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Israel must curb spending to avoid market backlash, warns central bank

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Israel’s central bank governor has urged Prime Minister Benjamin Netanyahu to rapidly curb public spending, warning that markets could react badly if his government failed to act over the Shk210bn ($58bn) cost of the war against Hamas.

Speaking as the Bank of Israel cut its benchmark interest rate from 4.75 per cent to 4.5 per cent — its first reduction since 2020 — Amir Yaron said the government’s market “credibility” depended on starting to make clear budget adjustments this year.

“I would like to say as clearly as possible: not acting now to adjust the budget via cuts in expenditures, removing redundant ministries and increasing revenues in view of the needs of the war is likely to cost the economy much more in the future,” Yaron said.

“In markets, the negative response effect is not always linear,” he added. “It is difficult to predict when the inflection point will occur, when the markets will reprice this risk, but to the extent that these adjustments are not made, the probability of that increases.”

Israel declared war on Hamas after the Palestinian militant group launched a devastating attack on the country on October 7, with militants killing 1,200 people, according to Israeli officials, and taking another 240 hostage.

In the months since, Israel has waged a ferocious ground campaign in Gaza, which has killed more than 21,800 people, according to Palestinian officials, as well as displacing more than 1.9mn of its 2.3mn inhabitants and rendering huge swaths of the enclave uninhabitable.

Yaron said the central bank estimated that — assuming the economic impact of the war continued to be felt throughout 2024, and fighting was mainly concentrated on Gaza — the cost to Israel’s state budget would reach about Shk210bn.

He added that while the economy had begun to recover from the initial shock of the war — which forced the closure of businesses in the area around Gaza and on Israel’s northern border with Lebanon — the process was “incomplete”, particularly in the tourism sector.

However, the central bank maintained its forecast of national output to grow by 2 per cent in 2024 and 5 per cent in 2025, while unemployment would fall from 5.3 per cent, on average, in 2024, to 3.2 per cent in 2025.

The Bank of Israel expects inflation, which was 3.3 per cent in November, to ease to 2.4 per cent by the end of this year, bringing it back within its target range of 1 per cent to 3 per cent.

“The Israeli economy is fundamentally robust and it has the characteristics needed to prosper even while waging the war. However, this does not occur on its own,” said Yaron.

“As in many other cases in life, what gets pushed off now ultimately ends up costing much more and requires greater effort and pain later on. Therefore, what is needed now is a responsible budget that requires adjustments and decisions that are not easy regarding priorities.”

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