Looking back at 2011

Looking forward to 2012

A monthly review - produced by the experienced I-Biz team of economists - surveying the latest economic data and trends in Israel, and key global

developments impacting the Israel economy.

The Israel Economy:Current Highlights

The Israel Economy:Current Highlights

December 2011

Looking back at 2011

December 2011

Main developments: December 2011• GDP growth in 2011 was similar to that of 2010 but growth slowed significantly during the year.• The main source of slowing GDP growth during 2011 was a sharply slower increase of exports of goods and

services.• Partial indicators of economic activity show the growth slowdown continuing in the final quarter of 2011.• Manufacturing exports have been on the decline since March 2011 and raw material imports – since May 2011.• Employment grew in 2011 at a similar rate to 2010 while unemployment appears to be continuing to decline

through October.• Both monthly inflation and inflationary expectations fell during the 2nd half of 2011.• The shekel weakened against the US$ from August 2011 through the end of the year and strengthened against the

Euro in this period.• After reaching high levels by mid-2011, both foreign investment in Israel and Israeli investment abroad plunged in

the 3rd quarter.

Looking back at 2011

 

December 2011

GDP and business sector product, 2000-2010 and 2011 estimates (annual real % changes)

• The revised estimate of 2011 GDP growth (published on 29.12.11 by the Central Bureau of Statistics) is identical to growth in 2010 – 4.8%. Growth of business sector product was also similar in these 2 years – 5.1% compared to 5.8% in 2010.

• However, despite this similarity and in contrast with 2010 which was characterized by rapid growth of more than 5% in each quarter of that year, growth slowed to 4.8% in the opening quarter of 2011 and then slowed more sharply to 3.7% in Q2/11 and 3.5% in Q3/11, the first time quarterly GDP growth has been below an annualized 4% since Q3/09, when the economy began its recovery from the 2008-2009 recession.

• In late December, the Bank of Israel published a downward-revised forecast of GDP growth in 2012 of 2.8%, with Israel thus joining other advanced economies, expected to experience lower growth in 2012 than in 2011 (see Graph 1 in Chapter 2 of this report).

December 2011

Main components of GDP, 2009-2010 and 2011 estimates Main components of GDP, 2009-2010 and 2011 estimates (annual real % changes)(annual real % changes)

• The main growth-restraining factor in 2011 was a much slower increase in exports of goods and services – 4.5% compared to 13.4% in 2010. This was a direct result of slowing growth in Israel's main export markets, particularly Europe.

• In contrast, fixed asset investment continued to expand rapidly in 2011, even faster than in 2010. However, some qualification is needed here: investment in machinery and equipment increased by an impressive 36% in 2011 compared to just 11% in 2010. But growth of construction investment slowed to 9.2% compared to 12% in 2010: residential construction investment slowed to 4.2% in the 3rd quarter of 2011 compared to an average 14.6% in the previous 5 quarters.

• Imports of goods and services also continued to increase fairly rapidly in 2011, indicating the continued GDP growth, but imports fell in Q3/11 (by 7.4%), following significant quarterly increases from Q2/09 through Q2/11.

December 2011

State-of-the-Economy and Purchasing Managers' indexesState-of-the-Economy and Purchasing Managers' indexes(seasonally adjusted data)(seasonally adjusted data)

• Partial indicators of economic activity show the slowdown of economic growth that began during 2011 continuing in the final quarter of the year.

• The Bank of Israel's State-of-the-Economy index, an indicator of overall economic growth, showed initial signs of the slowdown from April 2011, when the monthly increase of the index dropped below 0.4%. In June-September, the monthly increase dropped below 0.3% and in October-November – below 0.2%.

• The Purchasing Managers' Index, an indicator of total manufacturing activity, has been below 50 (signifying contracting activity) for 7 of the 10 months from February through November 2011, with the November level of the index the lowest of these 7 months, and the lowest level of the index since May 2009.

December 2011

Manufacturing exports and raw material importsManufacturing exports and raw material imports($ billion, seasonally adjusted)($ billion, seasonally adjusted)

• As mentioned, slower growth of exports were the main restraining factor on growth in 2011 (see Graph 2 in this chapter of the report). Manufacturing exports went in fact into decline from March 2011 through November with the November level of these exports some 7% lower than in March.

