If you think you’re having a busy March, spare a thought for the folks at Hong Kong’s central bank.
The Hong Kong Monetary Authority is more of a de facto one. Its main function, really, is keeping the city’s financial conditions in sync with the Federal Reserve in Washington. Goal one is maintaining the peg to the US dollar.
That’s becoming easier said than done. The HKMA is making increasingly frequent forays into the currency markets to remind speculators who’s boss. So far this month, it’s bought at least US$1 billion of local currency to preserve its authority.
All that intervening raises two questions. One, how long can this go on? And what might be the fallout for the economy?
The sparring can go on for some time. Officials are sitting on foreign-exchange reserves equivalent to seven times the local currency in circulation, or about US$430 billion. That exceeds Hong Kong’s US$365 billion of annual gross domestic product.
Walking a tightrope
The second question is more complicated. A key reason the Hong Kong dollar is under pressure is that increases in local borrowing costs have lagged US interest-rate hikes. The HKMA is walking a tightrope. Hong Kong’s economic fortunes are uniquely tied to property prices. Keeping pace with Fed tightening could slam real estate values and irk the tycoons who tower over the place.
The same goes for the Hong Kong government’s overlords in Beijing. It’s no secret that Communist Party bigwigs have long spirited their cash – ill-gotten or otherwise – into Hong Kong flats. Leaving party powerbrokers angry over big paper losses is the last thing the city’s leaders need as Beijing is tightening the screws on Hong Kong’s autonomy.
One thing, though, is painfully clear: the dollar peg has outlived its usefulness and it’s become as much of a liability as an asset.
The peg was established in 1983, and with few exceptions – like during the 1997 Asian crisis – it’s been a non-story. In 2005, authorities added some flexibility into the mix, allowing it to trade within a band of HK$7.75 to HK$7.85. That band is becoming harder to maintain as US rates edge higher.
The divergence between Hong Kong and the US is sending capital America’s way. The bigger problem is how tighter monetary policy is exacerbating strains, including the inequality tearing the city’s socioeconomic fabric.
On the one hand, the government of Carrie Lam, in power since July 2017, has done little to level the playing field. Some handouts and tax incentives, but few concrete steps to reduce Hong Kong’s “Gini coefficient,” a key wealth-gap metric.
In 2018, it hit a 45-year high of 0.539. For perspective, Singapore’s is 0.4579; America’s is 0.411. In a September report, Oxfam officials said they were “appalled at the disparity between the rich and poor in Hong Kong.”
One of the forces exacerbating things is the wall of cash flowing in from China, pushing Hong Kong property costs far beyond the reach of middle-to-lower-class families. Millennials, too, a group arguably more inclined than most to hit the streets in protest as inequities worsen.
It’s time Hong Kong admitted how mainland cash is warping powerful socioeconomic dynamics. And adding to the HKMA’s control problems.
As the Fed drains liquidity in Washington, the People’s Bank of China in Beijing is refilling the proverbial punchbowl. The HKMA is caught in the middle of these crosscurrents.
The odds of Hong Kong scrapping the peg are low at the moment. That decision will be made in Beijing by Xi Jinping’s inner circle. And Xi’s men aren’t even hinting at a change. An obvious shift, after all, is to peg the Hong Kong dollar to the yuan. That would be an important step toward the internationalization of the yuan. Yet even this move seems a ways off.
Last year, former HKMA head Joseph Yam made headlines by urging a rethinking of the currency peg. His argument: that “huge” waves of mainland money will increasingly subsume Hong Kong’s “small” economy.
At the very least, Yam said in June, the city should “provide an alternative option in Hong Kong’s new era for its capital markets as we need to ensure Hong Kong’s role as a financial center as China’s market becomes liberalized further.”
That’s central-banker speak for “buckle your seatbelts” as China’s importance increases. It will create even greater waves of capital challenging the HKMA and a dollar peg it’s already struggling to defend. If ever there were a time to brainstorm about a new way forward, it’s now.