Trade War Hurts Hong Kong Peg

Trade War Hurts Hong Kong Peg

Trade War Hurts Hong Kong Peg

Hong Kong’s de facto central bank said Thursday it had bought up more than US$2 billion worth of local currency to maintain a long-held peg to the US dollar.

Since 1983, the linked exchange rate system is a unique type of exchange rate regime used for the Hong Kong dollar to be pegged with the United States dollar at a fixed rate of HK$7.80 = US$1. In this unique linked exchange rate system, the Hong Kong Monetary Authority (HKMA) authorises the three note-issuing banks (HSBC, Bank of China and Standard Chartered) to issue new banknotes provided that they deposit an equivalent value of United States dollars with the HKMA.

In practice, in the unique linked exchange rate system, the exchange rate of HK$7.80 = US$1, is strictly controlled by the Hong Kong Monetary Authority in the foreign exchange market by controlling supply and demand of Hong Kong dollars in order to influence the exchange rate being fixed. By this arrangement the HKMA guarantees to exchange United States dollar into Hong Kong dollars and vice versa, at the rate of 7.80. When the market rate is below 7.80, the banks will convert United States dollar for Hong Kong dollars from the HKMA, Hong Kong dollars supply will increase, and the market rate will climb back to 7.80. The same mechanism also works when the market rate is above 7.80, and the banks will convert Hong Kong dollars for United States dollars.

By this arrangement, the Hong Kong dollar is backed by one of the world’s largest foreign exchange reserves, which is over 7 times the amount of money supplied in circulation or about 48% of Hong Kong dollar M3 at the end of April 2016.

The intervention — which began Wednesday and was the latest in a series of moves to support the currency this year — comes as the US dollar rockets on the back of turmoil in emerging markets and the ongoing Turkish lira crisis.

The buyout means that the Hong Kong Monetary Authority will have just $12 billion in its reserves by the end of the week, the lowest level in a decade, Bloomberg News said.

Norman Chan, chief executive of the HKMA said the outflow of funds is a “normal and inevitable process for Hong Kong dollar interest rate normalisation”.

On Thursday, the Hong Kong dollar was trading at HK$7.8495 against the US dollar, very close to the edge of its permitted range of HK$7.75-7.85.

Under the city’s Linked Exchange Rate System, the HKMA is required to buy the local currency at HK$7.85 to US$1 to ensure exchange rate stability.

The southern Chinese financial hub has maintained a decades old peg with the US dollar, which keeps Hong Kong at the mercy of Fed policymakers.

The city’s dollar was linked to the greenback in 1983 in a bid to prevent a sell-off as it wobbled over fears about China’s reunification talks with Britain.

The HKMA said it stands ready to issue $1 trillion “Exchange Fund Bills” to release liquidity in order to deal with possible sharp outflow from Hong Kong dollar.

The HKMA last intervened to support the currency in May.

The Hong Kong dollar (Chinese: 港幣; Cantonese Yale: Góng bàih; sign: HK$; code: HKD) is the official currency of Hong Kong. It is subdivided into 100 cents. The Hong Kong Monetary Authority is the governmental currency board and also the de facto central bank for Hong Kong and the Hong Kong dollar.

Under the licence from the Hong Kong Monetary Authority, three commercial banks are licensed to issue their own banknotes for general circulation in Hong Kong. The three commercial banks, HSBC, Bank of China and Standard Chartered issue their own designs of banknotes in denominations of HK$20, HK$50, HK$100, HK$500 and HK$1000, with all designs being similar to the other in the same denomination of banknote. However, the HK$10 banknote and all coins are issued by the Government of Hong Kong.

As of April 2016, the Hong Kong dollar is the thirteenth most traded currency in the world. Apart from its use in Hong Kong, the Hong Kong dollar is also used in neighbouring Macau, where the Hong Kong dollar circulates alongside the Macau pataca.

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S. Jack Heffernan Ph.D. Funds Manager at HEFFX holds a Ph.D. in Economics and brings with him over 25 years of trading experience in Asia and hands on experience in Venture Capital, he has been involved in several start ups that have seen market capitalization over $500m and 1 that reach a peak market cap of $15b. He has managed and overseen start ups in Mining, Shipping, Technology and Financial Services.

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