Despite Fitch credit rating drop, Israel's economy remains stable - editorial

It was disappointing to learn that the respected American credit ratings agency Fitch had downgraded Israel’s credit rating from A+ to A on Monday, based on its assessment that while tensions between Israel and Iran and its allies remain high, “the conflict in Gaza could last well into 2025 and there are risks of it broadening to other fronts.”

Fitch, known as one of the “Big Three” credit rating agencies (the other two being Moody’s and Standard & Poor’s), maintained Israel’s rating outlook as negative, meaning that a further downgrade is possible. In April, Fitch removed Israel from “credit rating negative” and affirmed the country’s A+ rating, albeit with a negative outlook. Its new assessment should spur the government to take action to prevent further downgrades.

Fitch said it expected the government to increase military spending by almost 1.5% of GDP from pre-war levels, putting pressure on the budget deficit and debt levels.

“The downgrade to ‘A’ reflects the impact of the continuation of the war in Gaza, heightened geopolitical risks and military operations on multiple fronts,” it said. “Public finances have been hit and we project a budget deficit of 7.8% of GDP in 2024 and debt to remain above 70% of GDP in the medium term.”

Fitch is not alone in its gloomy assessment. Moody’s and S&P Global cut their credit rating for Israel earlier this year, also citing elevated geopolitical risks. While the current forecast assumes that the country will take fiscal consolidation measures, including a 1% rise in VAT, Fitch said, “political fractiousness, coalition politics, and military imperatives could hinder consolidation plans and present a risk to [the] forecast.”

On the other hand, a recent study by the Banking Methods company that analyzed various data to determine the most financially healthy countries in the world – focusing on key metrics such as GDP per capita, debt per capita, and average yearly salary – placed Israel in second place behind San Marino (which it said has the ability to cover its national debt in just 2.7 months).

“In second place, Israel can cover its national debt in approximately 3.5 months,” it said. “The debt per capita is $16,019, while the average yearly salary is $55,140. Israel’s high salary levels contribute significantly to its financial stability.”

Bezalel Smotrich says Israel's rating will bounce back 

In response to Fitch’s downgrade, Finance Minister Bezalel Smotrich predicted on X that Israel’s credit rating would soon bounce back: “The State of Israel is in the midst of an existential war, the longest and most expensive in its history; a war that is being waged on several fronts at the same time and has been going on for almost a year. The downgrade following the war and the geopolitical risks it creates is natural.

“Israel’s economy is strong and we navigate it correctly and responsibly. The economic indicators indicate the robustness of the economy and the high confidence we have in the markets.”

The Finance Ministry’s Accountant-General Yali Rothenberg wisely urged the government to create as much certainty as possible for the Israeli economy by expeditiously drafting a responsible state budget for 2025. According to Treasury officials, the Finance Ministry is proposing a series of spending cuts and tax hikes to make NIS 25 billion in fiscal adjustments to the budget made necessary by the enormous costs of the war.

Prime Minister Benjamin Netanyahu convened his first high-level meeting with top economic officials, including Smotrich and Bank of Israel Governor Amir Yaron, on July 15, to discuss the 2025 state budget which the government plans to have the Knesset approve by the end of 2024.

“It is the government’s responsibility to take the necessary steps, even if some of them may not be popular, to ensure economic stability and to promote sustainable growth,” Yaron cautioned then. “If the government only partially implements the fiscal adjustments required or defers the approval of the budget into 2025... it is liable to lead to an additional increase in Israel’s risk premium.”

Both Rothenberg and Yaron are right. The prime minister should now ask the cabinet to formulate a framework for the 2025 budget and set a deficit ceiling – the sooner, the better. This would calm the markets and the credit rating agencies and perhaps even avert further downgrades.