Interest rate review: Bank of Israel seen holding rates tomorrow, despite our view that there is room for further easing

ISRAEL - In Brief 04 Jan 2026 by Sani Ziv

---

The Bank of Israel is scheduled to announce its monetary-policy decision for February tomorrow. The near-market consensus is that the policy rate will remain unchanged, reflecting the Bank of Israel’s concerns over a still-tight labor market (with unemployment at around 3%), the risk of pent-up demand following the ceasefire agreement, and other upside risks for inflation.  However, as we have noted repeatedly in recent updates, we believe the conditions for an additional rate cut are clearly in place. Accordingly, we assign a higher-than-market probability to a 25bp cut, following the reduction implemented in November. The arguments are well known. Headline inflation has declined to 2.4%, close to the midpoint of the target range, and is expected to fall further in January to around 1.7%–1.8%, as VAT-related price increases drop out of the annual calculation. At the same time, non-tradable inflation has eased to 3.4% (annualized), down from around 4% in mid-2024, while tradable inflation has fallen sharply to just 1.2%, largely reflecting currency appreciation. These trends are reinforced by lower oil prices, with gasoline prices expected to fall by about 3.3% in January; a historically strong exchange rate; and recent rate cuts by the Federal Reserve and the Bank of England. Taken together, these factors suggest that monetary conditions remain overly restrictive. This is also reflected in Israel’s short-term real interest rate, which is above 2%, based on expected inflation of 1.6%-2%, a level that is high by global standards. As a result, there is room to lower the policy rate to at least 4%. The chart below shows headline inflation (12-month), market-based one-year...