What is behind the declines in the markets and why Israel is in a better position

After holding that inflation was temporary as a result of disruptions created by the Corona crisis, and even continuing to print money to help the economy under the ultra-expansionary monetary program it successfully launched to address the Corona crisis, the Federal Reserve took off its gloves last week. The shares and bonds listed last week on Wall Street are rolling this morning (Sunday) on the Tel Aviv Stock Exchange.

The Fed has already officially changed its monetary policy but still continues to assist markets by buying assets (bonds) and the bank’s balance sheet continued to grow alongside the start of the interest rate hike campaign. The Fed recently announced a reduction in asset purchases In the days of routine, central bank interest rate hikes are usually done at a rate of 0.25% and should be measured according to developments so as not to cause a shock.

But last week the Fed chairman Jerome Powell Made it clear that raising interest rates by half a percent as early as May was definitely on the table, and very quickly markets moved to price the move with certainty, moving to expect a more aggressive move of interest rate hikes at a similar rate of 0.5% in each subsequent interest rate announcement in June and July. All in order to fight inflation.

On Wall Street, stock markets reacted with declines and, in an unusual way, bond markets also fell so that their yields soared (remember, there is an inverse relationship between the price of a bond and a yield). The leading indices on the Tel Aviv Stock Exchange fall by more than 2% after the stock exchange fills in the gap created when it was closed on Thursday for the holiday.

Investors are digesting that the round of interest rate hikes will be faster than they thought, which is likely to affect the market in a way that is difficult to predict given the fact that the end of the war in Ukraine is not in sight. Even when the Fed changed its position at the end of last year and called for abandoning the term “temporary” regarding inflation, who knew that three months later the war in Ukraine would add heavy pressure to inflation, as the sharp jump in commodity prices rolls into world inflation. Working to curb it.

Both the International Monetary Fund and the World Bank have lowered growth forecasts for the global economy amid the war that is expected to fuel inflation among the world economies. The IMF last week reduced its global growth forecast by 0.8% to 3.6% for 2022. The economies in Europe, which are highly dependent on Russian gas, stood out for a moment, while the Israeli economy stood out positively with an increase in its growth forecast from 4.1% to 5% in 2022.

Spotlight: Everything that is happening now is now embodied in the markets. But the future is coming mixed with extreme uncertainty. The US bond market is signaling that the move to raise the Fed’s interest rates will run into difficulties and even lead to a recession. In order to fight inflation by way of interest rate hikes that could stifle economic activity.

Inflation figures released last month in the US indicated a 8.5% rise in prices in the last 12 months. Because the peak of inflation is behind us. Judging by the tone of Chairman Powell from last week, who has become an unusual hawk, the Fed does not seem to think so.

Israel enjoys several directions

In Israel, the situation is different when the rate of inflation according to the CBS does exceed the target set by law, reaching 3.5% in March, but it is a low rate in a global comparison – which leaves the Bank of Israel a surplus compared to other central banks.

Although the Bank of Israel raised the interest rate in the economy to 0.35% before the holiday, among other things against the background of the strong growth data of the economy, the Bank maintains that subsequent increases will be gradual and thus the interest rate will be 1.5% in a year. Just as some economists do not give much chance of raising interest rates in the United States, so it is not certain that interest rates in Israel will rise to this level later on.

Meanwhile, interest rate differentials between the United States and Israel have weakened the shekel. As you may recall, the Bank of Israel spent $ 35 billion last year to moderate the strengthening of the shekel, and now interest rate differentials are doing the work for the Bank of Israel. More for the money compared to the one in Israel.

At the same time, the Bank of Israel has accumulated foreign exchange reserves in the order of 40% of the economy’s GDP – more than $ 210 billion. What do you do with all this money? Also need to manage. Last week it was reported in Bloomberg that the Bank of Israel will diversify its mix of investments in assets linked to the Japanese yen and reduce the linkage to the dollar slightly. However, the expectation that the move defined as a change in the investment philosophy will yield a profit for the Bank of Israel from managing reserves is detached from reality. After all, the Bank of Israel does not treat the management of reserves as a profit but as a surplus. According to the Bank of Israel Law, he can transfer the surplus as a dividend to the state. But in practice such transfers have not been made for at least 13 years, so the expectation that this will happen soon can be shelved.

Beyond that, every investment in foreign currency, such as the dollar, is financed in shekels. After all, the Bank of Israel bought dollars but sold shekels, and thus the bank’s balance sheet holds holdings in dollars, as opposed to huge shekel financing.

By Editor

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