Israel's economy passes crisis, new challenges on horizon

14:35, January 29, 2011      

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When the International Monetary Fund this week presented its final report on the Israeli economy for 2010, it focused on two aspects: Israel has passed through the global crisis swiftly, but now faces a three pronged challenges.

The small and open economy, according to the report, needs to find a way to sustain the growth in light of continued global uncertainty, a continued appreciation of its currency, the shekel, and a housing market in risk of overheating.

When markets across the world started to shake following the collapse of Lehman Brothers in 2008, the Tel Aviv stock exchange also felt the jitters as well. However, as it became clear that the major Israeli banks did have very limited exposure to the crashed American housing market, calm was restored.

Representatives from the banks said that it was the foresight about the risks involved in the housing markets that held them back from taking on too much risk. However, others said that the Israeli banks were simply getting on the train slowly and did not start buying too much toxic assets until the end of the crisis.

According to the IMF report, consumption and export, the growth of which reached four percent in 2010, facilitated the recovery of the Israeli economy.

BANK OF ISRAEL

The Bank of Israel was among the central banks worldwide to firstly commence its tightening cycle from September 2009, raising policy rates by 25 basic points.

One of the most controversial policies of the Bank of Israel, under the governance of Stanley Fisher, is the purchase of U.S. dollars to keep up its value against the shekel. The policy is unpopular among the companies in the Israeli export sector, as they have seen the value of their exports fall.

However, Fisher is highly esteemed by the financial sector, said Benjamin Bental, a professor from Haifa University. "He is an excellent governor and he carried a huge personal prestige which makes him immune to political pressures," Bental told Xinhua.

"He is doing a great job. They will never find someone as distinguished and as capable as he is," said Prof. Joseph Zeira from the department of economics at the Hebrew University in Jerusalem.

As the recovery contained, the Bank of Israel in October 2010 decided to raise its policy rates from their floor of half a percent to two percent. In addition, new fiscal rules were adopted in 2010 comprising deficit and spending ceilings.

In part, this reflects the innovation of the so called two-year budget cycle. This move is credited with having helped to stabilize expectations in mid crisis and established an important precedent for the future.

"The resilience of the economy has been strengthened by the adoption of new fiscal rules capping spending and deficits, a new Bank of Israel Law, and by the entry into the OECD," the IMF report read.

Israel's entrance into the Organization for Economic Co- operation and Development (OECD) in September 2010, becoming its 33rd member, a sign of approval for the Israeli economy.

One of the main benefits is that Israel now will have access to the organizations' wealth of information on a wide number of issues that is aimed at helping governments to improve their policies not only for the national economy but for society in general.

"Furthermore, in line with typical OECD practice, supervision of non-banks might be further strengthened by locating it outside the Ministry of Finance," the report said.

FUTURE CHALLENGES

However, the Israeli economy also faces a number of challenges. In particular, according to the IMF report, inflation expectations have risen towards the upper end of the target band, house prices have boomed and the shekel has appreciated significantly.

Though all these developments reflect Israel's relatively strong economic performance, the authorities will need to keep them under control, analysts argued.

Prof. Bental told Xinhua that one long-term problem not dealt with in the IMF report was the changing demographics of Israel.

"We are facing a demographic change in Israel. There are two population groups which are very important. One of them is the rapidly-growing ultra orthodox Jews and the other group is the Arab minority. Both are not well educated and not well prepared for the modern job market. Because of this, there is a huge problem of labor force participation," Bental said.

He said that Israel should view the recent natural gas finds outside its coast in the Mediterranean sea as a "nice gift," rather than a game changer that will turn the country into a new Saudi Arabia or Abu Dhabi.

Zeira, a professor from the Hebrew University, noted he was quite surprised that the IMF had not looked at the political risks to the Israeli economy.

For a small country with a focus on the export industry, any change to the political situations could have a serious effect on the economy, Zeira said. However, the professor added that he does not foresee any of such a crisis coming soon.


Source: Xinhua
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