Governor of the Bank of Israel Dr. Karnit Flug spoke yesterday at the annual conference of the Israel Economics Association about the short and long-term consequences of growth driven by private consumption. She dismissed concerns voiced recently about growing household and consumer debt including mortgages. According to Flug, private consumption has led the economy in recent years, making up for the slowing of exports and investment caused by moderate global growth, and has supported a significant improvement in labor market figures, with an emphasis on economically disadvantaged groups.
Klug stated, "Growth based on consumption comes with risks if it is based on factors that are not sustainable, but the main factor in increased consumption in recent years was increased income from labor." Flug explained that over the past 18 months, growth figures were affected by what economists call "noise" (mainly fluctuations in car imports), but that when this noise is excluded, the growth rate in GDP rose, and is currently at 4% in annual terms.
Flug commented, "This is an impressive rate, particularly if we take into account that world trade, which reflects global demand for our exports, increased by an average of about 3% since the global economic crisis, compared with an average of 7.56% in the years preceding the crisis. Israel’s relatively good economic performance was supported by accommodative fiscal and monetary policies: low interest rates, the Bank of Israel’s foreign exchange purchases, and a relatively high cyclically adjusted deficit.
"Against the background of these developments, private consumption increased by 4.3% in 2015 and 6.3% in 2016, and was the main factor contributing to economic growth in recent years… What is motivating private consumption?... Income from labor and financial income are decisive factors in determining the level of private consumption in the short and long terms, with elasticities of about 0.3 and about 0.2 respectively. The rapid increase in home prices in recent years also contributed to increased private consumption, through the wealth effect. Asset prices, particularly those of financial assets, have the greatest effect on the change in private consumption in the short term. Change in current income does not affect private consumption in the short term, other than a change in income from transfer payments. The intensity of the replacement effect of the interest rate is not great.
"How have the variables affecting private consumption developed in recent years? There has been a real increase of about 6 percent per year on average in income from labor, as a result of an increase in employment and in wages. There was an increase in home prices and in the value of financial assets. Outstanding consumer credit (nonhousing credit to households) increased by 25% over the past three years, as interest rates declined. Together with the lower prices on imported consumer goods, against the background of the appreciation of the shekel in recent years, which led to a rapid increase in the import of consumer goods, these all supported the rapid increase in consumption."
Flug cited a study by Arnon Barak from the Bank of Israel Research Department published this week, which showed that in recent years, the main factor leading the increase in private consumption was the increase in income from labor.
Flug concluded by saying, "Household debt figures show that despite the increase in outstanding mortgages and consumer debt, the debt to GDP ratio and the debt to disposable income ratio increased only moderately. At the macro level, therefore, the risk is moderate. However, the rapid increase of consumer credit in recent years requires closer monitoring on the part of regulators, extra caution on the part of the public and credit providers, and an informed examination of repayment capabilities when providing or taking out credit."
Published by Globes [online], Israel Business News - www.globes-online.com - on June 8, 2017
© Copyright of Globes Publisher Itonut (1983) Ltd. 2017