Israel CPI Bonds Rise to Record on Higher Tax Bets; Shekel Gains

Israel’s five-year consumer price- linked bonds rose, pushing yields to the lowest level since they were issued in March, on bets inflation may accelerate as the government plans to raise taxes to fund a widening deficit.

The yield on the 1 percent bonds due May 2017 fell nine basis points, or 0.09 percentage point, to 0.404 percent at 12:28 p.m. in Tel Aviv. The two-year break-even rate, the yield difference between inflation-linked bonds and fixed-rate government bonds of similar maturity, rose 4 basis points to 222, implying an average annual inflation rate of 2.22 percent.

Israel’s Cabinet will consider next week a proposal to increase value-added tax by 1 percentage point and cut this year’s budget by as much as 900 million shekels ($220 million), a Finance Ministry official said today. Prime Minister Benjamin Netanyahu’s Cabinet will also look to raise taxes on cigarettes and alcoholic beverages, the official said.

“Prices are set to rise as the government is likely to increase the value-added tax,” said Ori Greenfeld, head of the macroeconomic research department at Psagot Investment House Ltd. in Tel Aviv. “This environment gives support for inflation-linked bonds.”

Deficit Target

A government committee yesterday approved increasing the 2013 deficit target to 3 percent of gross domestic product, from the originally planned 1.5 percent.

The yield on the benchmark 5.5 percent bonds due January 2022 decrease three basis points to 4.05 percent. The Organization for Economic Cooperation and Development on May 22 warned Israel against a “substantial” overshooting of deficit targets and recommended raising value-added tax to help pay for “positive structural reforms.”

One-year interest-rate swaps, an indicator of investor expectations for rates over the period, fell two basis points, to 2 percent. The Bank of Israel this week kept its benchmark interest rate unchanged at 2.25 percent and warned that the government has yet to show how it will meet its deficit target.

The shekel strengthened for the first time since July 19, adding 0.2 percent to 4.0620 a dollar. The Tel-Bond 40 index of corporate bonds rose 0.1 percent to 264.29.

To contact the reporter on this story: Sharon Wrobel in Tel Aviv at swrobel4@bloomberg.net

To contact the editor responsible for this story: Claudia Maedler at cmaedler@bloomberg.net