As Israel basks in the afterglow of its recent military triumph – the elimination of Hezbollah leader Hassan Nasrallah – a stark economic reality casts a long shadow over the nation’s future. While the nation erupted in jubilation for the Israel Defence Forces’ decisive blow against one of its most formidable enemies, a sobering truth is unfolding in the financial arena. Moody’s recent decision to downgrade Israel’s credit rating from A2 to Baa1 raises critical questions about the country’s long-term financial health, prompting analysts to consider the broader consequences of ongoing military engagements on the nation’s economy.
This downgrade, one of the sharpest in nearly three decades, signifies a more serious financial setback than previous military conflicts. Unlike past situations where Israel’s economic resilience was evident, this time the signals are more concerning. The Jerusalem Post emphasizes that this two-notch downgrade is not just a routine financial fluctuation, but a stark indication of deeper systemic issues. Moody’s analysis highlights growing concern over Israel’s ability to recover swiftly, especially given the prolonged nature of the current conflict and the lack of a clear exit strategy.
While Israel’s credit rating remained stable even during the Second Intifada, the current downgrade reflects a more significant problem: a perception of ineffective governance. Moody’s points out that beyond the immediate costs of the war, Israel is suffering from institutional weakness, struggling to address political instability and the growing tensions related to military service exemptions for the ultra-Orthodox population. This failure to implement meaningful reforms has diminished international confidence in the government’s ability to manage not only military challenges but also its fiscal responsibilities.
The immediate consequence of Moody’s downgrade is a rise in borrowing costs, which threatens to strain an already overburdened national budget. Professor Dan Ben-David from Tel Aviv University told The Jerusalem Post that Israel’s deficit, already ballooning due to war-related expenditures, will now face even higher interest costs. These increased costs will inevitably cut into funding for critical domestic services like healthcare, education, and defense. As borrowing becomes more expensive, the government will be forced to make difficult choices, potentially sacrificing long-term investments in social infrastructure to cover war expenses.
Beyond the immediate conflict, Moody’s decision expresses concern over Israel’s governance issues and the absence of a comprehensive post-war recovery plan.
The ripple effect of the downgrade extends far beyond government borrowing. The Times of Israel reports that businesses, especially those relying on loans, will now face higher interest rates, which will, in turn, push up costs for consumers. As borrowing becomes more expensive for companies, it could result in higher prices across various sectors, adding to the country’s inflationary pressures. In August 2024, Israel’s inflation rate stood at 3.6%, already above the government’s target range of 1 to 3%. With rising borrowing costs, this inflation is likely to persist, further burdening the average Israeli household.
The impact on businesses doesn’t end with increased borrowing costs. As international companies re-evaluate the risks of doing business in Israel, there are fears of layoffs and delayed investment projects. The Israeli private sector, particularly small and medium-sized enterprises, will likely bear the brunt of this downturn, with many companies facing the threat of closure due to mounting costs and decreased consumer spending power.
This downgrade could lead to a snowball effect negatively impacting savings portfolios, pension funds, and other investment vehicles, as explained by The Times of Israel. Government bonds will now carry greater risks, potentially lowering their value and reducing the returns for ordinary Israelis.
As Israel’s public debt rises, the country’s financial future becomes more uncertain. According to Al Jazeera, the Bank of Israel estimated that war-related costs for 2023-25 could amount to $55.6 billion. A combination of higher borrowing and budget cuts will be necessary to meet these obligations. With the country’s debt-to-GDP ratio already projected to remain above 70% and the public deficit expected to reach 7.8% in 2024, there is little room for error in Israel’s fiscal management.
While Finance Minister Bezalel Smotrich expressed strong confidence that the deficit would shrink to 6.6% by year’s end, disagreeing with the current projections, this optimistic forecast may not align with the reality on the ground. As military spending continues to rise, particularly on wages for reservists and artillery for the Iron Dome defense system, the pressure on public finances will only increase.
Fitch Ratings echoed these concerns, forecasting that military expenditures would permanently increase by 1.5% of GDP, making it difficult for the government to rein in its debt in the near future. The economic shadow cast by the recent military success is a stark reminder that even triumphant victories can be overshadowed by the looming challenges of financial stability and responsible governance.