• Raw material imports, an indicator of manufacturing activity, also began to decline from May 2011 and were 11% lower in November than in May.

• May 2011 was also the high point of the other two main import components – investment goods and consumer goods. The level of consumer goods imports in November 2011 was 14% below the May level and 4.2% below the May level in the case of investment goods imports.

December 2011

Change in employment and unemployment rateChange in employment and unemployment rate(percent)(percent)

• The slowdown in growth that developed during 2011 is still not clearly evident in data on the labor market. Based on data for January-September (from the quarterly Labor Force Survey), total employment is increasing this year at the rapid pace of 3.2%, similar to the increase in 2010, though the absolute increase in the number of employed persons in Q3/11 was somewhat less than in the previous 2 quarters.

• The 3rd quarter unemployment rate remained unchanged from the previous quarter, after declining steadily from mid-2009, and this could be interpreted as a reflection of slowing growth. However, preliminary data published at the end of December on the trend rate of unemployment in October show a continuing decline, with the October trend rate at 5% compared to 6.5% a year earlier.

• This current lack of reflection of slowing growth in labor market data is not necessarily surprising since the labor market has a tendency to react with a lag to changes in economic activity.

December 2011

*Based on data for January-September 2011

Monthly inflation and inflationary expectations during 2011Monthly inflation and inflationary expectations during 2011

• There seems little doubt that the rate of inflation began slowing during the second half of 2011: in the 5 months from July to November, monthly inflation was negative in 3 of the months, and the November level of the Consumer Price Index (CPI) was identical to that of June 2011.

• The main question of interest is to what extent did housing prices contribute to the slower inflation? The graph shows that the housing price component of the CPI declined in October-November and analysts interpret this as a sign of changing direction of housing prices.

• The recent slowdown in the rate of inflation is well reflected in inflationary expectations 12 months ahead which dropped from 3% in July to 1.8% in November. There is no doubt that the slower inflation and declining expectations have been playing a central role in recent Bank of Israel decisions to lower interest rates (see Graph 4 in Chapter 2 of this report).

December 2011

Shekel/$ and shekel/Euro exchange ratesShekel/$ and shekel/Euro exchange rates (shekels) (shekels)

• There were no clear trends in shekel exchange rates against the US$ and the Euro during 2011, but rather up-and-down phases, with the two rates running together in 2 upward phases – in January and in August.

• Both rates were higher at the end of 2011 than at the beginning of the year – the shekel/$ rate by 7.7% and the shekel/Euro rate by 3.9%, so that overall, the shekel weakened against both currencies during 2011.

• From August through the end of 2011, the shekel continued to weaken against the $ but strengthened against the Euro. This is a reflection of the weakening Euro in response to the growing debt crisis in Europe: from its high point in August, through the end of 2011, the shekel strengthened by some 6% against the Euro, while from its low point in July through the end of the year, the shekel weakened by more than 12% against the US$.

December 2011

Foreign investment in Israel and Israeli investment abroadForeign investment in Israel and Israeli investment abroad($ billion, quarterly averages and data)($ billion, quarterly averages and data)

• What can be learned from foreign investment flows about the current economic situation? The recession that began in 2001 following the dot.com crisis of 2000 led to a significant drop both in foreign investment in Israel and in Israeli investment abroad.

• Similarly, the sub-prime crisis that began in 2007 and the ensuing financial crisis at the end of 2008 gave rise to a sharp decline in both these flows.

• In 2011, we witnessed an initial shallow decline in both flows in the earlier part of the year followed by a slump in the 3rd quarter as the depth of the current crisis became more apparent. The 3rd quarter drop in foreign investment in Israel was principally in financial investment, parallel to the fall in stock prices in August (see Graph 2 in Chapter 2 of this report): in contrast, foreign direct investment stayed at the same level as in the previous 3 quarters.

December 2011

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Looking forward to 2012

December 2011

Main developments: December 2011• GDP growth is forecast to slow in 2012 compared to 2011 in most developed countries including Israel, particularly

in Europe.

