By Steven Scheer and Tova Cohen
JERUSALEM, May 24 (Reuters) - Israel should aim to reduce its budget deficit from 2020 by cutting tax benefits and other measures, the International Monetary Fund said in its preliminary annual report published on Friday.
After a visit by IMF staff to Israel this week, the fund said it expected Israel's budget deficit to reach at least 3.5% this year, up from 3% in 2018.
Current policies implied further deficit increases in coming years, but Israel should target getting the deficit down to 2.5% of GDP in 2020, the IMF said.
"Leaving debt on a rising path will constrain Israel's ability to use fiscal policy to cushion shocks to the economy," the fund said in the report.
It noted that Israel's healthy economy gave the government room to take steps in the 2020 budget, such as trimming the deficit through cutting tax benefits, raising revenues and improving spending efficiency.
Monetary policy remains accommodative, with the key interest rate at 0.25%. Inflation has risen from low levels, to remain just above the floor of the government's 1-3 percent target range since mid-2018.
A further increase in inflation is expected in the next few years, although this is subject to risks from global growth, together with uncertainties around the impact of rising wages and increased competitive pressures in Israel.
"In that context, it is appropriate that the Bank of Israel has indicated that future interest rate rises will be gradual and cautious," the IMF said.
Israel's economy remains solid, the IMF said, with output rising by 3.2% in the year to the first quarter of 2019, and similar growth is expected for 2019 as a whole.
Export growth, led by high-tech services, declined little despite a weakening global economy, but fixed investment slowed as falls in housing construction outweighed strong machinery spending. Job creation exceeded 2% in 2018, keeping unemployment at historic lows of about 4%.
The IMF noted that Israel’s banks did not become a drag on growth during the global financial crisis. Earlier IMF reports noted that Israel takes a very rigorous approach to banking supervision, contributing to financial stability.
Approving legislation for a new parliamentary Financial Stability Committee has helped close regulatory and supervisory gaps across the financial system, the IMF said.
"Any new legislation should remain consistent with international principles for effective bank supervision, especially by preventing government or political interference that compromises the operational independence of the (banking) supervisor," it said.
Faster productivity gains are needed to sustain solid increases in Israeli household incomes, while further progress is needed on cutting regulatory costs and uncertainties that discourage business investment.
(Reporting by Steven Scheer and Tova Cohen; Editing by Susan Fenton)
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