BoI Widens Distance From West, Raises Interest to 2.25%

Bank officials: Rate increase consistent with policy of slowly raising rates to 'normal' levels while keeping inflation within the government's target zone.

Though the developed economies are leaving their interest rates at rock-bottom, the Bank of Israel yesterday decided to raise its rate for February by 0.25% to 2.25%, due to concerns about rising inflation, Governor Stanley Fischer said yesterday.

Stanley Fischer
Tomer Appelbaum

In response, the country's banks are planning to raise their interest rates on loans, including overdrafts, by 0.25% this weekend.

The central bank's rate increase is consistent with its policy of slowly raising rates to "normal" levels while keeping inflation within the government's target zone of 1% to 3%, said the bank. It will continue raising interest depending on the state of the economy and the exchange rate, the central bank said.

Clal Finance chief economist Amir Kahanovich said the Bank of Israel's behavior could serve as a lesson in selective monetary policy. The interest gap with the United States is now 2%, and the bank has shaken off anyone dependent on the country's interest rate, from mortgage holders to foreign currency traders, he said.

Israeli interest hit an all-time low in mid-2009, amid the global financial crisis.

The bank listed three main reasons behind its decision to raise rates next month. First, while inflation has been within the target range for the past 12 months, it picked up in the final quarter of the year and is now headed to the upper end of the target range.

Also, the bank has long been warning of a housing bubble, and last month apartment prices resumed their upward path, increasing a total of 17.3% for 2010. In addition, there was a large increase in loans to fund housing in December.

Furthermore, economic indicators show that the quick economic growth of the first three quarters of 2010 continued into the final quarter, and is likely to keep up through the first quarter of 2011.Plus, indicators show the global economy is continuing to recover.

The bank noted that it decided to raise rates even though this increases the gap between Israel's interest rate and those of many other developed nations. Central banks in countries that already have returned to growth have been raising rates, it noted.

It does not expect the move to cause significant appreciatory pressure on the shekel, due to a change in foreign currency trading policy it imposed on foreign speculators last week.