Markets Relieved as Karnit Flug Seen Preserving Fischer's Policies at Bank of Israel

Israel's financial markets hailed the appointment of Karnit Flug as the ninth Bank of Israel governor Sunday, but analysts warned that she faces a host of economic and personal challenges.

Praising her work as acting governor in the three and a half months since Stanley Fischer stepped down, analysts said the fact that she was not Prime Minister Benjamin Netanyahu's first choice puts her in an awkward position. And she faces difficult decisions on how to depreciate the shekel, spur the country's flagging economic growth and put a lid on spiraling housing prices.

Still, they expressed relief that an unusually long period of uncertainty was over. "It's a tragedy with a happy ending," said Eldad Tamir, CEO of Tamir Fishman Investment House. "We have a professional, outstanding appointment. It's a pity they didn't name her to begin with."

On the Tel Aviv Stock Exchange, the benchmark TA-25 index rose moderately on the news. The foreign currency market was closed Sunday.

"The appointment creates a major personal challenge for her," Tamir said. "The new governor knows she wasn't really the first choice, so she'll try to prove she's strong enough. It's not exactly the ideal situation in which to begin such an important post."

Yaniv Pagot, chief strategist at Ayalon Group, said Flug had scored points for her low-profile but "irreproachable" performance as acting governor.

"Flug will now have to show that she can lead the Bank of Israel successfully in the face of significant challenges and the prime minister's obvious skepticism," Pagot said. "She'll need an iron backbone against the relevant officials in the Prime Minister's Office and the treasury who are experts at sensing weakness."

Tamir said Flug's first priority should be the exchange rate. "The Bank of Israel has to take dramatic steps to weaken the shekel," he said. "The stronger shekel is severely damaging the Israeli economy, so it’s a task where she has no choice but to succeed."

Since the central bank resumed regularly intervention in the forex market under Fischer, it has spent billions of dollars in an attempt to strengthen the greenback against the shekel. But the Israeli currency has gained 5.5% in the past year.

Analysts said Flug, who served as Fischer's deputy and was endorsed by him as his successor, was likely to adhere to his policies. She has maintained his intervention policy and has imposed tough limits on mortgages to try to contain rising housing prices. And she took the markets by surprise by lowering the base lending rate at the end of September by a quarter point to 1%.

"Her appointment will prevent any shocks at the Bank of Israel or in monetary policy," said Rafi Gozlan, chief economist at IBI Israel Brokerage & Investments. "From a monetary policy perspective, it will mean a greater emphasis on exports and the exchange rate than on housing."

Amir Eyal, chairman of the Infinity investment house, agreed that Flug would continue an expansive monetary policy, supporting exports and employment and following in Fischer's footsteps. But Gozlan said Flug was unlikely to lower the lending rate again unless the world economy showed further weakness.

Economists stressed the conflicts she faces trying to juggle multiple issues and the limited tools at her disposal. For instance, lowering interest rates might weaken the shekel and boost economic growth, but it would also encourage more home buyers to take out loans because of the low cost.

Oren Eldad, head of trading house ATrade, said Flug's appointment was unlikely to have an immediate impact on the exchange rate, which is largely affected by global events. "There will now be a responsible adult who can carry out more substantial purchases [of dollars] when speculators try to test the dollar/shekel rate," he said.

With reporting by Reuters