On Your Toes / Premature All-clear

In a highly surprising move and on short notice, Bank of Israel Governor Stanley Fischer called a press conference at 10 in the morning Monday.

In a highly surprising move and on short notice, Bank of Israel Governor Stanley Fischer called a press conference at 10 in the morning yesterday.

Fischer was a man with a mission: to smooth furrowed brows. The crisis in the United States subprime mortgage arena would have little effect on America itself, the governor said, let alone on the rest of the world.

The global economy continues to grow, Fischer told reporters, and as long as we in Israel maintain fiscal discipline and price stability, our economy will also continue to grow and local and foreign investors will keep the faith.

He didn't mention the stock market: Fischer was talking about macro-economics. But his address indicated that the exchange has already weathered the worst. Has it really?

Stocks have been rallying for the last couple of days, but the credit crunch that began in the U.S. and spread far and wide, is far from over. The crisis began because the U.S. Federal Reserve held interest rates very low after the September 11, 2001 attacks. The low rates spurred lively demand for assets. And that gave birth to a real estate bubble and a bubble in stocks.

The real estate bubble was the first to start bursting, in 2007, as interest rates rose - property prices began to drop. Homes became worth less than the mortgages taken out to buy them and banks foreclosed, demanding the houses be sold. That pressed housing prices even lower, which led to bankruptcies among banks.

In the boom years, when money was cheap, all sorts of hedge funds arose that did magnificently well. They invested in high-risk avenues, esoteric derivatives and also heavily borrowed from the banks, which were lavishing loans left and right. But the moment U.S. interest rates started to rise, the hedge funds started to go broke, too.

In fact, anybody who borrowed heavily for any purpose was suddenly forced to change direction and consider how to repay the loan quickly. That process has not yet ended.

As the storm raged, Fed chairman Ben Bernanke became a target. Detractors sniped that his predecessor, Alan Greenspan, would have lowered interest rates ages ago, but Bernanke stood firm based on a justifiable concern about inflation. That is why he kept the U.S. funds rate at 5.25 percent, but did inject cash at low interest (4 percent). He did lower the discount interest rate - the rate at which the Fed lends to banks - from 6.25 percent to 5.75 percent, to relieve banks in a liquidity crunch.

Ergo, both bubbles are still here. The crisis in the U.S. isn't over yet, nor is it done sending ripples around the world.

Now factor in Fischer's hints about local interest rates. It is too soon to sound the all-clear. Fischer said yesterday that "if necessary" he'd narrow the gap between interest on the shekel and on the dollar, which is presently 1.5 percent. Most probably, in a week, when he announces the Bank of Israel rate for September, he'll do that very thing. We can only hope that he chooses to narrow the gap by a cautious 0.25 percent, but even that much would be a bad sign for stocks.