For the third time in six months, an international credit rating agency has downgraded Israel's credit rating. This time, it was Fitch Ratings, which announced the downgrade on Monday, as Israel was on alert for potential retaliation from Iran and Hezbollah.
What exactly is a credit rating, why is it important and why is Israel's rating, which had never dropped until early 2024, suddenly declining? Here are the answers.
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Finance Minister Bezalel Smotrich and Prime Minister Benjamin Netanyahu
(Photo: Haim Tzach, GPO)
What is a credit rating?
In general, a credit rating is an assessment given to countries, companies, and even individuals, which defines their ability to repay loans in the future. Credit rating agencies for countries, like banks for individuals, examine financial history, equity, asset status, and other economic data, as well as the extent of the countries' existing obligations.
Who cares about it?
Primarily, those who intend to lend to or invest in these countries. Rating agencies effectively assess the inherent risks and the ability of countries to repay loans to lenders.
What does this mean for investors?
The higher the rating of the entity or country being evaluated, the lower the return it needs to offer investors, as it indicates lower risk. Those who lend to the U.S. or Germany will charge much lower interest rates than those lending to Peru, for example. A country with severe issues, like Syria or Sudan, might not find lenders at all.
What's the current status of Israel's credit rating?
Credit rating agencies have been determining Israel's rating since 1998. Over the years, the rating steadily increased, reaching peaks in the years leading up to 2024. For the first time ever, Israel's rating was downgraded by Moody's in February 2024, setting it at AA2, equivalent to an A rating by other agencies.
In April, S&P, the largest rating agency in the world, also downgraded Israel's rating to A+ following the first-ever direct Iranian attack on Israeli territory. On Monday, the third rating agency, Fitch Ratings, downgraded Israel's rating from A+ to A.
There's also a negative outlook. What does that mean?
All three agencies have attached a negative outlook to Israel's new rating. This means that if no improvement in Israel's economic indicators is seen soon, or at least signs the government is making significant efforts to address the situation, and should the uncertainty caused by the Gaza war, the rating could be downgraded again.
Why was the rating downgraded this time?
Fitch's economists clarified that Israel is engaged in an ongoing war, with increasing risks of the conflict expanding and regional instability. The agency expects the war to continue at least until the end of 2024 and possibly beyond, into 2025. Consequently, high immediate military expenses and damage to the economy are anticipated.
Did the agency also criticize the government?
Yes. The agency's economists, who closely monitor developments in Israel and regularly speak with top economic officials, said that "political fractiousness, coalition politics and military imperatives could hinder consolidation plans and present a risk to our forecast." This is a clear hint of a possible further downgrade in the near future if the government doesn't improve its conduct.
What'll happen to the economy now, given the downgrade?
The downgrades that have already taken place, and those expected, have already been priced in by investors and lenders. Experts suggest that, rather than A, Israel is already being priced at a rating of BBB or even lower.
So, what does this mean de facto?
The State of Israel is already paying interest rates 0.5% to 1% higher on its loans than just a few months ago, and this interest is expected to rise further. These higher interest rates are likely to affect everyone — first, loans are expected to become more expensive for domestic companies, which will likely pass on the costs to consumers.
Additionally, a government struggling with more expensive loans will be forced to cut its spending on public services, leading to reduced support in welfare, health, and cuts in education budgets and other sectors, which will impact citizens as early as the next budget year.
What else is expected?
A downgrade could temporarily lead to a drop in stock prices on the Tel Aviv Stock Exchange and further weaken the shekel against foreign currencies, which would make imports and travel abroad more expensive. The decision might also delay the Bank of Israel's plans to lower the base interest rate in the market.
What are the chances of further downgrades, and when could they take place?
The two remaining rating agencies are expected to publish their semi-annual reports on Israel in October and November. Until then, officials in the Finance Ministry Accountant General and Chief Economist's departments hope no more downgrades will take place.
However, a degrading security situation and continued government stagnation in implementing necessary economic measures could accelerate additional downgrades.