Israel: Staff Concluding Statement of the 2023 Article IV Mission
IMF News, May 10, 2023
Source details
- Canonical URL
- Israel: Staff Concluding Statement of the 2023 Article IV Mission
Other formats
Bibliographic details
- Published: May 10, 2023
Outlook and Risks
- Economic growth in 2022 reached 6.5 percent, driven by a vibrant high-technology sector and record low unemployment.
- Staff projects growth to slow to about 2.5 percent in 2023, with convergence towards potential thereafter as households’ purchasing power moderates and firms rein in investment.
- Inflation is forecast to fall to the target range by end 2024.
- Risks to growth are tilted to the downside; risks to inflation are tilted to the upside.
- Downside growth risks: spillovers from a weaker global outlook, renewed surge in global energy prices, new supply chain disruptions, increase in geopolitical tensions.
- Financial risks: heightened global financial volatility could negatively impact pricing and availability of financing.
- External/FX risk: rising geopolitical tension or a falling interest rate differential versus major central banks could exert depreciation pressure on the shekel.
- Domestic political risk: continued uncertainty around the judicial reform could significantly increase the price of risk, tightening financial conditions and hindering investment and consumption, with potential long-term repercussions for growth.
Key Macroeconomic and Financial Indicators (as reported)
- Growth (2022): 6.5 percent
- Projected growth (2023): about 2.5 percent
- Headline inflation (March 2023): 5.0 percent year-on-year
- Expected 2023 general government deficit: about 1 percent of GDP
- Fiscal deficits projected to converge to below 3 percent of GDP by 2028
- Debt ratios projected to remain about 60 percent of GDP
- Bank loans for residential and commercial real-estate combined: over 50 percent of total loans in 2022
- Overall house price level increase (year): 17 percent
Fiscal Policy Recommendations
- Safeguard fiscal buffers while raising growth-enhancing spending.
- Staff assesses the fiscal stance as appropriate, with stronger-than-anticipated consolidation in 2022 rebuilding buffers faster than envisaged.
- Medium-term consolidation path based on expenditure restraint, preserving buffers.
- Create additional fiscal space for infrastructure, education, and climate goals by strengthening revenue measures.
- Consider institutional and procedural fiscal improvements:
- Review the fiscal framework to assess if fiscal rules are binding, flexible, and transparent.
- Develop a framework to define priorities across competing growth-enhancing expenditures.
- Maintain and potentially formalize the “projections procedure” providing MoF staff independence in macroeconomic and financial projections.
- Consider a mechanism to ringfence allowances for infrastructure and education projects while keeping fiscal envelopes that protect buffers.
- Consider establishment of an independent fiscal council to:
- Propose criteria for projects under the allowance for growth-enhancing measures.
- Evaluate the fiscal stance, assess budgetary forecasts, and monitor the fiscal rule.
- Advise on reprioritization of spending or further reduction of debt.
- Implement safeguards to guarantee minimum qualifications and avoid council members’ conflicts of interest.
Monetary Policy Guidance
- The Bank of Israel has moved the monetary policy stance above neutral; it should maintain a tight stance while underlying price pressures remain strong.
- Headline inflation at 5.0 percent year-on-year in March 2023 remains above target and is driven by broad-based price rises.
- Near-term inflation expectations have moved back into the inflation target range since end-2022, but the output gap is arguably still positive and the labor market remains tight.
- Recent shekel weakness adds to inflationary pressures.
- Recommendation: hold the policy interest rate elevated and restrictive until clearer signs show aggregate demand is cooling, taking into account transmission lags.
- Emphasize BOI’s independence in setting interest rates to maintain price stability and allow market forces to set the price of the shekel.
Macrofinancial and Banking Policy Recommendations
- Macroprudential:
- Welcome the recent retightening of macro-prudential tools to contain unwarranted risk taking.
- Further calibration of macroprudential tools should be driven by sector-specific developments.
- Policies should continue to bolster housing supply.
- Housing market:
- Housing price and mortgage credit growth were buoyant in the first half of 2022; house prices increased by 17 percent for the year.
- Amid rising lending rates, housing prices have started to stabilize; mortgage credit growth, issuance of new mortgages, and total housing transactions began to decline during 2022; stock of new dwellings for sale is rising; building starts increased significantly in 2022.
- Staff welcomes measures to boost housing supply and recommends aligning increases in supply with population growth, supporting them with complementary infrastructure investment, and removing fiscal disincentives to residential construction at local authority level.
- Banking sector resilience and supervision:
- Banks are well capitalized and liquid; household and corporate leverage levels are comparatively low; asset quality is strong.
- Concentration in real estate is high; bank loans for residential and commercial real estate combined reached over 50 percent of total loans in 2022 — sudden large corrections in real estate prices or shocks to incomes could jeopardize repayment capacity.
- Recommend further improvements in risk measurement and management:
- Use existing credit bureau information to improve supervisory models for measurement of risk at individual exposure level.
- Adjust risk-absorbing capacity appropriately across the financial cycle.
- Develop a legal framework to clearly delineate activities of banking and non-banking institutions, including payment services, adhering to international standards and considering consumer protection and financial stability.
- Welcome implementation of liquidity alerts, retightening of capital requirements and minimum leverage ratios, and recent strengthening of credit risk management including additional capital requirements for highly leveraged land financing.
- Caution against policy actions that interfere with market interest rate setting:
- Staff cautions against initiatives to impose minimum payments on retail deposits and caps on mortgage rates, which would distort bank pricing, risk-taking, and monetary policy transmission, and could interfere with established contracts.
Structural Policies to Raise Potential Growth and Inclusion
- Education reform:
- Prioritize education reform to improve marketable skills and reduce inequality.
- Focus on populations with low participation rates, such as the Haredi and Arab communities, while maintaining gender opportunity equality in higher education and the workplace.
- Improve teacher quality in disadvantaged communities and adapt education streams to align student qualifications with a digitalized labor market.
- Expand vocational training and encourage employer involvement in training programs.
- Infrastructure investment:
- Prioritize local transportation infrastructure to reduce congestion, improve job accessibility, and alleviate cost-of-living pressures.
- Upgrade digital infrastructure to expand access to digital networks in poor communities to support labor participation and reallocation.
- Product market reforms:
- Staff welcomes allowing imports meeting European Union standards, and the free trade agreement under negotiation with the UK.
- Supports proposals to reduce regulation of parallel imports, remove barriers to entry of service companies, implement health insurance cost reduction reform, and increase financial market competitiveness.
Climate Policy Recommendations
- Staff welcomes planned measures to support the authorities’ nationally determined contribution (NDC) commitments.
- Staff analysis:
- The 2030 electricity sector target is feasible; however, without reductions in other sectors, the overall target appears difficult to reach.
- Recommended actions:
- Enact a climate law and define a carbon pricing mechanism, taking into account energy security needs.
- Reinforce measures with fiscal incentives across sectors to foster private sector investment in mitigation.
- Consider additional fiscal support for R&D in innovative Israeli technologies and alternative approaches.
- Advance a strategy for climate adaptation.
Source: Israel: Staff Concluding Statement of the 2023 Article IV Mission, May 10, 2023.