Central Bank official: Israeli deflation not a big concern, aids consumers

As demand started to weaken, consumers prices slipped 0.3 percent in September from a year earlier

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The recent shift to slight deflation in Israel is not overly worrisome since it does not fully stem from weak consumer demand as in some European countries, the central bank's deputy governor, Nadine Baudot-Trajtenberg, said on Tuesday.

With demand starting to weaken, consumer prices slipped 0.3 percent in September from a year earlier, the first monthly decline since 2007, and well below the government's target of 1-3 percent inflation.

Baudot-Trajtenberg said the drop in prices was partly due to falling prices for imports and could even be beneficial to some extent as it would reduce the cost of living for Israelis.

"The low level of inflation slightly differs from the deflation we are seeing in parts of Europe. Part of the low level of inflation is due to the fact that we are importing lower prices from abroad - oil, food and commodities prices - and this does not have a negative impact on the economy," Baudot-Trajtenberg told Reuters in an interview.

The European Central Bank and some other European central banks are cutting interest rates to stave off deflation, which they worry would encourage consumers to delay buying goods as prices fall and make it more costly to service debt.

The Bank of Israel cut its main interest rate to a record low 0.25 percent in August but left rates on hold in September and at its latest meeting on Monday, confident that its economy does not face a long-term deflationary spiral.

Israelis have been protesting against the high cost of living, putting pressure on companies and retailers to reduce prices and prompting the government to consider action, so some decline in prices was positive, the deputy governor said.

"This is something welcome and positive for the Israeli economy," Baudot-Trajtenberg said. "It's not just the low inflation. Part of the reduction of prices is a very good thing in the economy ... Not all deflation is due to poor or depressed demand.

"European countries seeing deflation are very much a reflection of the very low level of demand in the economy and that's not quite what we are seeing in our economy," she said. "Deflation is partly explained by supply shocks and not demand shocks."

Looking forward, Baudot-Trajtenberg said "we are not seeing deflation in the coming year."

Judging by bond yields, inflation in a year's time is forecast at 0.9 percent, rising partly on a 10 percent depreciation of the shekel against the dollar since July.

The shekel appreciated to 3.743 per dollar from 3.765.

Canadian-born Baudot-Trajtenberg, who became deputy governor in March, said the weaker shekel was a factor in holding rates for a second straight month, given that it has a tendency to boost inflation in a pass-through effect.

Growth outlook

Another reason for leaving rates unchanged was fewer data releases because of a string of Jewish holidays in recent weeks and the difficulty in interpreting economic data in the wake of Israel's conflict in Gaza over the summer.

"We looked at all the indicators and assessed where we are and where we are going and it didn't look like we needed an additional stimulus right now," Baudot-Trajtenberg said of last week's rate decision.

Third-quarter economic growth - due out on Nov. 16 - looks to be zero or slightly negative, she said, because the 50-day Gaza conflict kept many consumers at home. Analysts believe the Bank of Israel can do little now to revive consumer demand.

The central bank foresees economic growth of 2.3 percent this year and 3 percent in 2015.

"What we are seeing is fairly moderate, non-exciting but not depressing levels of economic activity," Baudot-Trajtenberg said.

Unlike the aftermath of Israel's war in Lebanon in 2006, when the economy bounced back quickly amid a strong global economy, the current recovery will probably be more moderate, she said.

Bank of Israel Governor Karnit Flug, in an Oct. 10 interview with Reuters, appeared open to reducing rates further or using unconventional policy tools to boost inflation.

Baudot-Trajtenberg said until now the environment did not justify using unconventional tools, such as buying bonds. But she said if the situation changes, the bank will use tools it deems appropriate.

"We still have very expansionary monetary policy," she said.

The decline in interest rates, though, has led to gains in stock, bonds, real estate and other asset prices.

"Asset prices are very high in Israel," Baudot-Trajtenberg said, noting that is a trade-off in easing monetary policy.

The bank has cut rates by a cumulative 300 basis points since September 2011.