## Israel -- 2007 Article IV Consultation Concluding Statement of the IMF Mission

_IMF News, December 9, 2007_

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## Bibliographic details
- Published: December 9, 2007

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### Mission overview and key judgment
- The economy is performing exceptionally well, requiring continuation of strong economic policies.
- Sound policies and unprecedented global growth have driven the improvement; however, public debt is "not much lower than before the latest recession" and vulnerability to shocks remains high.
- Priority policy needs:
  - More public debt reduction to safeguard the government's ability to respond to difficult times.
  - Further improvements to the financial sector framework to enhance resilience.

### Economic developments and prospects
- Growth outlook:
  - Real GDP growth expected "around 4 percent from 2008," compared with "about 5½ percent in 2007."
  - Domestic conditions supportive: broad-based GDP growth; rising real incomes including for the poor; improved corporate profitability and balance sheets; good employer–trade union cooperation; solid competitiveness.
  - External conditions weakening: global financial turmoil and high oil prices reduce demand in key export markets; risks lie on the downside.
- Inflationary pressures:
  - Likely to mount given rising global inflation; slowing productivity; robust labor demand; accelerating housing services prices.
  - Offsetting factors: subdued wage pressures and appreciation of the sheqel (NIS) against the US dollar (US$), though these are likely to weaken.
  - Unemployment falling to levels where supply bottlenecks appear; higher wage growth is likely.
  - External current account is retreating from unprecedented highs, diminishing medium-run pressure for NIS appreciation.
  - Link between NIS/US$ exchange rate and housing services prices is weakening.

### Monetary policy developments and framework
- Policy stance:
  - Higher interest rates are "probably needed" for inflation to stay within the "1-3 percent target range" over the medium run.
  - Uncertainty about external demand and higher corporate bond risk premia argue for caution in raising rates.
  - Well-anchored inflation expectations provide time to assess incoming developments.
- Policy implementation and communication:
  - Conduct of monetary policy judged "exemplary" by stability of inflation expectations.
  - Support for publishing quarterly inflation reports and releasing a model-based inflation and interest rate forecast.
  - Suggested enhancements: clarify role of forecasts in decision making; clarify relationship between forecasts for different macro variables (notably the exchange rate); clarify the monetary policy horizon.
  - Recommendation for "swift adoption of the draft Bank of Israel law" to strengthen institutional foundations.

### Fiscal policy challenges and institutions
- Shorter-run requirements: maintaining a strong fiscal policy
  - Fiscal performance: higher-than-budgeted tax revenue allocated to debt reduction; well-managed expenditure.
  - Central government budget likely close to balance by end-2007, implying a general government deficit of "roughly 1 percent of GDP" on an internationally comparable basis.
  - Central government deficit ceiling of "1.6 percent of GDP" should be treated as a ceiling, not a target.
  - Maintain strict compliance with the "1.7 percent expenditure growth ceiling" and allocate revenue overperformance to debt reduction to keep central government budget close to balance.
  - Debt reduction lowered interest payments by "some NIS 10 billion."
- Longer-run objectives: securing the welfare of younger generations
  - Demographic and labor force projections:
    - Labor force growth may decelerate "from around 2½ percent per annum during 2000-05 to around 1½ percent during 2010-15."
    - Projections suggest that by "2050 only about 2-3 people in the workforce will support each retiree," down from "more than 4 people today."
  - Implications: lower economic growth and upward pressure on public spending; debt service consumes "the equivalent of about half of all welfare spending."
  - Policy prescription:
    - Continue rapid public debt reduction; prioritize debt reduction over tax cuts.
    - Objective to achieve "at least the much safer 60 percent ratio by 2015" from current "82 percent public debt to GDP ratio."
    - Achieving this would require keeping central government accounts in balance, implying a general government deficit of "about 1 percent of GDP on an internationally comparable basis through 2015."
    - Scope exists to simplify the comparatively complex tax system, including by reducing tax exemptions.
  - Fiscal governance improvements:
    - Budget documentation should include multi-year scenario analysis of conjunctural and other risks and a long-term fiscal sustainability analysis.
    - Strengthen fiscal surveillance, combine better budget analysis, strong rules, and independent, nonpartisan fiscal evaluation.

### Financial sector developments and framework
- Progress to date:
  - Ambitious reforms fostering a stronger and more diversified financial system; financial soundness indicators improving though capital and solvency levels remain lower than in many advanced economies.
  - Shift in financing away from banks to bond markets and institutional investors.
  - Authorities progressing toward international standards: preparing for Basel II and Solvency II; introducing risk-based supervision; strengthening insurance regulation; securities regulator progress; primary dealer system for government bond market; work on repo market and securitization; introduction of real time gross settlement.
- Main remaining challenges (five key issues):
  - Need for regulators to build expertise to support the more complex regulatory system; requires greater recruitment flexibility and competitive pay scales.
  - Risk that rapid regulatory change may be inconsistent with high-quality implementation; major regulatory initiatives should undergo careful cost-benefit analysis.
  - Need for appropriate balance between principles-based and rules-based approaches to avoid stifling market entry, innovation, and accountability.
  - With more competition comes more risk; require strong capacity to manage and resolve financial stress, supplementing the Memorandum of Understanding with financial crisis scenarios to identify gaps.
  - Insurance supervisor needs independence to set solvency standards, enforce managerial changes, resolve failing institutions, and perform group-wide supervision.
- International integration:
  - Israel's formerly closed financial system is opening to the world; a coherent vision to guide international integration is recommended as a key task of the capital markets committee.

*Source: Israel -- 2007 Article IV Consultation Concluding Statement of the IMF Mission (December 9, 2007).*

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## References

- [Israel and the IMF](http://www.imf.org/external/country/ISR/index.htm)
- [Mission Concluding Statements](https://www.imf.org/en/news/searchnews)
- [PRESS CENTER](http://presscenter.imf.org/)
- [Article IV](https://www.imf.org/external/pubs/ft/aa/aa04.htm)
- [https://www.imf.org/en/home](https://www.imf.org/en/home)

_Source: https://www.imf.org/en/news/articles/2015/09/28/04/52/mcs120907_