JPMorgan Predicts Israel Will Cut Interest Rates in September Despite Rising Iran Tensions

JPMorgan economists have maintained their forecast that Israel's central bank will reduce interest rates in September, despite escalating geopolitical tensions with Iran. This outlook contrasts with recent market fears, which have pushed expectations for Bank of Israel rates above 3.3%, up from below 3% a month ago. The bank's analysis highlights that Israel's inflation rate, which fell to 1.6% in June, near the government's 1%-3% target range, is unlikely to be driven higher by external oil shocks due to Israel's energy independence and limited gasoline consumption in the consumer price index.

The report emphasizes Israel's unique economic conditions, including a tight labor market with unemployment at 2.9%, close to historic lows. However, JPMorgan challenges the traditional Okun's law prediction that such low unemployment would fuel wage inflation, arguing that a large pool of potential workers currently outside the labor force could fill new jobs without pushing wages up. This dynamic suggests inflationary pressures from the labor market will remain subdued, supporting the case for rate cuts.

Additional factors include a 4.2% annual rise in rental prices, contrasting with a 2% decline in home prices, which JPMorgan expects to balance out through slower rent growth. Furthermore, the Israeli shekel remains strong, up over 10% against a basket of currencies compared to last year, which will continue to suppress import prices.

JPMorgan concludes that the main inflation risk for Israel is not geopolitical tensions with Iran or rising oil prices, but rather potential shifts in U.S. Federal Reserve policy or increased risk premiums on Israeli assets. As long as these risks do not materialize, the bank expects a quarter-point rate cut in September, bringing the policy rate to 3%. The upcoming monetary committee decision in September will be crucial in confirming this trajectory.