Barring any last-minute extreme events, rating agency S&P is expected to affirm Israel's credit rating of AA- and credit outlook of stable when it releases its latest report on Friday. This is similar to Fitch Ratings, which also did not lower Israel’s rating, but unlike Moody's, which downgraded the rating outlook from positive to stable last month.
This seemingly technical decision by S&P was only made after plenty of behind-the-scenes drama. Sources told Calcalist that the person who was most deeply involved in the talks with S&P in Israel in the recent period, including daily phone calls with company executives and even with the rating teams, was none other than Prime Minister Benjamin Netanyahu.
In those conversations, Netanyahu explained that the judicial overhaul would not be carried out in its original form, and according to the same sources, these statements calmed the S&P economists and convinced them not to lower the rating or outlook.
It appears that Netanyahu had greater success in his dealings with S&P than he had with the Moody's rating agency. Netanyahu also tried to convince Moody’s not to lower the outlook, but failed. The reason for this lies partly in the timing: Moody's preliminary tour of Israel was held in the midst of the legislative blitz and at the height of the protests across the country. Conversely, Maxim Rybnikov, the chief analyst responsible for Israel's rating at the international rating company, and his team arrived in Israel after Netanyahu stopped the legislative proceedings, and the negotiation teams gathered in the President's residence.
It currently also seems quite clear that the prime minister is trying to abandon the judicial coup and concentrate on the economy and security situation. Under these circumstances, it was easier to convince S&P to avoid downgrading the outlook.
Israeli President Isaac Herzog was also involved in the talks with S&P. Sources close to Herzog said that the president explained to the ratings agency the processes and the dynamics of the compromise talks at his residence.
S&P is set to publish its semi-annual report and the final decision on the rating this Friday. A few days ago, S&P published its monthly snapshot of the credit ratings of all countries and, according to analysis by several experts in the capital market, as well as in the government, all signs point to no change in Israel's rating.
S&P's credit rating is based on individual scores in five parameters: institutional assessment (strength of government institutions and policy quality), economic assessment (GDP, growth, unemployment, etc.), fiscal assessment (divided into budget assessment and government debt assessment), monetary assessment and external assessment (surplus/deficit). Each parameter receives a numerical score ranging from 1 (highest) to 6 (worst).
The focus this time was placed on the institutional assessment, as Rybnikov already has clarified that a change in Israel's institutional system will affect the economy, and hence also the rating.
"If, contrary to the previous situation, the institutional system in Israel enters a consistent path of weakening, including damage to the system of checks and balances, and political power is concentrated too much in the hands of one person or one group, the public debate will also be damaged and it will lead to fiscal policy being less responsible – not just for one year, but become a feature of policymaking. All of these things could become a real ratings risk,” Rybnikov told Calcalist earlier this year.
He added that S&P has “concerns about the fact that the entry of the extreme right into the coalition could cause a worsening of the situation in Gaza and the West Bank and also in relations with the Israeli Arabs. And it's not that the situation was simple before; the situation was already challenging and we saw what happened in Gaza and the West Bank. But our impression is that the risk on this front is increasing and maybe we will see some sort of escalation. This is an aspect we are following very closely."
Rybnikov also noted that: “If it seems that the current institutional arrangements will be particularly weakened, this is something that we will indeed take into account to determine a rating, and it may pose a downside risk. In this regard, we are closely monitoring the consequences of the expected changes in everything related to the Supreme Court. We are also monitoring the coalition's statements regarding the budget and the planned budgetary policy in general."
However, the estimates among the executives who spoke with S&P is that the agency will not lower Israel’s grade in regard to institutional strength as it is already very low at 4. Lowering it to 5 would mean Israel's inclusion in a group of countries that includes – among others – Albania, Armenia, Bangladesh, Bolivia, Honduras and El Salvador. "Israel is neither El Salvador nor Honduras," one source said.
Meanwhile, sources close to Herzog said that, contrary to reports, the person who turned to him for help was not the prime minister but the accountant general at the Ministry of Finance, Yali Rothenberg.
Since the accountant general is responsible for the visits of all the teams on behalf of the ratings companies and is the one who sets their schedules, he has a significant influence on the messages that reach the ears of the raters. The Finance Ministry made sure to have representatives in the room whenever the rating agencies met government officials that previously spoke out against the consequences of the judicial legislation.
On the face of it, Israel's rating should be AA, but Israel gets downgraded to AA- due to the risk of rapid deterioration due an extreme security event such as an all-out war with Iran or a conflict with Hamas, according to S&P. Even if the current operation in Gaza deteriorates into a more serious war against the Palestinian terrorist organizations, it is difficult to see S&P lowering a rating or rating outlook this week. The schedule seems too tight.
The big remaining question is what will happen if it turns out to the S&P economists that Netanyahu was not telling the truth, and he intends to move forward with the reform anyway, or alternatively, that in a few days the security situation will deteriorate. The answer in this case is simple: a rating agency may at any given moment issue a warning, or outlook update, or rating update, without prior notice. It is customary to take advantage of the publication of the semi-annual report to update the rating or outlook if necessary, but if S&P realizes that Netanyahu was not telling the truth, a scenario that is not without precedent, the raters are expected to react accordingly regardless of timing.
It is clear that Netanyahu and Finance Minister Bezalel Smotrich will take advantage of S&P’s decision for their political needs, but in this context it is very worthwhile to delve into the report itself. As in the case with the Moody's report, the important messages will be expressed in simple sentences within the long text, and they will shed a lot of light on the dangers lurking for Israel's economy.