Speculation against the shekel, the currency of war-evolved Israel, has increased dramatically in recent weeks. This is the conclusion of Deutsche Bank in a study where the Financial Times writes about it on Thursday. The number of “short positions,” as speculating on a decline is called, is at the highest level since January 2022 and has risen more in recent weeks than any other currency Deutsche Bank tracks, although the bank did not share precise figures.
Speculating on a currency drop is essentially an attempt to profit from a country’s economic concerns, which is not unusual in currency markets. Many traders suspect that the Israeli currency will fall even further than it has already done in the past two weeks. Shortly after the outbreak of the conflict between Hamas and Israel, the currency fell 4.8 percent against the US dollar, amid concerns about the war’s impact on the Israeli economy, reaching its lowest point in almost a decade. In concrete terms, it means that foreign goods become more expensive for Israel.
The speculation on the decline of the shekel touches on an important dilemma for the Israeli central bank since the start of the conflict. Should she maintain the currency or stimulate the economy by lowering interest rates? The two cannot go together.
Immediately after the Hamas attack on October 7, the central bank announced that it wanted to sell $30 billion in reserves to shore up the currency. It was sinking fast. The intervention seemed to have some effect: the decline against the dollar since the start of the conflict has now been reduced to 3.8 percent. However, this could still have a major effect on domestic price levels in the long term.
At the same time, pressure is increasing on the central bank to lower interest rates (currently 4.75 percent) in order to stimulate the economy. This would actually weaken the currency. An interest rate decision is scheduled for next Monday. The markets seem to be taking a reduction into account at the moment: they are currently pricing according to the Financial Times an interest rate decrease of 0.2 percentage points.
The costs of the war also play a role. Citibank analysts also recommended the shekel this week shorting: they expect that the costs of the war could lead to increasing pressure on the bank to lower interest rates. Then the Israeli government can borrow money more cheaply. The longer the conflict lasts, the greater the chance of this situation. This also applies to a possible expansion of the war on Israel’s northern border, if Hezbollah intervenes more actively in the battle from Lebanon.
Preference for stable currency
More clarity will become available on Monday about the course the bank will choose when it has to make an interest rate decision. So far, it seems that the central bank prefers a stable currency to avoid inflation. On Tuesday, Deputy Governor Andrew Abir said that currency stability would be a priority in the conflict, after which markets immediately priced in a smaller interest rate drop: it was initially 0.5 percentage points and then shrank to 0.2.
In any case, Israel has considerable reserves of foreign currencies, which it can theoretically sell for a long time to prop up the value of the shekel. According to the FT, this amounts to more than $200 billion in various currencies. If Israel sells them for shekels, shekels are withdrawn from the market and the value of the currency remains stable. This will probably largely prevent a major currency crisis, Simon Harvey, currency analyst at Monex Europe, told the British business newspaper. $200 billion is more than two years of total Israeli imports.
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Moreover, the shekel was already having a very poor year, even before the war. Before October 7, the currency was already more than 10 percent lower against the dollar compared to the beginning of the year. This had everything to do with the controversial legal reforms that the very right-wing government of President Netanyahu wanted to implement: these had been undermining investment confidence in Israel for months, something the central bank already warned about in May.