How War Has Impacted the Israeli Shekel and Currency Exchange Rates?

The Israeli shekel (ILS) reflects the country's economic power. It performs better than other currencies in the Middle East. However, the shekel exchange rate is not immune to war and geopolitical tension shocks. The recent war has impacted the Israeli Shekel and Currency rate considerably. 

In this article, we will discover how war impacts the Israeli shekel and why currencies change. We'll also try to forecast what will happen to the USD to ILS exchange rate in the coming times. We'll also provide practical advice for investors, businesses, and tourists to manage these volatile times. 

The Israeli Shekel and Geopolitics 

The shekel is not only a currency. It is an indicator of Israel's economic and geopolitical well-being. The shekel has earned a reputation for stability over the years. The credit goes to Israel's strong tech industry, healthy foreign reserves, and conservative fiscal policies. 

However, when conflict erupts, the shekel exchange rate often becomes a casualty. It reflects the heightened risks and uncertainties associated with war. For example, during periods of military conflict, the shekel has historically depreciated against the US dollar (USD). Because the investors flee to safer assets, this phenomenon indicates the close relationship between geopolitical stability and currency performance.

Economic Conditions Before the War 

The Israeli economy on the eve of the war was experiencing a period of turmoil for political protests against the government's bid to restrict the judiciary. Despite these challenges, economic fundamentals were strong. Economic growth forecast for 2023-2024 was hovering around 3%. The unemployment rate was at a low of 3.5%. The inflation was modest at 3.8%. 

However, the shekel was already losing value against the US dollar (USD) in 2023. The bank's prime interest rate rose to an all-time high of 4.75%. There were also tensions about a potential downgrade of Israel's credit rating and a rising fiscal deficit (1.5% of GDP). While these figures were slightly worse than those of 2022, they were not indicative of a severe economic crisis. However, the war has radically transformed these expectations. It came along with significant ramifications for the shekel exchange rate and the overall Israeli economy.

How War Has Impacted the Israeli Shekel and Currency Exchange Rates 

The Cost of Military Operations 

The economic and financial expenses of war are both direct military expenditures and indirect losses. It runs for the medium and long term. The recall of around 300,000 reservists during the initial stages of the war is one of the most instant expenses. The mobilisation caused the government to spend more money and break up the labor force. It results in a loss of economic output. According to the Ministry of Finance, the direct cost of mobilizing 100,000 reservists is approximately NIS 70 million per day. It also had additional costs for shelter and food. This brought the total to NIS 100 million per day. When accounting for the loss of output, the total cost rises to NIS 200 million per day. 

Overall, the Ministry estimates the daily cost of the war. It includes the equipment, ammunition, and reservists, which is approximately NIS 1 billion. The extensive use of smart missiles and Iron Dome rockets has escalated military expenses. Replenishing these stockpiles after the war will add to the financial burden. The Bank of Israel and the Ministry of Finance estimated the total cost of the war. It reached 250 billion by May 2024.  If the war spills over into Lebanon, this number may increase to NIS 300 billion. 

Declining Economic Growth 

The war had a significant negative impact on Israel's economic growth. Consumption, production, and investment declined sharply in the first two months of the war. It is particularly in the southern and northern regions. This disruption led to a decline of 1.4% in GDP in the second quarter of 2024. 

Business GDP declined by 4.8%. Exports declined by 8.1%, imports by 9.8%, and real estate investment slowed by 16.9%. Both the Bank of Israel and the Ministry of Finance have lowered their growth forecasts for 2023 from 3% to 1.5% and for 2024 from 3% to 1.7%. Other predictors, such as those at the Aaron Institute for Economic Policy, are even more pessimistic, predicting negative growth of -3.1% in 2024, with GDP per capita contracting by 5%. The International Monetary Fund (IMF) also lowered growth expectations for Israel. It projected 0.7% growth in 2024 (from 1.6%) and 2.7% in 2025 (from 5.4%). 

