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5 Iyar 5763 - May 7, 2003 | Mordecai Plaut, director Published Weekly
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NEWS
Dollar Falls Below NIS 4.5 Against Shekel
by M Plaut

The dollar continued its fall against the shekel early Monday, falling to NIS 4.47 in interbank trading. Altogether, in the past two months the shekel has appreciated 9.2 percent against the dollar. These rapid fluctuations are often a symptom of an economy in transition. Some observers say that it may fall as low as NIS 4.4.

The shekel appreciation, although it lowers the Israeli inflation rate, may hurt growth since a strong shekel makes Israeli goods relatively higher priced compared to foreign goods. Israeli exporters must cut prices to stay competitive, lowering profit margins. Exporters are a major engine of growth in Israel.

The higher shekel makes Israel relatively less attractive to tourists. With the end of the Iraq war and the lessening of Palestinian terror, some Israeli businesses are hoping for modest increases in tourism.

Exports, especially high-tech, began improving in the first quarter of 2003, at least in part due to the shekel depreciation in 2002, even though the Iraq War had a generally depressing effect on business throughout the world.

The shekel appreciated 0.77 percent against the dollar to NIS 4.486 on Friday, the lowest rate since December 2001. The shekel has appreciated 5 percent against the dollar since April 1, after appreciating 4.2 percent in March.

The sharp appreciation suggests that the economy may be reverting to the major exchange rate fluctuations that have hurt the country's banking and financial systems in the past. Similar fluctuations were experienced during the 1983 bank share crisis and 1993 financial bubble. The volatility increases uncertainty and makes it difficult to plan rationally.

Some economists said the shekel appreciation was the result of irrational herd behavior, which was projected from the foreign currency market onto the stock market. Since the foreign currency market is small with few players, a very small number of buyers or sellers can distort the exchange rate.

Many economists were surprised by the moves, saying that "economic reasons" were insufficient to justify the shekel's appreciation.

The interest rate was cut by 0.3 percent last week to 8.4 percent, a month after rates were cut by 0.2 percent. The lowering of the interest rate should weaken the shekel. However, the Israeli interest rate remains much higher than rates around the world, even after the two cuts. This tends to raise the value of the shekel. The dollar has also weakened seriously in world markets. It fell sharply against the euro to over $1.20 per euro.

The sharp appreciation in the dollar against the shekel has also caused Israel's inflation rate to drop from 7 percent to 1 percent per year. Much of last year's high inflation was due to the rise in the value of the dollar. This would also strengthen the shekel.

Observers also note that Israel's economic and psychological climate has improved following the approval of the US loan guarantees, the first Knesset vote on the economic plan, signs of diplomatic talks with Syria, and indications that the US will enforce an Israeli-Palestinian settlement. The removal of the threat from Iraq also means that there is now no visible military threat to Israel from the east.

Some economists worry that if the shekel appreciates too much, it will overcorrect later, undermining stability and requiring corrective measures, including raising the interest rate. The Bank of Israel may slow its pace of interest rate cuts in order to avoid repeating the mistakes of 1993.

The Israeli stock exchange in Tel Aviv (TASE) rose sharply on Sunday. The main index passed 400 points, after falling to the low 300s.

 

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