Bank of Israel reduces benchmark rate by 25 bps to 3% for October

By Angela McDaniels

Tacoma, Wash., Sept. 26 - The Bank of Israel reduced its benchmark interest rate by 25 basis points to 3% for October.

The bank said the decision to reduce the interest rate is based mainly on the negative turnaround in the global economy. The bank also lowered its growth forecast for 2012 to 3.2% from 3.9%.

The International Monetary Fund reduced its forecast of U.S. growth in 2012 to 1.8% from 2.7% and growth in the euro zone to 1.1% from 1.7%, the Bank of Israel noted.

The Israeli consumer price index increased 0.5% in August. The cumulative change in the last six monthly CPI readings, seasonally adjusted, is consistent with the bank's target inflation range. However, inflation over the previous 12 months, 3.4%, remains above the target range of 1% to 3% a year.

The bank noted the strength of the Israeli economy - which is reflected in the high levels of growth and employment, the high level of foreign currency reserves, the downward trend in the government debt burden and Israel's raised credit rating - and said the cut in the interest rate is intended to minimize the negative effect on Israel's economy of the slowdown in activity and the increased level of uncertainty in the global economy.

The bank last changed the interest rate on May 23, when it increased it by 25 bps to 3.25% for June.

Bond yields steepen

The yield curve of unindexed government bonds has steepened, the bank said. From Aug. 28 to Monday, yields dropped by 14 basis points in maturities of up to one year and increased by up to 8 bps in other maturities. Yields on CPI-indexed government bonds rose by up to 8 bps for most maturities.

The yield gap between Israeli 10-year government notes and 10-year U.S. Treasury notes continued to widen and stood at 292 bps at the end of the period, up from 262 bps at the beginning of the period.

The bank said withdrawals from mutual funds specializing in corporate bonds continued this month, although at a slower pace than that in the previous month. Since the beginning of September, withdrawals totaled NIS 2.2 billion, compared with withdrawals of NIS 4.6 billion in August.

Over the period as a whole, Israel's sovereign risk premium as measured by the five-year credit default swap spread continued to rise. It widened to 218 bps from 166 bps.

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