Economists at JPMorgan have sharply revised their outlook for the Israeli economy, presenting a significantly more cautious assessment amid the ongoing war and rising fiscal pressures.
In a new economic review, the bank reduced its 2026 growth forecast for Israel to 4.1%, down from 4.8% projected before the war began. The revision reflects a deteriorating macroeconomic environment caused by the prolonged military campaign, the involvement of Hezbollah, and a surge in defense spending.
The bank also revised its short-term outlook, now expecting a 2% contraction in Israel’s economy in the first quarter of 2026. Just a week earlier, the bank had predicted 1% growth, and two weeks ago its estimate stood at 4.5% growth, underscoring how quickly expectations have shifted.
Despite the downgrade, the bank does not foresee a full economic crisis, but rather a period of worsening economic conditions.
War and Energy Market Pressures Drive Downgrade
According to the report, the change in outlook reflects several developments that have intensified economic risks.
Among them are the prolonged duration of the military campaign, which has already exceeded the length of last year’s 12-day conflict, as well as the escalation on Israel’s northern front following Hezbollah’s involvement.
The bank also warned that the global energy market may suffer more severe disruption than previously estimated, potentially placing additional pressure on both Israel’s economy and the global economic environment.
Although the report still expects economic activity to accelerate again in the second quarter of 2026, analysts now believe the Israeli economy is unlikely to return this year to the strong growth trajectory that existed before the conflict.
Budget Expansion Expected to Push Deficit Higher
A substantial part of the review focused on the fiscal implications of Israel’s newly proposed 2026 state budget.
JPMorgan economists noted that the government’s decision to postpone the controversial mobilization legislation could increase the chances that the budget will pass in the Knesset before the March 31 deadline, potentially avoiding early elections—an outcome viewed as positive for economic stability.
However, the bank expects the budget to lead to a significant deterioration in public finances.
According to the analysis, Israel’s fiscal deficit is expected to rise to 5.1% of GDP, compared with 3.9% in the original plan, largely due to an additional 32 billion shekels allocated to defense spending.
At the same time, the economists pointed out that civilian spending is also expected to rise significantly.
Despite a modest across-the-board budget cut, non-defense spending is projected to increase by about 12%, a pace the bank described as “very high by historical standards relative to sustainable growth.”
The result, according to the report, is a fiscal expansion that extends well beyond defense needs and will likely translate into higher deficits and increased public debt.
Limited Room for Interest Rate Cuts
The fiscal developments also have important implications for monetary policy.
In the report, JPMorgan analysts noted that Bank of Israel recently issued a statement about the budget that appeared to function more as a warning than as an endorsement of the government’s fiscal path.
Although the central bank did not explicitly address interest rate policy, JPMorgan economists said they interpret the message as an indication that future rate cuts could proceed more slowly than previously expected.
The reason, they argue, is that expansionary fiscal policy limits the central bank’s ability to stimulate the economy.
Bank of Israel Caught Between Growth Risks
At the same time, the report highlights growing inflation risks.
Rising commodity prices and disruptions to global supply chains are already increasing short-term inflationary pressures, the bank said.
This creates a policy dilemma for the central bank:
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On one hand, the war is slowing economic activity, which would normally justify lowering interest rates.
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On the other hand, expansionary government spending and inflation risks push policymakers toward a more cautious approach.
As a result, JPMorgan concludes that the Bank of Israel may find itself caught between two opposing forces, deciding to reduce interest rates far more complex than previously anticipated.
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