Morgan Stanley sees economy growing despite US slowdown
The investment bank sees further interest rate hikes as inflation risks are on the upside.
Globes correspondent 2 Oct 07 09:51
Morgan Stanley has published an updated macroeconomic review of Israel in which it adds much greater weight to the housing crisis in the US, although it believes Israel's economy is robust enough to weather the storm.
"The future of the US economy will influence the future of the Israeli economy," notes Morgan Stanley analyst Serhan Cevik. "Some say this is the worst crisis since the Great Depression, and that the US economy now faces a downward spiral as credit troubles lead to a deeper correction in the housing market. That is not what our US economics team thinks, albeit it does expect slower real GDP growth of 2% over the next year and a half."
Outlining how Israel will be affected by this, Cevik continues, "The question is whether monetary easing is enough to deal with the credit crisis and what appears to be the unraveling of a speculative property boom, and thereby prevent the US economy from sliding into an outright recession. Only time will tell, but the dollar’s weakness is an obvious consequence in the meantime. And that matters a lot to the Israeli economy, with exports to the US accounting for 40% of the total.
"We expect Israel to absorb the shock of slower growth in the US and keep growing at a robust pace - 5.4% in 2007 and 4.6% next year - along with the rest of the world," continues Cevik. "Even if the global economy slows more than what we envisage, the downside risks to the Israeli economy should be manageable, in our view, thanks to the strength of domestic demand. demand-led growth to gain more traction. On our estimates, the “neutral” level of interest rates in Israel is around 4.75-5% and thus the central bank still provides stimuli by keeping short-term interest rates well below that threshold."
As for inflation in Israel itself, Cevik says, "Inflation excluding the currency pass-through effect is running above the central bank’s target. The consumer price index posted a 2.8% increase in the first eight months of this year, pushing the year-on-year inflation rate from -1.3% in May to 1% in August. On our estimates, the annual inflation rate will keep rising to 1.7% in September and 2.8% by the end of this year, even assuming a stronger exchange rate. In other words, inflation pressures arising from strong growth in domestic demand will have a more prominent role in future."
While he believes that domestic demand is capable of acting as a counterweight to inflationary pressures, Cevik believes that a tight monetary discipline will have to be maintained to avoid losing sight of Israel's inflation target. "Monetary tightening in Israel is not over yet, in our opinion. The global slowdown may have some disinflationary effects, but higher energy and food prices will keep pushing inflation higher in Israel. The latest figures show that the Israeli economy is growing at an elevated rate with no sign of immediate slowdown. That is why we believe that inflation risks are on the upside and monetary tightening is not over yet," he concludes.
Published by Globes [online], Israel business news - www.globes.co.il - on October 2, 2007
