Bank of Israel Cuts Interest Rate for Third Time, Warns Government on Spending

Bank of Israel Governor Prof. Amir Yaron announced a third consecutive interest rate cut, lowering it to 3.25%, surprising the market which had anticipated a smaller reduction. The move comes as interest rate trajectories in Europe and the US are rising.

In an interview with Globes, Yaron explained the decision was based on a risk management approach, balancing inflation, which is currently below the target at 1.5% but expected to rise, with economic activity. While the second quarter saw impressive GDP growth of 15.4%, Yaron noted that excluding overseas operations of Israeli companies, growth was more moderate at 3.8%. He also pointed to signs of slowing demand, supply constraints, and a strong shekel, which may not have fully impacted inflation yet.

The governor expressed concern about the Israeli high-tech sector and exports, citing a decline in tech fundraising and exports, and increased hedging costs for publicly traded companies. He stated that while the primary focus is inflation, financial stability is also a consideration, and the rate cut supports these objectives.

Yaron also criticized a government proposal to earmark billions for defense spending and a NIS 400 billion military procurement plan for years to come, especially so close to elections. He warned of a "fiscal trilemma," emphasizing the need for a balanced budget, reducing the debt-to-GDP ratio, and maintaining fiscal buffers. "There are no free lunches," he stated, cautioning that increased defense spending would necessitate higher taxes or cuts to essential civilian services.

He urged for efficiency within the defense budget and stressed the importance of continued investment in growth engines like education, transportation infrastructure, and housing. Yaron advised a "modest" approach to defense spending to preserve fiscal flexibility for future governments.