The Governor warns: 'Unrestrained defense budget will lead to an increase in deficit and inflation'

Bank of Israel Governor Prof. Amir Yaron issued a stern warning to the incoming government regarding future fiscal management, emphasizing that navigating fiscal challenges will be the most critical task facing the next coalition.

"Uncertainty regarding the defense budget poses a significant risk," said Prof. Yaron. "The more the defense budget grows without budget adjustments, the more the deficit and inflation will increase."

"We will accompany any incoming government and prepare a document with recommendations," he added. "A continuation budget will not allow for structural reforms." According to him, "The economy continues to demonstrate resilience, inflation has moderated and is expected to remain at its current level in the coming months thanks to cautious monetary policy. However, uncertainty remains high and risks are accumulating, including energy prices and the renewal of demand."

"The importance of maintaining fiscal resilience has become clearer, as proven during the COVID-19 crisis and the war in 2023," added Prof. Yaron. "Rising global yields require maintaining low debt-to-GDP ratios. Many governors around the world would like to be in our position. However, the central challenge of economic policy includes reducing debt-to-GDP, funding the public debt, and investing in infrastructure."

The Governor noted that he does not rule out the possibility of tax hikes, explaining: "Achieving the economy's goals will require a combination of spending cuts and expanding the tax base by increasing employment. This will prevent pressure to raise taxes."

Prof. Yaron stressed that the decision to keep interest rates steady was made strictly independently of the political calendar and without political pressure. "We operate solely based on our data, regardless of events. This is the right decision, especially given three consecutive rate cuts and global risks."

The central bank's Monetary Committee ultimately opted to hold the benchmark interest rate unchanged at 3.25% per annum. The hold aligned with the overwhelming majority of market forecasts, several of which were reported in Maariv.

The rate pause underscores ongoing concerns over global price pressures and broader macroeconomic uncertainty - even as the September Consumer Price Index (CPI) reading came in at 0.5% and annual inflation remains on a downward trajectory. The hold delivers disappointing news to prime-rate mortgage holders, whose monthly repayments had previously climbed despite recent policy easing.

Meanwhile, the Bank of Israel Research Department's updated macroeconomic outlook offered a more optimistic assessment of long-term economic prospects, projecting the benchmark interest rate to settle at 3.0% in a year’s time. Under the forecast, GDP growth is set to reach 5.6% in 2026 (including offshore production) before accelerating to 7.5% in 2027, with inflation moderating to 2.1% and the budget deficit narrowing to 4.6% of GDP in 2027.

Adv. Roee Cohen, President of Lahav (The Israel Chamber of Independent Organizations and Businesses), criticized the central bank's stance: "The decision conveys hesitation and a zero-risk policy that does not fit current economic and business realities."

Dubi Amitai, Chairman of the Presidium of the Israeli Business Sector, echoed the disappointment: "The decision is a missed opportunity to ease the burden on businesses and households and to give a boost to economic growth."

Moshe Yidgar, CEO of Captain Credit, added: "The Bank of Israel's decision to leave the interest rate unchanged comes at a time when credit costs still constitute a significant burden for many households, especially for mortgage holders and borrowers who took out loans during periods of high interest rates."

Gilad Oren, CEO of the Matzlawi Construction Company, noted: "The Governor's decision is a missed opportunity to give a significant boost to the economy and the housing market. Precisely at a time when inflation is moderating and the economy needs growth engines, there is no justification for continuing a restrictive monetary policy."