Speech by Bank of Israel Governor Frenkel

(Communicated by Bank of Israel Spokesman)

Following are excerpts from a speech given by Bank of Israel Governor Yaacov Frenkel at the Technion "Yitzhak Moda’i Chair and Annual Lecture on Technology and Economics" on Wednesday, May 26, 1999:

* Economic policy must continue to be managed in accordance with the important challenges facing it. This is particularly important given the fact that the Israeli economy has been for a long time now an integral part of the global economy. The Israeli economy’s successful integration in the globalization process is expressed by, among other things, the increasing involvement of foreign investors in the Israeli economy over the past few years and the fact that the economy maintained its strength in international financial markets.

* The central challenge facing economic policy continues to be the renewal of economic growth to a sustainable level, in accordance with the economy’s growth potential. This is also the proper solution to the problem of unemployment, which is Israel’s most important economic and social problem. For this purpose, an economic policy whose key component is government spending that focuses on investment in physical infrastructure — chiefly in transportation and communications — and human infrastructure — education and R&D is needed. This must be done without breaching the budget framework. In addition, it is important to gradually and consistently reduce overall government spending by 1% of GDP, thus enabling a reduction of the heavy tax burden on the economy. Furthermore, structural and general tax reforms must be continued with increased determination, which will improve Israel’s competitiveness and productivity. Such an economic policy must be accompanied by policies to strengthen the economy’s stability and robustness.

* The Israeli economy and Israel’s economic policies are continually examined by global financial markets. These markets reward correct policies and show no patience in the face of wrong ones. This reality requires sticking to economic strategies that strive to establish the economy’s stability. This strategy is essentially founded on budget policies managed in accordance with the multi- year parameters set in the Deficit Reduction Law, and on monetary policies that aim to achieve low inflation, in accordance with government targets. These have reduced the budget and current account deficits and significantly lowered inflation. These achievements, along with the interest rate policy taken last

November and the policy on non-intervention in the foreign currency market, enabled the Israeli economy to successfully handle the effects of the massive devaluations that occurred at that time against the background of global financial shocks. As a result, inflation was quickly returned to its declining trend and the local capital markets became relatively calm. It is important to continue this policy, especially in light of the selectiveness that currently characterizes global capital markets.

* It is vital to take as soon as possible, within the budget framework, the steps necessary to achieve the deficit target of 2% of GDP in 1999, especially in light of the worrying breach in the planned deficit since the beginning of the year. It is necessary to strengthen trust in economic policy, to encourage foreign and local investment and to develop the economy’s growth potential.

* Monetary policy has succeeded in bringing about a persistent reduction in inflation — except for the one- time jump in prices at the end of 1998 — so that the 4% estimated inflation target for 1999 should be achievable. However, there are inflationary dangers beyond this horizon. This evaluation is based on various 12-month and longer time frame indices that project greater than 4% inflation. These inflationary dangers require continued strict monitoring of inflationary developments in order to re-examine as necessary monetary policy that is striving to guarantee stability. Low inflation and price stability characterize industrial countries and form the basis for the economic stability necessary for renewed sustainable growth.

* The new era opening in Europe — the European Monetary Union and the Euro — strongly bring home the need to persevere with the long-term economic strategy designed to accelerate Israel’s integration in the globalization process and improve its ranking in international capital markets. This can be done by continuing to take the steps that will guarantee the openness of the economy and to adopt the Maastricht criteria and by other countries in the world regarding policies for long-term economic stability and growth.

Bank of Israel website: http://www.boi.gov.il