1

Performance of the Israeli Performance of the Israeli Economy and Bank of Israel Economy and Bank of Israel

Policy ChallengesPolicy Challenges

Bank of Israel Annual Report 2010

March 30, 2011

2

-6

-4

-2

0

2

4

6

8

10

12

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010

Developed Countries Developing Countries Israel

GDP Growth Rates*Growth outpaced the developed countries and was slower than the developing countries.

%

*Quarterly data, change from same quarter previous year. Data for Israel is seasonally adjusted.

Source: Bank of Israel and the IMF.

3

Unemployment Rate*

2

4

6

8

10

12

14

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010

Developed Countries Developing Countries Israel

%

The unemployment rate stabilized at a level much lower than the developed countries and slightly lower than the developing countries.

*Quarterly data, seasonally adjusted. Source: Bank of Israel and the IMF.

4

Growth Rates of the Sources and Uses in 20101

0%

4%

8%

12%

16%

20%

Fixed CapitalInvestment

PrivateConsumption

PublicConsumption

ExportsImportsGDP

OECD Avg. Israel Developing Countries

Source: OECD, IMF and Bank of Israel data.

2 3

Significant rise in Israel of all the uses: investment, exports and public and private consumption.

1) Real percent change. 2) International data was weighted using GDP size in PPP terms. 3) Developing countries include: Brazil, India, Indonesia, Russia and South Africa.

5

Growth Factor Decomposition: 2000-2010

-6%-4%

-2%0%

2%4%

6%8%

10%12%

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010

Labor Input Capital Stock Total Factor Productivity

In 2010, total factor productivity contributed about half of the total growth.

Source: Bank of Israel and CBS

6

Stock Indices1

1) Monthly.Source: MSCI Barra and the Bank of Israel.

60

110

160

210

260

310

2004 2005 2006 2007 2008 2009 2010

Developed Markets Developing Markets TA 100

Ind

ex (

2004

=10

0)

The TA 100 continued its quick rise this year, similarly to the developing markets.

7

Bank of Israel's Policy Objectives:

Price stability as its prime objective

Support for the government's economic targets - growth, employment, and narrowing of social gaps

Support for the stability and orderly functioning of the financial system

Bank of Israel Policy

8

Current Policy Challenges: Economy's fast pace of growth and its

approach to full employment. Accelerated rate of inflation (actual and

expected) Quick rise in house prices and in the cost of

housing credit Low interest rate levels at the FED and

ECB

9

%

Rate of Inflation1 and Inflation Expectations2

1) Over the last 12 months. 2) 12 month rate, derived from the capital market.

-3

-2

-1

0

1

2

3

4

5

6

2004 2005 2006 2007 2008 2009 2010 2011

Inflation Expectations

Actual Inflation

Source: Bank of Israel

10

Real House Price Index1

40

50

60

70

80

90

100

110

120

1973 1976 1979 1982 1985 1988 1991 1994 1997 2000 2003 2006 2009

Real House Price Index

Trend

Sharp rise in house prices over the last few years, though the level does not significantly diverge from the long run trend.

1) Compared to the consumer price index, Jan. 2000 = 100.

Source: House Price Survey and Bank of Israel calculations

11

0

1

2

3

4

5

6

7

8

2005 2006 2007 2008 2009 2010

CPI-Indexed FloatingInterestNon-CPI- IndexedFloating InterestCPI-Indexed FixedInterest

100

120

140

160

180

200

220

2005 2006 2007 2008 2009 2010

Interest on Housing Loans and Balance of Housing Credit

Credit to the Public for Housing1 (NIS billions, current prices)

Nominal Interest Rate on Loans for Housing2 (monthly, %)

All interest rates are relatively low, non-CPI indexed rates are low but rising; credit balance is rising quickly.

