Dollar weakens at the start of Fed week, trading below 3.05 shekels

We are opening the Fed week in the foreign exchange market with a retreat in the dollar in global markets and in the local market, with a real possibility of an interest rate hike in the US on Wednesday. This is happening in parallel with a decrease in the level of concern regarding the ignition of a war in Iran: the dollar is falling by 0.2% against the shekel, trading below 3.05 shekels. The euro is rising by 0.3% and trading above 3.47 shekels.

In global markets, the dollar index, against a basket of leading currencies, is falling by 0.3% to 101.2 points. The euro is rising by 0.3% against its American counterpart, to around 1.14 dollars. The pound is rising by 0.3% and trading above 1.33 dollars. In Japan, the dollar weakened by 0.2%, to 163.5 yen. In the background of the trading: Iran announced that it would suspend attacks in the Hormuz Strait and other areas, as long as the US continues to cease hostilities, after almost two weeks of clashes and mutual attacks.

Economists at Leader, led by Yonatan Katz, note that the tight labor market in Israel, which may lead to wage increases, will lead to corresponding upward pressure on the consumer price index. "Current data indicate that the demand for workers continues to grow at a faster rate than the increase in the number of job seekers. A tight labor market supports wage pressures and constitutes an inflationary risk."

At the same time, according to them, the retreat in the shekel in recent weeks will not translate into an increase in inflation: "From the beginning of June until today, the shekel has depreciated by 7.6% against the basket of currencies. However, looking at a longer period, the shekel still shows an appreciation of 5.2% since the beginning of the year. It seems that the indirect effect of the depreciation in the last two months on inflation is expected to be very moderate. A significant part of tradable goods may absorb the depreciation, similar to how the sharp appreciation in the last year did not fully pass through to consumer prices," explain at Leader.

The Fed's interest rate decision and the Bank of Israel's response

At Leader, they note that beyond the fact that the market gives a 38% chance of a Fed rate hike on Wednesday, it also prices in a 100% chance of a hike by the interest rate decision on September 16 — with the expectation of two hikes during the year. According to them, this will also have an impact on local monetary policy. "The Bank of Israel, led by Governor Amir Yaron, monitors monetary policy in developed countries. Restrictive policy in Europe and the US will make it difficult for accommodative policy in Israel," say at Leader.

The Bank of Israel, led by Governor Yaron, lowered the interest rate at its last meeting (July 6) by 25 basis points, from 3.75% to 3.50% — the second consecutive reduction and the third since the beginning of the year. The bank's next decision is expected on August 1.

Economists at Hapoalim are even more sharp than at Leader, and argue that the Bank of Israel will not implement an interest rate reduction until the end of the year. "Our inflation forecast stands at 2% for the coming year. The market expects a final interest rate of 3.5% at the end of the year — the relatively rapid change in market expectations since the last interest rate decision stems mainly from the escalation of the security situation and the weakening of the shekel."

Alex Zabezhinsky, chief economist at Meitav, does not think that a change in direction is expected in the policy of the Bank of Israel, and that interest rate reductions are still on the table. "About a month ago, the markets priced in an interest rate cut to below 3%, while today they price in less than one interest rate cut. One must exercise extreme caution in providing forecasts and recommendations against the backdrop of the uncertainty surrounding the war. However, we still estimate that the Bank of Israel will lower the interest rate to 3% this year. The two operations in Iran, in June 2025 and in March 2026, did not divert inflation in Israel from the trend of moderation," notes Zabezhinsky.