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Israel Bonds Drop as Inflation May Delay Rate Cut; Shekel Gains

Israel’s benchmark bonds fell, pushing yields to a seven-week high, and the shekel rose on bets the central bank will keep interest rates steady this month after inflation and economic growth accelerated.

The yield on the 5.5 percent bonds maturing in January 2022 rose one basis point, or 0.01 percentage point, to 4.29 percent at the 4:30 p.m. close in Tel Aviv, the highest since July 1. The yield gained 12 basis points this week. Inflation erodes the value of fixed-income payments over time. The shekel gained 0.3 percent to 4.0353 a dollar at 4:50 p.m. in Tel Aviv.

The Bank of Israel will probably hold the key policy rate at 2.25 percent on Aug. 27, according to seven out of 13 economists surveyed by Bloomberg. Economic growth quickened to an annualized 3.2 percent in the second quarter from a revised 2.8 percent in the first quarter as exports and consumption rose, the Central Bureau of Statistics said today. Inflation climbed to 1.4 percent in July from 1 percent a month earlier as housing costs and taxes increased, the bureau said yesterday.

“The Bank of Israel is likely to be concerned about the latest revival of the real estate market as well as rising inflation expectations and may postpone an interest-rate cut to later this year,” said Modi Shafrir, chief economist at Tel Aviv-based I.L.S. Brokers Ltd. “The growth data, which looks better than anticipated, is also adding to the likelihood that borrowing costs will remain unchanged this month.”

Nine economists were expecting growth of 2.5 percent, according to the median forecast on Bloomberg.

Higher Taxes

The central bank reduced interest rates twice this year, citing weakness in Europe’s economy. Six economists are forecasting another 25 basis-point reduction at this month’s rate-setting meeting. One-year interest rate swaps, an indicator of investor expectations for the benchmark rate in the period, gained one basis point to 2.15 percent. The swaps have increased 19 basis points this month.

Parliament this month approved raising value-added and income taxes, while the Finance Ministry in July increased taxes on beer and cigarettes. Food costs, including dairy, poultry and egg prices, are expected to climb by year-end, Israel’s Ministry of Agriculture said yesterday.

The two-year break-even rate, the yield difference between the inflation-linked bond and fixed-rate government bonds of similar maturity, rose seven basis points to 262, implying an average annual inflation rate of 2.62 percent.

The Tel Aviv Bond 40 Index, which measures inflation-linked and fixed-rate corporate bonds, rose 0.6 percent, the most since July 19, to 266.55.

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