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Political Mess Has Israel’s Central Bank Governor Warning About Deficit

Political Mess Has Israel’s Central Bank Head Warning on Deficit

(Bloomberg) -- Bank of Israel Governor Amir Yaron warned officials not to be complacent about the widening budget deficit, and urged them to take swift action once a new government is formed after an unexpected repeat election.

“So far the financial markets have been unfazed” by the uncertainty that’s been created, “but that doesn’t mean it isn’t harmful,” Yaron told the Israel Economic Association on Thursday. “It’s incumbent upon all policy makers and public officials to act responsibly, and to do all they can to restore certainty and fiscal responsibility soon after the election.”

Prime Minister Benjamin Netanyahu’s failure to build a coalition government and decision to disband parliament put the country in campaign mode, derailing chances of imminent steps to narrow a budget deficit that’s grown to multiyear highs. And by at least one account, the new election will tack on additional spending of some 475 million shekels ($132 million).

Data released Wednesday showed the government 12-month trailing shortfall in May holding steady at 3.8% of gross domestic product, despite an influx of tax payments that had been delayed a month by the Passover holiday. That’s far above the government’s target of 2.9%, and ties last month for the highest level since at least December 2014.

The deterioration is causing Israel’s fiscal situation to worsen at a time when it could be taking advantage of strong growth to pare the deficit. If fiscal discipline isn’t restored, the country’s credit rating could suffer, raising borrowing costs and curtailing expansion.

A mixture of tax cuts and spending on programs like housing and disability benefits have fed the budget shortfall.

Approaching 4%

Some economists now expect the deficit to graze 4% this year, above the Finance Ministry’s January forecast of 3.6%. The growing gap helped push Israel’s debt-to-GDP ratio higher in 2018 for the first time in nine years.

The repeat election on Sept. 17 has deferred for at least four months any significant effort to fix things at a time when Israel’s strong domestic growth is still bucking a darkening global outlook.

“Because there’s no new government, there won’t be a new budget, which means you can’t really do anything to stifle the situation,” said Roi Feder, managing director of the Tel Aviv office for consulting firm APCO Worldwide. “I would not want to be the minister of finance in the next government.”


Longstanding Warning

The Bank of Israel began warning about the deficit under the previous government, and has urged officials to cut spending and boost revenue while the economy continues to thrive, rather than be forced into a situation of taking austerity measures in a downturn.

Through May, this year’s deficit stood at 15.1 billion shekels, compared to 2.3 billion shekels in the same period last year, according to Finance Ministry data. The ministry declined to comment further.

“The snap election re-run has come at a time when corrective fiscal measures are needed,” Credit Suisse strategists wrote in a note on Wednesday, predicting the cabinet would fail to pass a 2020 budget before the end of this year.

Political Limbo

But as Yaron noted, financial markets haven’t responded with much concern.

Israeli government bonds have rallied since parliament dissolved in part because the political limbo has postponed any rise in non-election related spending, according to Credit Suisse. And the country’s sovereign debt will continue to outperform this year, thanks to lower inflation and the likelihood that interest rates will hold, wrote Brown Brothers Harriman & Co.’s head of currency strategy, Win Thin.

With another round of voting and coalition negotiations occupying the country through most of the rest of 2019, the focus is now turning to 2020 -- when the government’s deficit target is even lower at 2.5% of GDP.

Credit rating companies are confident the government will make the necessary adjustments, but Bank Hapoalim economists think that the government’s current 2020 target is “ambitious.” They predict a 3% goal -- and even that would require spending to be pared by more than 10 billion shekels.

“It’ll be difficult to cut such a sum,” they added.

To contact the reporter on this story: Ivan Levingston in Tel Aviv at ilevingston@bloomberg.net

To contact the editors responsible for this story: Lin Noueihed at lnoueihed@bloomberg.net, Amy Teibel, Mark Williams

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