By Steven Scheer
EILAT, Israel (Reuters) - Israeli interest rates will remain low as long as global rates stay at low levels, incoming Bank of Israel Governor Karnit Flug said on Wednesday.
Flug has been acting central bank chief since Stanley Fischer stepped down at the end of June. Under her leadership, she surprised markets by lowering Israel's benchmark rate by a quarter-point to 1 percent in late September. The bank held rates in its latest decision on October 28.
"As long as monetary policy in developed countries, particularly the United States, is expansionary, our interest rates will also remain low," Flug said at an economic conference.
Flug, whose remarks were broadcast via video link, said very low inflation has made it possible for easy monetary policy but such rate levels encourage taking mortgages in the absence of other investments and lead to higher housing prices.
She said the low rate environment was one of the main short-term challenges for Israel's economy.
Israel's cabinet has already approved Flug for the post of Bank of Israel governor and she only needs the country's president to officially install her. That is expected next week.
Flug hinted that the Bank of Israel would reduce the amount of foreign exchange intervention to prevent the shekel from appreciating rapidly. A strong shekel harms exports, which account for 40 percent of economic activity.
She noted that intervention was just a temporary measure and exporters need to adapt and adjust to the reality.
"Ultimately, exporters will have to deal with the appreciation through productivity and efficiency," Flug said. "Once global economic conditions return to normal, there will be less than a need to intervene."
Since 2008, the Bank of Israel has bought about $50 billion of foreign currency, pushing its forex reserves to a record of near $80 billion.
Part of the dollar's recent strength stems from the start of natural gas production this year - meaning there is little need for gas imports and an improved balance of payments. The central bank is separately buying dollars to offset the impact to the current account, after what Flug called an "over-reaction" by the market to the gas output.
"There are some who think there can be a strong economy and a weak currency but that probably won't happen," she said.
On fiscal policy, Flug said that taxes will have to rise as long as the government wants to spend on providing services similar to other Western countries and Israel continues to have a high defense burden.
She also said Israel could achieve both banking stability along with increased competition in the sector.
(Additional reporting by Ori Lewis; Editing by Jeremy Gaunt)