• Will 2012 bringing a changing trend in stock markets, with most major markets showing significant losses during

2011?

• International stock price indexes dropped by 15-20% or more during 2011. The major exceptions were US indexes.

• The Bank of Israel began lowering interest in October 2011: will the central bank continue to lower interest in 2012?

• Indicators of residential real estate demand show sharp declines in demand in 2011, which could continue in 2012.

Looking forward to 2012

 

December 2011

Growth forecasts for 2012: Israel and selected economies Growth forecasts for 2012: Israel and selected economies (annual % real changes in GDP)(annual % real changes in GDP)

• In most industrialized economies, growth forecasts for 2012 point to slower GDP growth than in 2011. This is especially true of the Euro area as a whole and of most of the main European economies – Germany, France, Italy.

• GDP growth in Israel in 2012 is forecast to be significantly slower than in 2011 – 2.8% (the latest Bank of Israel forecast, recently revised downwards) compared to 4.8% in 2011.

• The main economies where growth in 2012 is forecast to be higher than in 2011 are the US (1.8% compared to 1.5% in 2011), Japan (2.3% compared to -0.5%), the UK (1.6% compared to 1.1%) and Australia (3.3% compared to 1.8%). Ireland is also part of this group with growth of 1.5% forecast in 2012 compared to 0.4% in 2011. But despite the expected improvement, growth in these economies – and in the global economy - will still be fairly limited in 2012.

December 2011

*The 2012 forecast for Israel is from the Bank of Israel.

Major stock price indexes during 2011Major stock price indexes during 2011

• One of the most interesting questions regarding 2012 is: how will stock prices behave? This follows a very poor year for stock prices in 2011, in Israel and in most major stock exchanges around the world (see next graph).

• The 2011 story was a steep drop in stock prices in August, in reaction to the lowering of the US's international credit ranking by S&P, and a lack of significant recovery thereafter through the end of 2011.

• During 2011 as a whole, the Tel Aviv 25 (Maof) central stock price index dropped by more than 18%, the Bluetech 50 technology stock index – by 10% (this index did recover more than other indexes after August), while the Nadlan 15 construction and real estate stock price index slumped by over 24%, possibly reflecting the slowdown in the real estate market in the 2nd half of 2011. Given the weak growth forecasts for 2012 (see previous graph), a significant stock price recovery in 2012 does not look very likely at the present time.

December 2011

International stock price indexes: % changes during 2011International stock price indexes: % changes during 2011

• Stock price weakness characterized most major stock exchanges around the world during 2011. Most of the indexes presented in the graph dropped by 15-20% (similarly to Israel's Maof index).

• The one major index that increased during 2011 was the Dow Jones Industrial index. The Nasdaq technology stock index also declined to a very limited degree (-2.2%). Do these developments point to the conclusion that the US economy did not perform that badly in 2011? Growth in the US is forecast to be faster in 2012 than in 2011 (see Graph 1 in this chapter of the report), but annual growth rates of less than 2% for the US in 2011-2012 cannot be considered as particularly high.

• Other stock price indexes that performed relatively better in 2011 – with more limited declines – were FTSE 100 in the UK (-6.5%) and KOSPI in South Korea (-11%). In both these economies, 2012 growth is forecast to be faster than in 2011 (see Graph 1 in this chapter of the report), but the overall question as to whether stock price developments in 2012 will be better than in 2011 remains relevant.

December 2011

Bank of Israel interest rateBank of Israel interest rate (percent) (percent)

• Interest rate policy in Israel underwent a fundamental change in October 2011 when the Bank of Israel lowered interest for the first time – from 3.25% to 3% - after raising interest consistently (from a low level of 0.5%) from September 2009 onwards. The central bank lowered interest again in December – to 2.75% - but left interest unchanged for January 2012.

• The main factor behind the change in interest rate policy was concern over slowing growth, in the global economy in general (with emphasis placed on the debt crisis in Europe and its effect on European growth) and in Israel in particular. The slower inflation during the 2nd half of 2011 (see Graph 6 in Chapter I of this report) enabled the central bank to reduce interest to try and encourage growth rather than increase interest to restrain inflation.

