Rate Hikes in Israel Likely Soon, Outgoing Central Bank Chief Says

In an exit interview, Bank of Israel Governor Karnit Flug expresses satisfaction with her five-year term

Outgoing Bank of Israel chief Karnit Flug, March 2018.
Bloomberg

The outgoing head of Israel’s central bank Tuesday a short-term interest rate increase is not far off, but pulling the trigger too quickly could delay a return of inflation to its target.

“My expectation is that it can start at any of the next few meetings,” Bank of Israel Governor Karnit Flug said in an interview with Reuters on her last day in office.

The next rate decision is November 26, followed by January 10.

After five years at the helm, Flug is stepping down and will likely be replaced by U.S. finance professor Amir Yaron, pending cabinet approval. Deputy Governor Nadine Baudot-Trajtenberg was acting governor as of Wednesday.

During Flug’s tenure, interest rates have never risen, while the benchmark interest rate has remained at a record low of 0.1% since early 2015. The last rate hike was under Stanley Fischer in mid-2011.

Flug said that in recent years, the central bank debated whether to take unconventional measures, such as negative rates, but given solid growth and an upward trend of inflation, the monetary policy committee decided such steps were not necessary.

Instead, it took a number of measures to make it tougher to get mortgages to counter a jump in housing costs, partly caused by near zero interest rates.

The central bank had been expected to start raising rates already in the fourth quarter but an easing of inflation back to an annual rate of 1.2% in September, near the bottom of the government’s target range of 1% to 3%, likely pushed any hikes into 2019. The bank’s staff projects 40 basis points of tightening next year.

“My expectation is that (rate hikes) will be gradual,” Flug said. “We have not seen inflation rising up very rapidly so we don’t want to counteract the entrenchment of inflation in the target range. ... But you also don’t want to be behind the curve. This is the kind of balance every central bank has to make in the process of normalization.”

Flug said one key factor in keeping inflation down the past few years, the strong shekel, has waned as the currency has weakened somewhat, although higher competition in the economy remains.

“The tightness in the labor market is a force that will push inflation up,” she said.

Flug said she was satisfied with the central bank’s policies the past five years. “Growth has been strong, employment has been strong and unemployment is low. ... We have price stability,” she said. “Monetary policy did do the job.”

She also cited as successes boosting competition in the banking sector, reforms in making it easier and cheaper for consumers to get credit, as well as working to keep fiscal policies in check.

But Flug said she wished she could have convinced lawmakers to approve two items — raising the retirement age for women from its current 62 and creating a financial stability board like many other countries did after the financial crisis.

Despite a flare-up in violence between Hamas militants in the Gaza Strip and Israeli forces, Flug doubts there will be an economic impact, saying: “We have had in the past some security issues and the economy exhibited resilient to those.”