Hong Kong dollar will stay stuck to the greenback

892_MW_P04_Markets_Bottom — Hong Kong's banks are awash with cash

Ever since 1983, the Hong Kong dollar has been pegged to the US one. It is allowed to move in a narrow band between 7.85 and 7.75 to the greenback. In the past few days, the Hong Kong dollar has fallen towards the limit of 7.85, prompting the Hong Kong Monetary Authority (HKMA) to spend a total of almost HK$15bn propping it up. It hasn't had to intervene since 2015 when it had to weaken its currency.

The peg means that Hong Kong has to match the Federal Reserve's interest-rate levels, says Christopher Beddor on Breakingviews. However, Hong Kong's banks are so awash with cash that local interbank lending rates are 1.2% below the equivalent US rates. Carry traders have rushed in to exploit the gap, borrowing Hong Kong dollars, selling them, and putting the money in higher-yielding US dollars. That strengthens the latter and weakens the Hong Kong dollar. The HKMA's selling of US dollars and purchases of Hong Kong dollars counteracts the trend and soaks up local liquidity, lowering interbank rates.

Episodes like this don't foreshadow the end of the peg.The HKMA has $440bn of foreign-exchange reserves, more than enough to nudge the local currency off the extremes. The tie to the US dollar has imported loose monetary policy, blowing up a property bubble in the territory. But scrapping the peg would make the Hong Kong dollar more volatile, says Jacky Wong in The Wall Street Journal, thereby adding to the cost of doing business for local and multinational firms based there. Hong Kong will probably move towards a peg with the yuan as the economy gradually converges with the mainland. But this is still many years away: there's no point in establishing a link with Beijing for now because the yuan isn't yet fully convertible. For now, the dollar peg is here to stay.

MoneyWeek

Subscribe to MoneyWeek today and get your first six magazine issues absolutely FREE

Get 6 issues free

https://cdn.mos.cms.futurecdn.net/flexiimages/mw70aro6gl1676370748.jpg

Sign up to Money Morning

Don't miss the latest investment and personal finances news, market analysis, plus money-saving tips with our free twice-daily newsletter