Increasing Budget Deficit 

The conflict has led to a steep rise in Israel's budget deficit. Before the war, the deficit reached 1.3% of GDP in 2023 and 1.1% in 2024. Post-war estimates place the deficit at 3-4% in 2023 and 8% in 2024. The government has also incurred enormous civilian losses, particularly in the south, worth NIS 6 billion ($1.5 billion). Reconstruction and restocking military inventories will necessitate huge defense expenditures, adding further pressure to the budget.

Rising Foreign Debt 

The Israeli government has borrowed unprecedented amounts of money to pay for the war and its aftermath. Government debt increased from NIS 1.04 trillion to NIS 1.25 trillion in the second half of 2024. The percentage of external debt to GDP is expected to rise to nearly 70% from 60% in prior years. It has also increased concerns about Israel's credit rating. Moody's downgraded Israel's credit rating by one notch in February 2024, with another reduction later that year. Standard & Poor's and Fitch have also downgraded Israel's rating, citing the economic consequences of the war.  

Inflation and Currency Depreciation 

The Bank of Israel increased interest rates to 4.5% in 2023 when inflation reached 4%. Conflicting forces resulting from the war have affected inflation. On the one hand, inflation may be lowered by decreased consumption and the predicted recession. However, the shekel's decline in value relative to the US dollar increased the cost of imported products, government spending, and agricultural disruptions, all of which contributed to rising inflationary pressures. Since the beginning of the conflict, the USD to ILS ratio has sharply increased, making the shekel exchange rate particularly erratic. The economic cost of the fighting and the exodus of foreign capital to safer havens are both reflected in this decline. 

Impact on Labor Markets 

The war has impacted Israel's labor markets, especially those that rely on Palestinian and foreign workers, including construction, agriculture, and traditional industries. The activation of reservists has had an impact on the high-tech sector, which employs many people. Despite these obstacles, the total unemployment rate has remained relatively stable at 3.6%, compared to 3.4% before the conflict. However, the employment rate for people aged 15 and older fell from 61.5% in September 2023 to 60.9% in 2024. 

The USD to Shekel Forecast 

Predicting the future of the USD to ILS exchange rate is challenging, given the volatile nature of the region. On February 23, 2025, the exchange rate was approximately 1 USD, equal to 3.5476 ILS. WalletInvestor projects a smaller increase to 3.726 ILS per USD whereas Trading Economics predicted 3.70 ILS for the end of Q1. They further state the rate will reach 3.90 within a year's time. However, several factors will likely influence the shekel’s performance in the coming months and years: 

1. Geopolitical Developments 

Any escalation or de-escalation of conflict will have an immediate impact on the shekel exchange rate. A peaceful resolution could boost investor confidence and strengthen the shekel, while further conflict could lead to additional depreciation. 

2. Global Economic Trends 

The strength of the US dollar in global markets will also play a role. A strong USD, driven by Federal Reserve policies or global risk aversion, could weigh on the shekel. 

3. Domestic Economic Policies 

The Bank of Israel’s monetary policies will be critical in determining the shekel’s trajectory. Measures to stabilize the currency, such as interest rate adjustments or foreign exchange interventions, could provide support. 

4. Economic Resilience 

Israel’s ability to maintain economic growth and attract foreign investment will be key. The country’s thriving tech sector and strong institutional framework could help cushion the impact of war on the shekel. 

Conclusion 

The war has had profound economic consequences for Israel, from declining growth and rising deficits to currency depreciation and inflation. While the shekel exchange rate has been particularly volatile, the long-term outlook will depend on Israel’s ability to stabilize its economy and restore investor confidence. Understanding these dynamics is crucial for investors, businesses, and travelers. It will help them to navigate the challenges of a volatile foreign exchange market. Despite the current difficulties, Israel’s economy remains resilient, with strong sectors like high-tech and defence exports providing a foundation for recovery.