Dollar Rises 2.3% Against the Shekel After Bank of Israel Rate Cut

The central bank's surprise decision last week to cut rates and buy foreign currency followed concerns that the strengthening shekel was hurting exporters.

The dollar rose 2.3% against the shekel last week after the Bank of Israel's surprise decision to lower the base interest rate, coupled with its plan to buy foreign currency.

The central bank's policy shift Monday followed concerns that the strengthening shekel was hurting Israeli exporters. The bank cut the base interest rate a quarter of a point to 1.5%.

The greenback eased Friday, closing the week at NIS 3.644. The euro fell 0.2% against the shekel to NIS 4.687, but was up 1% for the week.

Monday's announcement broke with the normal schedule of interest-rate announcements and was accompanied by the central bank's plan to purchase $2.1 billion in foreign currency. This would sop up supply generated by the start of production at the offshore Tamar natural gas site.

The central bank's announcement caused an initial 2% jump in the dollar against the shekel. The foreign capital inflows and domestic gas production are expected to continue to buoy the shekel, Bank Leumi said Friday.

"On the other hand, the Bank of Israel's intervention in foreign-currency trading with the launch of a new [currency] acquisition plan is an indication of its commitment to prevent a further substantial strengthening of [the shekel's] value. In light of that, we expect the shekel to continue to trade around its current level," Bank Leumi said.

The lowering of the interest rate was also followed by sharp increases in the value of Israeli government bonds on Thursday. Unlinked 10-year bonds gained 0.36% with yields dropping to 3.46% - the lowest yields ever. Index-linked 10-year bonds rose 0.6%, with yields declining to 1.39%.

The lower base interest rate reduces the yield difference between higher-yielding Israeli government bonds and their U.S. and European counterparts. The more the gap is closed, the less the incentive for foreign investors to put their money in the Israeli bond market.

Less foreign money would be funneled to Israel, helping strengthen the dollar and increase the shekel revenues of Israeli exporters doing business in dollars.

A day after the Bank of Israel's interest rate decision, the Central Bureau of Statistics announced that consumer prices had risen 0.4% in April. The annual inflation rate is just 0.9%, lower than the government's target of between 1% and 3%. The modest pace of inflation could support a further reduction in the base interest rate, sending the shekel even lower.

On Thursday, the statistics agency said the economy had expanded just 2.8% in the first quarter in annual terms. This follows growth of 2.6% for the last quarter of 2012 and 2.8% for the third quarter.

The latest figure reflects an increase in private spending and exports of goods and services, a moderate increase in imports of goods and services, and a decline in investment in fixed assets and public consumption.

AP