The Cost Israel is Paying For War

Moody's Investors Service has expressed serious concerns about Israel's long-term economic stability after cutting the country's credit rating by two notches. The downgrade, announced on Friday last week, was driven by rising geopolitical tensions and domestic political risks, as Israel's military continues to be engaged in an intense conflict. Moody’s flagged that the ongoing war and the government's policy choices could have lasting consequences for the economy and public finances.

This is the second time this year that Israel’s credit rating has been lowered, with the latest downgrade coming just after Israel conducted a major strike in Beirut, killing Hassan Nasrallah, the leader of the Hezbollah terror group. Though the timing of the Moody's announcement coincided with the military action, the agency clarified that its decision had been prepared in advance.

Speaking to investors following the downgrade, Moody’s noted that while Hezbollah’s capabilities have been weakened after what they described as a "big military success," the agency remains concerned about Israel's future security outlook. Moody’s said Israel lacks a clear exit strategy from the ongoing military conflict, a factor it deems essential to restoring stability and confidence needed for economic growth and investment.

The agency further emphasized the potential long-term effects of the war on Israel’s economic recovery. "We are still very much concerned that Israel has no real exit strategy from the military conflict that would restore a level of certainty and security for Israel in the future, which it said is ultimately essential for investments in the country," Moody's commented.

Domestic Political Risks Highlighted

Moody’s also criticized the Israeli government’s domestic policies, which it claims have heightened social tensions and contributed to the downgrade. The agency pointed out that actions like settler violence in the West Bank, seen by Israel’s own security services as a security threat, and the justice minister’s attempts to weaken the judiciary, have increased political instability in the country.

In addition, Moody’s expressed concern that the government’s political moves could lead to formal or informal trade restrictions and result in weakened international diplomatic support. The rating agency specifically noted that the government’s handling of domestic issues adds to existing geopolitical uncertainties, further straining investor confidence.

War’s Economic Toll

Moody’s projections for Israel’s economic outlook were bleak, noting that growth would not return to pre-war levels anytime soon. The agency warned that increased defense spending, combined with a weakened economy, would further strain public finances in the months to come.

“Moody’s does not expect Israel’s credit rating to go back up very fast, citing a very high level of uncertainty around the country’s longer term security prospects,” the agency noted. The agency also voiced skepticism over whether the government’s coalition partners would support the necessary fiscal tightening measures to manage the increased costs of the war.

The rating agency also criticized the government for increasing the 2024 budget ceiling rather than implementing spending cuts, as recommended by officials in Israel’s Finance Ministry.

Potential for Further Downgrades

Moody’s warned that Israel’s credit rating could face further downgrades if the conflict escalates, particularly if it involves other regional powers such as Iran. They also indicated that a more severe economic downturn or greater financial strain on the public sector could lead to additional credit downgrades in the future.

For now, the agency remains doubtful that Israel will see a rapid recovery. Even if there were a short-term military victory, Moody’s suggests that the deeper, structural challenges facing the country—both in terms of security and political stability—are unlikely to disappear soon.