• The reduction of interest by the European Central Bank was a major incentive for the Bank of Israel to begin reducing interest when it did. In its recently published revised economic forecasts for 2012, the central bank expects interest to go down to 2.25% by the end of 2012.

December 2011

Residential real estate transactionsResidential real estate transactions

• Developments in the real estate market – both prices and demand – were one of the hottest economic topics during 2011, especially after the massive social justice demonstrations during the summer, which emphasized the difficulties facing young couples (and even older couples) in purchasing homes.

• At the end of 2011, there seems to be clear evidence (see Graph 6 in Chapter I of this report) that the trend of increasing housing prices that began in mid-2008 is coming to an end. One of the factors behind this change of trend may well have been developments in housing demand in 2011.

• Overall residential real estate demand (based on data on transactions reported to the tax authorities in January-September 2011) declined by some 10% in 2011 after rising consistently – except for 2008, under the influence of the financial crisis of that year – from 2003. The drop in the demand for new apartments in 2011 (based on data for January-November) was even sharper – almost 17%. The question now is: will this decline in demand continue in 2012 or will a continuing decline in prices cause demand to bounce back next year?

December 2011

*Total transactions in 2011 are based on data for January-September, sales of new apartments - on data for January-November.

Glossary of termsGlossary of termsBusiness sector product: includes the product of economic sectors, except for government services, services of non-profit organizations and housing services.Private consumption: consumption expenditure of households and of non-profit organizations servicing households, whose expenditure is mostly not government-financed.Fixed asset investment: includes purchases of durables for civilian use, construction in progress, large-scale building renovations, road building and other infrastructure, and land improvement.State-of-the-economy index: a monthly index comprising five indicators of activity – industrial production, turnover in commerce and services, employee posts in the business sector, goods imports excl. imports of investment goods, goods exports and service exports.Purchasing Managers’ Index: based on a monthly survey of purchasing managers in large companies, who supply information on their companies’ activity (production, domestic market and export orders, inventories, employment, etc.). The index is calculated around the level of 50 (a level above 50 signifies expansion, and below 50- contraction).Employed persons: Persons who work at least 1 hour a week, for a salary, profits or other remuneration. Includes all workers on kibbutzim and family members who work for free for 15 or more hours a week.Unemployment rate: the number of persons who are not currently working but are actively looking for work, as a % of the total number of participants in the labor force.Inflationary expectations 12 months ahead: Expectations regarding the inflation rate during the coming 12 months, calculated from capital market developments.Tel Aviv 25 (Maof) stock price index: the 25 stocks with the highest market value, among the 200 stocks with the highest average daily turnover in the 6-month period prior to 30 June and 31 December. The list of stocks included in the index is updated each year on the first trading day in February and August.Bluetech 50 stock price index: contains the 50 stocks with the highest market value from the Tel Aviv-Technology index and from the Tel Aviv-Bio-med index.Nadlan 15 stock price index: includes the 15 stocks with the highest market value from stocks of construction and real estate companies. Bank of Israel interest rate: the rate on loans between the commercial banks and the Bank of Israel.

December 2011

Looking back at 2011GDP and business sector product - Central Bureau of StatisticsMain components of GDP - Central Bureau of StatisticsState-of-the-Economy and Purchasing Managers' indexes - Bank of Israel and Association of Purchasing ManagersManufacturing exports and raw material imports - Central Bureau of StatisticsChange in employment and unemployment rate - Central Bureau of StatisticsInflation and inflationary expectations - Central Bureau of Statistics and Bank of IsraelShekel/$ and shekel/Euro exchange rates - Bank of IsraelForeign investment in Israel and Israeli investment abroad - Bank of Israel Looking forward to 2012Growth forecasts for 2012: Israel and selected economies – International Monetary FundMajor stock prices indexes during 2011 - Tel Aviv Stock ExchangeInternational stock prices indexes - Tel Aviv Stock Exchange and Yahoo FinanceBank of Israel interest - Bank of IsraelResidential real estate transactions - Central Bureau of Statistics and Ministry of Construction and Housing

Data SourcesData SourcesDecember 2011

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December 2011