Emerging

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18  
EcoEmerging// 1 quarter 2019  
economic-research.bnpparibas.com  
Israel  
Still on a solid footing  
The strength of internal demand remains the main engine of economic activity, which is growing at over 3% per year. This is feeding  
through into a resurgence of inflationary pressures, although these have been very modest so far. The budget deficit is growing but  
it remains within the limits set by the government. International trade is seeing some significant shifts. A loss of momentum in  
goods exports has reduced Israeli products’ market share; at the same time exports of hi-tech services have become the real  
driving force behind the country’s international trade. Changes in oil prices continue to be a key determinant of the current account  
balance, despite the exploitation of gas resources.  
Enviable economic fundamentals  
1- Forecasts  
Economic growth slowed slightly in 2018 but remains strong. The  
first official estimates put GDP growth at 3.2% in real terms, from  
2017 2018e 2019e 2020e  
Real GDP growth (%)  
3.3  
3.2  
3.4  
3.5  
3
.3% in 2017. Private consumption and productive investment were  
the two main engines of growth. According to the Bank of Israel  
BoI), the economy is close to full employment, which is putting  
Inflation (CPI, year average, %)  
Cent. Gov. balance / GDP (%)  
Cent. Gov. debt / GDP (%)  
0.3  
0.8  
1.3  
1.8  
-1.9  
-2.9  
-3.3  
-3.0  
(
59  
61  
61  
61  
pressure on supply and explains the strong growth in imports and  
the negative contribution of international trade to growth. This is  
unlikely to change in 2019, despite accelerating growth of exports of  
goods and services. In 2019, private consumption is likely to remain  
strong against a background of pressures in the labour market. The  
unemployment rate remains low (4.1% in November 2018) and the  
job vacancy rate remains near record highs. As a result, we are  
seeing relatively strong growth in real wages (2.5% y/y in October  
Current account balance / GDP (%)  
External debt / GDP (%)  
2.8  
2.0  
2.2  
2.5  
25  
25  
24  
24  
Forex reserves (USD bn)  
113  
115  
118  
122  
Forex reserves, in months of imports  
Exchange rate USDILS (year end)  
12  
13  
12  
12  
3.5  
3.7  
3.6  
3.5  
e: BNP Paribas Group Economic Research estimates and forecasts  
2018).  
2
- Economic growth and inflation  
Consumer price inflation has accelerated, but remains well under  
control (0.8% on average over 2018). After the deflationary periods  
of 2015 and 2016 (-0.6% in both years), prices were more or less  
stable in 2017 (+0.3%), thanks in particular to the strength of the  
shekel. Full employment and continued wage growth are likely to  
feed through into inflationary pressure, but this will remain modest  
due to the expected further gains by the shekel (inflation  
expectations remain in a range between 1.3% and 1.6%). Against  
this background, in December the BoI raised its policy rates to  
Real GDP CPI Inflation  
y/y, %  
7
6
5
4
3
2
1
0
0.25%, the first increase since February 2015. This normalisation of  
monetary policy, which took the market somewhat by surprise, was  
largely preventive and reflects both more inflationary domestic  
conditions and external uncertainties linked to oil prices and  
monetary policy in the US and Europe. This said, both actual and  
expected levels of inflation remain close to the lower end of the  
BoI’s target range (1% to 3%). The tightening of monetary policy will  
probably therefore remain very gradual.  
-
1
-
2
2012 2013 2014 2014 2015 2016 2016 2017 2018  
Sources: Central Bureau of Statistics, BNP Paribas  
planned parliamentary elections in April look unlikely to help the  
process of controlling the deficit. As a result, we expect it to grow  
further, reaching 3.3% of GDP in 2019. Government debt is likely to  
remain at slightly above 61% of GDP.  
The budget deficit widened significantly over 2018, and is estimated  
to have reached 2.9% of GDP, from 1.9% in 2017, but remained in  
line with the government’s ceiling of 2.9% of GDP. The increase in  
the deficit stemmed from bigger than expected increases in  
expenditure, notably in the military sector. It was also explained by  
an absence of exceptional income. 2017 saw significant sales of  
Israeli assets to foreign investors as well as exceptional levels of  
dividend tax receipts. The current political uncertainty and the  
Overall, therefore, economic prospects still look good despite a  
slight deterioration. As is often the case in this country, a volatile  
political climate is likely to have only a marginal impact on the  
economy.  
st  
19  
EcoEmerging// 1 quarter 2019  
economic-research.bnpparibas.com  
A loss of competitiveness has had a marginal effect  
on the current account  
3
- Hi-tech exports  
Goods  Services  
External accounts have seen a significant shift over the past few  
years. The first notable change has been the deterioration of the  
core trade balance ; the trade deficit hit a record level in 2018 at  
around USD 25 bn, or 6.9% of GDP (from 4.3% of GDP in 2017).  
