

Asked if the bank’s reference rate, currently at 0.25%, could drop to zero, she said: “As we’ve seen in other countries, the experience is that interest rates can go lower, and there are other tools that central banks have been using once you reach the zero bound, so there are quite a lot of policy tools in the tool kit.”

Flug was in Washington over the weekend for the annual meetings of the International Monetary Fund and the World Bank.

In recent months, Flug was a strong advocate for lowering the Bank of Israel’s key interest rate to its current historic low. Amid the lower rates, the shekel has lost 9.5% against the dollar to 3.72 shekels. The fall makes Israeli exports more competitive, but low rates also increase the risk of real estate and stock market bubbles.

In her Reuters interview, Flug declined to specify whether future action by the Bank of Israel could include so-called quantitative easing — or bond buying — that the U.S. Federal Reserve has used.

“There are different tools, but I think that would not be the right moment to actually specify the tools,” she said. “We will be following the developments and adjust our policies accordingly.”

Flug said she had no specific target for the exchange rate. Countries like Switzerland and the Czech Republic that adopted an exchange rate floor faced different circumstances than Israel, she added.

“And I think in extreme circumstances you may consider all kinds of policies; I think right now the more flexible policies that we have been using are working, so that’s where we are right now,” she elaborated.

The Bank of Israel on Tuesday bought $300 million of foreign exchange, surprising some since it had not bought any in September and since the shekel had depreciated 8% since July.

Asked why, Flug said: “We have committed ourselves to offset the effects of natural gas on the exchange rate and we’ve been doing that over the year roughly in equal monthly amounts, and that’s part of our plan. Our commitment is annual, and we’ve been doing that.” Regarding natural gas, she was referring to Israel’s new gas production in the Mediterranean.

Asked if the currency purchases were to boost inflation, Flug said that “both our exchange rate policy and our interest rate policy are aimed at inflation and supporting growth.” She said there had been some slowing of growth related to global economic developments and the Gaza war.

She was moderately critical of government plans to boost the budget deficit for 2015, saying it was “maybe a little bit more than we hoped for,” though there was some fiscal room. But she took comfort in plans to reduce the deficit to 2.75% of gross domestic product in 2016, which would allow for a reduction in the debt burden.

Flug justified her projection of 3% economic growth for 2015 by saying the latest projections were for a 5% increase in global trade, which would help exports, and consumption should rebound now that the Gaza fighting was over.