Hong Kong’s central bank has intervened to strengthen the city’s currency and defend its US dollar peg for the first time since 2019, threatening to raise borrowing costs while the financial hub’s economy is still reeling from harsh Covid-19 restrictions.
The Hong Kong Monetary Authority announced on Thursday that it had bought almost HK$1.6bn (US$202mn) to shore up the Hong Kong dollar after it fell to the lower limit of HK$7.85 against the greenback during New York trading hours on Wednesday.
Officials in Hong Kong had expected the currency to test the weak end of its trading band, with HKMA chief Eddie Yue noting this month that the recent weakening of the exchange rate was the result of higher US interest rates, which had led to “capital outflow from the city”.
To maintain the peg, which was established in 1983 and has successfully weathered multiple financial and political crises, the HKMA is required to effectively import US monetary policy.
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The central bank buys up Hong Kong dollars when outflows push the currency to the trading band’s weak end. This leaves local banks with fewer funds for short-term lending and eventually drives up local interest rates, encouraging investors to buy and hold Hong Kong dollar assets. The opposite is done when the exchange rate hits the band’s stronger end of HK$7.75.
But analysts said ample liquidity in Hong Kong’s interbank market had kept local rates from rising to fully match those in the US, prompting investors seeking higher returns to shift into US dollar assets. Even so, few expected the peg to face any imminent threat.
“The peg is going to hold,” said Kelvin Lau, senior economist for Greater China at Standard Chartered. “While there’s a bit of concern about capital outflows and [Hong Kong dollar] assets not performing well, in the end, the main reason for the currency weakness we’ve been seeing . . . is the interest rate differential.”
The case for global investors to hold Hong Kong dollar-denominated assets had already weakened over the past twelve months. Chinese tech groups that account for a growing share of the city’s stock market have been pummeled by a regulatory crackdown from Beijing.
Prices in Hong Kong’s infamously expensive property market have also buckled under pressure from harsh Covid-19 restrictions that sent the economy into sharp contraction during the first quarter. More than 150,000 residents have left the city in recent months.
When Hong Kong’s rates do finally rise, they are expected to weigh on any nascent economic recovery fostered by recent moves to ease Covid-19 restrictions.
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The city’s substantial business ties to China are also expected to drag on growth as intensifying lockdowns in cities including Shanghai have triggered economic tumult on the mainland.
Lau, at StanChart, said that rising interest rates would be “certainly inconvenient” for Hong Kong’s weakened economy. But he added that “the biggest headwind is the Covid restrictions . . . those are still the main thing holding back Hong Kong from recovering faster”. Source: Financial Times...