Exports of goods are sluggish, whilst imports have followed the  
rising trend in domestic demand. It is noteworthy that export growth  
by volume has been negative since 2012. According to IMF  
estimates, exports fell by an average of 0.4% per year between  
USD bn  
1
40  
35  
30  
25  
20  
15  
10  
5
0
2
013 and 2017. Since its peak in 2000, Israel’s export market share  
in global trade has fallen steadily (from a high of 0.46% to 0.30% in  
018). The increase in the real effective exchange rate (REER)  
2
since 2012 is probably the main explanation for this loss of  
competitiveness for exported goods. Relative to its long-term trend,  
the REER is currently overvalued by more than 10%.  
2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018e  
2
Sources : Central Bureau of Statistics, BNP Paribas  
Trends in goods exports (in value) according to their technological  
content do not show any clear trend. Exports of low-tech goods (7%  
of the total) have been relatively stable, whilst medium and hi-tech  
goods (53% and 40% of the total respectively) have been fairly  
volatile, with no particularly clear trend emerging. It seems however  
that the fall in hi-tech exports in 2018 (-6% in value y/y) was due  
primarily to a drop in exports of pharmaceuticals. The split of goods  
exports by destination has been relatively stable since 2012. Europe  
and the USA remain Israel’s main export markets (35% and 30% of  
the total respectively), followed by Asia (25%).  
Given the stability in the balance of revenue (-USD 3.7 bn in 2017)  
and transfers (+USD 7.8 bn), the current account surplus remained  
significant in 2018, at 2% of GDP, even though it contracted slightly  
in comparison with the two previous years due to higher oil prices.  
In 2019 the current account surplus is likely to increase slightly, to  
2.2% of GDP.  
In the short term the main threats to external balances are rising oil  
prices and security conditions in the country, which could affect  
tourism. Over the medium term, the competitiveness of services  
exports and the potential for gas exports (limited for the time being)  
could help shore up export revenues. Lastly, the exchange rate will  
remain a key determinant of external accounts. Although the BoI  
has a number of tools at its disposal to influence exchange rates  
(interest rates, foreign currency reserves) they continue to be  
determined largely by structural changes in the Israeli economy  
which, over and above the current account surplus, continues to  
attract substantial capital inflows.  
In contrast to exports, imports by volume rose by an average of  
3.2% between 2012 and 2017, driven by private consumption and  
investment. The exploitation of substantial gas reserves has not yet  
reduced the country’s dependence on imported hydrocarbons to any  
significant extent. Thus, for the time being, oil products continue to  
dominate energy imports and drive the volatility of the trade balance.  
In 2018, the cost of imported energy was probably more than  
USD 10 bn, an increase of 35% on 2017. Overall, the trade deficit is  
likely to persist over the medium term.  
The strength of services exports contrasts with the performance of  
goods and reflects a change in the structure of international trade. In  
2017, Israel had a record surplus on trade in services at more than  
USD 15 bn (11.2% of GDP). Since 2010, exports of high-tech  
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services have transformed the structure of the current account.  
Such exports generated USD 33.6 bn in 2017, meaning the figure  
has doubled in less than a decade. In net terms, hi-tech services  
generated a surplus of more than USD 20 bn in 2017, compared to  
USD 7.5 bn in 2010.  
Tourism has also recovered well since 2016, but its net contribution  
to trade in services has been negative for the past three years. The  
number of visitors increased by 25% in 2017 and 14% in 2018.  
However, given the sharp rise in tourist travel by Israelis over the  
same period, the net balance on tourism was negative to the tune of  
nearly USD 1 bn in 2017.  
1
Excluding ships, planes and diamonds.  
Based on consumer price inflation.  
Notably in sectors such as communications, security, medicine and computing.  
2
3
QUI SOMMES-NOUS ? Trois équipes d'économistes (économies OCDE, économies émergentes et risque pays, économie bancaire) forment la Direction des Etudes Economiques de BNP Paribas.
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