Israeli Banks on Cusp of 'Revolution' as State Plans Overhaul

  • Bank of Israel says it's worried about financial stability
  • Kahlon says stability shouldn't come at consumers' expense

Big changes are in store for Israel’s tightly regulated banking industry even as the Bank of Israel and Finance Ministry squabble over how to put them into effect.

Finance Minister Moshe Kahlon, who became a political force by driving down telecom prices, wants to slash banking costs by adding new credit providers. Bank of Israel Governor Karnit Flug agrees new lending avenues are needed but said she would oppose measures “liable to sow the seeds of the next crisis.”

Whatever compromises they may agree to, the changes will alter the landscape of a banking system whose controls supporters credit with helping Israel to weather the 2008 global crisis. They’ve already reached common ground while sitting on a government panel that’s recommended ways to expand banking competition, including requiring the top two lenders to sell credit card operations and letting institutional investors loan more money to households and small businesses.

“There is a revolution on the way,” Ruth Plato-Shinar, director at the Center for Banking Law at the Netanya Academic College, who is writing a book on banking regulation, said in an interview. “We will see a different capital market system in which the role of banks in the retail credit market will be severely diminished.”

The Bank of Israel and Finance Ministry are divided over three major points:

  • The central bank wants to let the top two lenders, Bank Hapoalim Ltd. and Bank Leumi Le-Israel Ltd., offer new cards immediately after they sell their current ones so the spun-off companies won’t continue to dominate the market. The ministry says the spinoffs need time to gain market share without competing with the banks.

  • The ministry wants a separate regulator to oversee non-bank lenders. The central bank wants supervision over all lenders whose collapse could jeopardize the banking system. 

  • The ministry wants institutional investors to take a larger role in extending credit to consumers and small businesses. One recommendation is to make it easier to borrow against pensions, an option the central bank says could jeopardize some people’s savings.


“Competition is good for the economy, so a reform that lowers credit margins and helps consumers and small businesses should be encouraged,” said Rafi Melnick, a former Bank of Israel policy maker now lecturing at the Interdisciplinary Center Herzliya. “But when you’re talking about financial markets and the banking system, we should be concerned about a shock that hits the system too quickly. It needs to be prudent and gradual.”

The changes are going to eat into banks’ profits, which aren’t high compared with their global peers, the Bank of Israel has said. More competition will probably force them to slash costs inflated by “inefficient banking systems, fat salaries and large workforces,” said Michael Sarel, a former Finance Ministry chief economist who now heads the Kohelet Economic Forum, a research center. 

Last month the central bank told the banks to submit new efficiency plans to ensure they will remain profitable as fees are cut.

The Tel Aviv banking index has declined by about 5 percent since the panel was appointed in June, about half as much as the benchmark TA-25 index.

Political Considerations

Kahlon’s new Kulanu party won 10 seats in parliament last year on his pledge to cut living costs. A major banking reform could burnish his image, so he will fight to make sure the reform is passed, said Menachem Klein, a political science professor at Bar-Ilan University.

“The Israeli public dislikes the banks,” Klein said. “It’s very clear that this is a reform he needs politically.”

The high cost of credit has fed the public’s resentment. Bank credit margins on small businesses and households are significantly higher than that on large corporations, which already raise debt from institutional investors under an earlier reform. The committee’s proposals would let non-bank lenders tap a small-business and household credit market worth about 300 billion shekels ($76 billion), excluding mortgages, according to Dror Strum, a former antitrust commissioner who headed the government panel.

“We know the margins are quite high,” central bank Deputy Governor Nadine Baudot-Trajtenberg, a member of the panel, said in an interview. “A more competitive market should reduce margins for individuals.”

The creation of a registry to rate individuals’ credit will allow non-banks to better assess the risks of lending to consumers, she said.

Market Lock

Micah Avni, chief executive officer of Peninsula Group Ltd., a non-bank lender, said the central bank’s strict regulations have helped to keep the banking industry in just a few hands.

“There hasn’t been a new bank in this country in 30 years,” he said. “The banks are coddled by the central bank and protected from true competition.”

The new banking supervisor Hedva Ber, a former Bank Leumi executive, has shown more flexibility. She recently announced lower capital requirements for non-banking credit institutions and expressed openness to letting spun-off credit card companies become banks.

The credit proposals are also meant to address as much as 40 billion shekels of outstanding debt borrowed on the black market because bank credit wasn’t available, Strum said.

“What we hope to accomplish with our reform is not to expand the amount of credit in the economy, but simply cut down the overall expenditures on credit by lowering the price, and to bring much of the black-market borrowing back into the ordinary financial system,” Strum said, predicting the new banking regulations would be in place by April. “That will make the entire economy safer and push down credit margins.”

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