Worried About Housing, Fischer Raises Interest Rate for October

Steinitz pleaded to leave interest as is, central bank hiked it to 2%

Interest rates in the United States aren't budging and Europe's central banks are hunkered down too. But over here, ignoring the plea of Finance Minister Yuval Steinitz to leave the rate as is, the Bank of Israel yesterday announced an interest hike for October, by 0.25%, to 2%.

Stanley Fischer
Daniel Bar-On

The move had been widely expected. Analysts speculating ahead of the event had leaned toward predicting a rate hike, as opposed to no change in interest for October. Bank of Israel Governor Stanley Fischer will prove to be more concerned about housing prices than the rise in the shekel's strength against other currencies, they predicted. They also noted Fischer's stated goal of restoring interest rates to "normal" levels.

The central bank's mandate is to keep inflation within the government's 1%-3% target band. But Fischer has already ???'? that he views his mission more broadly, and has expressed concern about the behavior of home prices. One reason housing prices keep rising is that loans are cheap, because interest rates are low. Fischer had tried to divorce the general interest rate from that on mortgages obliquely, by raising the cost of mortgages. Yet the incline in housing prices continued.

The consumer price index rose by 0.5% in August, while analysts had predicted an increase of zero to 0.3%. Housing was one of the culprits.

"Prices rose most notably in three areas: fresh vegetables, because the intense summer heat damaged crops, and also for regular seasonal reasons; foodstuffs, and housing," wrote Ayelet Nir, the chief economist at the IBI Investment House, in a weekly macroeconomics review.

Low interest rates are considered to stimulate economic activity by making borrowing cheaper. Israel's economy is already growing at a brisk pace: The Bank of Israel yesterday raised its forecast for Israel's economic growth this year, from 3.7% to 4%.

DS Apex chief economist Alex Zabezhinsky thinks the Bank of Israel raised the interest rate for October as a reaction to the latest CPI, which was higher than expected. But Israel's foreign trade data has not been encouraging, he points out, and activity may be slowing. Be that as it may, the central bank itself points out in its interest rate announcement that its rate remains expansionary.

Sweden did it too

In raising the rate, Fischer ignored the plea of Steinitz, who is worried about the strong shekel hurting exports, a major growth driver.

Steinitz told senior treasury officials last week that higher interest would cause an influx of money into Israel, causing appreciatory pressure on the shekel and forcing the central bank to resume its intervention in Israel's foreign currency trade.

The October increase puts the interest rate right in the middle of the Bank of Israel and the government's inflation target of 1% to 3% for 2010, gradually returning rates to the match the inflation target and back to "normal" levels, said the central bank. The increase will "support the further recovery of economic activity, while maintaining financial stability," wrote the Bank of Israel.

It did acknowledge the uncertainties shrouding future global economic growth, which may well slow in the second half of this year. But it also noted that the central banks of Canada and Sweden had also raised their overnight interest rates by 0.25%.