Speaking at his appointment ceremony as the next Governor of the Bank of Israel, in the President’s Residence in Jerusalem, where he shared the stage with President Rivlin, Prime Minister Netanyahu, and Finance Minister Kahlon, Prof. Amir Yaron, who succeeds Dr. Karnit Flug, whose five year tenure ended this winter, noted the following main points of his monetary policy:
1. The immediate challenge facing the Bank of Israel is the normalization of monetary policy
2. The interest rate is the main tool for directing monetary policy, and remedying specific economic vulnerabilities ought to be handled with designated tools
3. The Bank of Israel, as the economic advisor to the Government of Israel, will continue to assist and support the objectives of the government’s economic policy, in increasing growth and employment for the benefit of all the citizens of Israel
4. A modern economy cannot grow and function properly without a stable and efficient financial system. We should not take the financial stability as given, particularly in periods with numerous changes in financial markets and technologies
5. We will act to enhance competition and improve the efficiency of the capital market and the financial system, while closely safeguarding its stability, and we will work for the proper implementation of innovative financial technologies
6. To maximize the potential growth, there has to be large investment in infrastructures, an increase in efficiency and improvement in the business environment, and work to improve human capital at all levels of society through education and training that are aligned with the requirements of the labor market
7. The increase in the credit rating due to judicious fiscal policy is a significant achievement that should be maintained
Prof. Yaron, 54, is an American-Israeli economist, who grew up in Ramat Hasharon and Ramat Gan. He was assistant Professor of Economics and Finance in Carnegie Mellon University from 1994 until 1997, and is currently Robert Morris Professor of Banking and Professor of Finance in The Wharton School in University of Pennsylvania, as of July 2009.
Prof. Yaron said in his speech that “the current inflation target, within which the Bank of Israel operates, is a range of 1–3 percent per year. This target reflects an inflation rate that is low enough to support both economic activity and employment, yet is sufficiently distant from a deflationary environment.
“The considerations in setting the interest rate take into account the components of the Bank of Israel’s second objective—supporting growth, employment, and the reducing of social gaps. These goals are particularly important for the resilience of all parts of society. Employment and unemployment rates have improved markedly in the past decade, the combined result of important reforms undertaken in the labor market by the government alongside the monetary policy.
“I view the interest rate as the main and most effective tool for directing monetary policy. The interest rate has a broad and extensive impact on all households, companies, and financial institutions—and therefore, remedying specific economic vulnerabilities, should there be any, ought to be handled with specific and designated tools.
“The immediate challenge facing the Bank of Israel is the normalization of monetary policy—a process at the end of which the Bank will be able to act, using the interest rate tool, to stabilize prices in an effective manner in accordance with economic developments, and to stabilize the inflation rate at the center of the target range. In general, in my view, and as the Bank has in fact acted recently, the exchange rate should be determined by market forces, without the need for significant intervention in the foreign exchange market. However, the Bank will continue to act in the foreign exchange market should there be anomalous fluctuations in the exchange rate that are not in line with the underlying economic conditions in the economy.
“The process of normalization should be carried out in a measured and moderate manner, during which the Bank of Israel should communicate its operations clearly and transparently. It is important that the interest rate is not raised too rapidly or aggressively, as that may halt growth, but also not with a delay which is liable to cause a non-optimal allocation of resources, and an outbreak of inflation. Identifying the optimal path, the “golden path” for achieving normalization, is especially challenging because of the low interest rate environment, and in view of possible structural changes in the Israeli and global economies, which may be causing different inflation dynamics than we have known in the past. The Bank of Israel and the Monetary Committee will stand guard to maintain this proper balance.
“In this regard, it is important to emphasize the absolute independence of the Bank of Israel and the Monetary Committee in setting monetary policy and determining the interest rate, as well as the Bank’s autonomy in supervising the banking system. This independence, anchored in law, is a requisite condition for the Bank’s optimal functioning, and for the outlining and implementing of monetary policy that is derived from professional considerations. These will ensure that the business environment in Israel and worldwide continue to view the Bank of Israel as a professional, independent, and reliable authority—something that in and of itself will assist in achieving economic stability and sustainable growth.
“The second challenge is maintaining financial stability, capital market efficiency, and the integration of innovative financial technologies.
“Since the global economic crisis of 2008, the importance of financial stability has been clear to all. A modern economy cannot grow and function properly without a stable and efficient financial system. The banking system in Israel and the Israeli economy displayed resilience to economic and financial-market shocks during the crisis, and that is a notable achievement of the Bank of Israel in general, and of the Banking Supervision Department in particular. However, we should not take the financial stability as given, and it is essential to minimize the system’s exposure to systemic risks. Beyond the astute management of crises, we should focus in advance on the steps that will prevent their outbreak in the first place. The Bank of Israel, through all of its professional staff, and in coordination and collaboration with the Ministry of Finance, the Capital Market Authority, the Israel Securities Authority, and other authorities, will lead in ensuring financial stability, with a broad view of all the risks.
“The financial system in Israel is stable and advanced—but we can, and should, continue to improve its functioning. We will examine, together with the other regulatory authorities, the adoption and integration of financial instruments that were tried successfully in other advanced economies. This process will lead to improved utilization of capital in the banking system and the financial entities outside the system, and will contribute to reducing the cost and broadening the menu of financial services to consumers and businesses.
“The financial markets are going through marked structural changes, against the background of the accelerated developments in technology. It appears that quite a bit of the knowledge that has accumulated about the economy and money could change in the coming years. We have to be aware that the changes are causing the unknown to expand—to paraphrase the well-known saying by Confucius, “Real knowledge is to know the extent of one’s ignorance”. It is important that we remember the complacency in the financial markets worldwide prior to the outbreak of the 2008 crisis, so that we internalize the importance of identifying risks that lie beyond the current knowledge.
“These developments and innovations do incorporate certain risks, but are also likely to lead to financial technologies that are more efficient both for consumers and for the various supervisory entities—that is, financial stability does not necessarily stand in contradiction to the enhancement of competition and increased efficiency. The Bank of Israel will act to improve the efficiency of the capital market and of the financial system while closely maintaining its stability, and will act to properly integrate innovative financial technologies.”