Editor’s note: This is general educational information about how inflation indexation works in government bonds, based on the official filings and regulations listed at the end. It is not investment advice and is not a recommendation about any security.
Analysis: the gap between the two curves is a price, not a forecast
The most quoted use of having both instruments is the spread between them. The State of Israel’s filing defines it in exactly those terms, describing inflation expectations as measured by the difference between the yields of indexed and non-indexed government bonds, and deriving the real interest rate from the policy rate and that measure. This is the standard construction, and its limits are worth stating as plainly as its use.
The spread is a market clearing price for two instruments, not a survey of what anyone expects. It moves when the relative supply of the two types changes, and Israel has changed that supply deliberately over three decades. It moves when one leg is easier to trade than the other, and with 31 marketable series concentrated into large benchmarks the indexed and non-indexed lines are not equally deep at every maturity. It moves when investors pay for insurance rather than for a forecast, since a buyer of an indexed bond is buying protection against an outcome, and protection carries a premium in periods when inflation has recently surprised, such as the run from 4.4 percent in 2022 to 3.0 percent in 2025.
There is also a lag that no yield spread reveals. Indexation is applied through a reference index number for a given date, which means the index used in a payment always refers to a measurement taken earlier. A holder is compensated for measured past inflation on a defined schedule, not for inflation as it happens.
What a careful reader can take from the official documents is narrow. They establish the formula, the direction of the Israeli portfolio shift and its size, the current mix, and the definition of the breakeven measure. They do not establish which structure produced a better outcome over any period, and they do not support treating a breakeven number as a forecast. The measure worth following is the indexed share of new issuance rather than of the stock, since the stock changes slowly and the issuance calendar is where the state’s current view of who should carry inflation risk actually shows up.
What the documents say
Two bonds issued by the same government, on the same day, can promise very different things. One repays a fixed number of shekels whatever happens to prices. The other repays a number of shekels that is recalculated from a published price index before every payment. Israel has sold both for decades, and the mix between them has shifted so far that the sovereign’s own filings now describe a debt portfolio that looks nothing like the one it had a generation ago. Understanding the mechanism explains both the shift and the number that traders read off the gap between the two curves.
The indexation mechanism, written as arithmetic
Indexation is not a promise, it is a formula applied to the cash flows. The clearest published statement of that formula is in the United States rules for inflation-protected securities, which work the same way Israeli indexed debt does. The index ratio is defined as the reference consumer price index of a particular date divided by the reference index of the original issue date, and the inflation-adjusted principal is the par amount multiplied by that ratio. The coupon rate never changes; it is applied to a principal amount that has already been restated.
The consequences follow mechanically. The United States Treasury explains that unlike other Treasury securities, where the principal is fixed, the principal of an inflation-protected security can go up or down over its term, that the coupon is paid every six months on the adjusted principal so the cash amount of each payment varies, and that at maturity the holder receives the increased amount if the principal is higher than the original amount and the original amount otherwise. The quoted rate is fixed at auction and is never less than 0.125 percent, and the auction rules allow bids at a negative real yield. That last detail is the sharpest illustration of what an indexed bond quotes: a real return, with the inflation component stripped out and handled by the formula, which is why the quoted rate can sit at or below zero without the instrument being irrational.
A non-indexed bond does none of this. Its coupon and its principal are stated in nominal currency and stay there. Whether the holder gains or loses in purchasing power terms is decided after the fact by inflation the bond does not observe.
What Israel actually issues, and how the mix changed
The Israeli government’s own annual filing sets out the shift plainly. Between 1995 and 2025 the consumer price indexed component of the aggregate marketable domestic debt portfolio fell from 81 percent to 37 percent, while the dollar denominated component fell from 10.1 percent to 0 percent. Over roughly the same span the Ministry of Finance consolidated bond lines and increased the average size of each benchmark tranche: the number of marketable bond series dropped from 152 in 1998 to 31 at the end of 2025, and the average series size rose from NIS 1 billion to roughly NIS 27.4 billion. In 2025, three series matured and four were issued.
Two separate decisions sit inside those figures. The first is about who carries inflation risk. A government that funds itself with indexed debt has transferred that risk to itself and away from the buyer; moving from 81 percent to 37 percent indexed means the state now carries much less of it. The second is about liquidity. Fewer, larger series means each line has more of the market trading in it, which is the stated purpose of the consolidation, and it is visible in turnover: average daily trading volume in government bonds reached $1.029 billion in 2025, an increase of 11.8 percent on the previous year.
The macroeconomic backdrop for that mix is a country with an explicit inflation target of 1 percent to 3 percent. Average annual inflation was 1.3 percent between 2014 and 2024, then 4.4 percent in 2022, 4.2 percent in 2023, 3.1 percent in 2024 and 3.0 percent in 2025, returning to the target range. The Bank of Israel policy rate moved with it, from 0.1 percent in April 2020 to 3.25 percent by the end of 2022 and 4.75 percent in May 2023, before easing to 4.5 percent in January 2024 and 4.25 percent in December 2025.