1) Includes loans given against mortgaged properties. As of Nov. 2010 these loans amounted to about NIS 20 billion. 2) The interest rate on the CPI-indexed loans are adjusted for 12-month inflation expectations.Source: Bank of Israel

12

Policy tools available to the Bank of Israel

Bank of Israel interest rate

Intervention in the foreign currency market

"Macropprudential" activities - tools that relate essentially to the rate of increase, the composition, and the terms of credit in the economy

1313

Bank of Israel Interest Rate

What factors affect the pace at which the interest rate is increased? Inflation environment (actual and expected inflation) Rate of growth in Israel and abroad, including their

uncertainty. Pace of increase of the interest rate by the leading

central banks Developments in the shekel exchange rate Asset prices

14

Central Bank Interest Rates1

0

2

4

6

8

10

12

14

16

2004 2005 2006 2007 2008 2009 2010 2011

0

1

2

3

4

5

6

7

8

Developing Countries (left axis) US ECB Israel

%

1) Monthly data.Source: Bloomberg, IMF and the Bank of Israel

3.0

0.25

1.0

8.3

1515

Foreign Currency Market Activities

Foreign Currency Purchases At the end of December 2010, foreign exchange reserves

stood at $70.9 billion, up $41.9 billion since the beginning of the program.

Reporting Requirement Reporting obligation on foreign exchange swaps and forwards

of $10 million or more in one day (January 2011).

Reserve Requirement Reserve requirement of 10% on foreign exchange swap

transactions with foreign residents (January 2011).

1616

Macroprudential Measures in the Housing Market

August 2009 - Housing Loans with Floating Interest Rates Requirements for risk management Customer disclosure requirements

March 2010 - Housing Loans for Purchaser Groups Construction phase: belongs to the construction and real estate branch

(restriction), 100% weights for capital requirements. Construction phase: purchasing group is considered "borrower"

subjugated to a 15% restriction. Post-construction: mortgages, no branch restriction, weighting of low risk

for capital requirements Post-construction: every buyer is a separate borrower

July 2010 - Housing Loans with Leveraging Above 60% Requirements for risk management Allocation requirement of 0.75% for any loans given after July 1, 2010.

Oct. 2010 - Housing Loans with Floating Interest Rates Weighting at 100% for capital requirement purposes: applies to loans above

NIS 800,000, LTV above 60% and if the part of the loan with a floating interest rate is at least 25%.

Exemption for housing loans received by those entitled to housing benefits in accordance with the criteria determined by the Ministry of Housing and Construction.

17

Research Department Forecast for 2011-2012: Growth, Employment and the Balance of Payments1

1) Above data appears in units of precentage change unless otherwise noted.

Looking Forward

2010 2011F 2012F

GDP 4.6 4.5 4.0

GDP Business Sector 5.3 5.2 4.6

Private Consumption 4.9 3.9 3.7

Exports (excl. diamonds) 10.9 4.3 5.1

Fixed Capital Investment 12.4 7.8 5.4

Public Consumption 3.1 2.7 2.0

Civilian Imports (excl. diamonds) 9.2 9.7 4.0

Unemployment Rate (level) 6.7 6.1 5.9Current Account ($ billions) 6.7 3.4 3.1

18

0.0

1.0

2.0

3.0

4.0

5.0

6.0

7.0

2010

:1

2010

:2

2010

:3

2010

:4

2011

:1

2011

:2

2011

:3

2011

:4

2012

:1

2012

:2

2012

:3

2012

:4

%

0.0

1.0

2.0

3.0

4.0

5.0

6.0

20

10

:1

20

10

:2

20

10

:3

20

10

:4

20

11

:1

20

11

:2

20

11

:3

20

11

:4

20

12

:1

20

12

:2

20

12

:3

20

12

:4

%

Inflation - Previous 4 Quarters Bank of Israel Interest Rate

* The full spread includes 66% of the expected variation.

Research Department Forecast for 2011-2012: Spread Diagrams of Inflation and Interest

Rates*

19

Thank you