• Simhon says Bank of Israel manages exchange rate ‘too heavily’
  • Level of purchases blocking needed changes in economy: adviser

Israeli Prime Minister Benjamin Netanyahu’s top economic adviser says the central bank should rethink its currency intervention program.

Reserves that totaled $35.2 billion in October 2008, around the start of the global financial crisis, now top $96 billion under a policy designed by former Bank of Israel Governor Stanley Fischer, in part to weaken the shekel and prop up exporting companies. With Israeli unemployment now at record lows, Netanyahu adviser Avi Simhon says it’s time for unproductive exporters who’ve been protected by the weaker currency to become more efficient.

“I do not advocate a complete halt to currency purchases,” said Simhon, an economics professor at the Hebrew University who was appointed last December to head the National Economic Council. “I’m advocating a slow, gradual adjustment. Wherever is needed, we should help companies become more competitive, either by subsidizing their R&D or by helping them with training, which is what is done to a much higher extent by OECD countries.”

The shekel has strengthened 14 percent against the dollar in the past decade, and the Bank of Israel reasons that its intervention moderates the impact of a strong currency. It says foreign currency purchases also help the bank boost inflation, which is currently below the government’s 1 percent to 3 percent target.

Global Policy

“It’s not as if we prevented the strengthening or caused a weakening,” Bank of Israel Governor Karnit Flug said of the shekel at a news conference Monday. “We moderated, to a certain extent, the strengthening of the currency, which is being caused, among many factors, by very accommodative monetary policy around the world.”

Exporters have been a major driver of Israel’s economic growth. Their contribution to gross domestic product reached 41 percent in 2005 but has since declined to 31 percent, according to Bank of Israel figures. Sales abroad in the first quarter were especially depressed, contracting an annualized 12.9 percent, excluding diamonds and startups.

Israel’s strong economy has eroded its relative advantage in producing certain goods. The country has posted a current-account surplus in almost every quarter since 2003, and foreign currency reserves could cover about a year of imports. Economists say this strong external position strengthens the currency, making it more costly to manufacture low-tech products that face competition from countries such as China and India.

Consumption Boost

At the same time, consumption has grown as employment and wages have increased. A stronger shekel would reduce importers’ production costs. That, in turn, could push down prices, boosting consumption and creating job growth in the services sector. A bigger services sector would benefit the economy because those industries are generally more tax-intensive, potentially boosting revenue and allowing the government to reduce tax rates over time, Simhon said.

“The Bank of Israel is managing the exchange rate too heavily,” Simhon said. “I understand that from time to time it has to intervene against abrupt changes in the currency. But in the long run, it has to let the market determine the exchange rate in order to induce gradual structural changes in the economy.”

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