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Hong Kong Weakens Local Currency Again
Source: http://www.bbc.co.uk/news/business-20053768
Source Date: Thursday, October 25, 2012
Focus: Institution and HR Management
Country: China
Created: Oct 24, 2012

Hong Kong's central bank has intervened in financial markets again, weakening the value of its currency after it jumped in value.

This follows similar moves on Sunday and pushes the total cost of intervention in the past week to 14.3bn Hong Kong dollars ($1.85bn; £1.16bn).

Hong Kong limits the amount its currency can gain or fall to help maintain market and export stability.

The bank said that it may have to keep intervening to keep its currency cheap.

This is because weak economic conditions in the US and Europe have prompted many investors to look for better-performing assets in markets such as Hong Kong.

"We expect net inflows into the Hong Kong dollar will continue for some time," the Hong Kong Monetary Authority (HKMA) said in a statement.

"Since the US Federal Reserve's launch of the third round of quantitative easing, demand for Hong Kong dollars has increased and similar rises are also noted in other currencies within the region," it said.

The Hong Kong dollar is pegged at HK$7.80 to one US dollar, but can trade between HK$7.75 and HK$7.85.

Under the terms of the peg, the HKMA must intervene when the Hong Kong dollar hits either the upper or lower limit.

Old-fashioned system?

Hong Kong has maintained its currency's peg to the US dollar for the past 30 years.

While the peg has helped it steer its way through tough times, such as the Asian financial crisis in the late 1990s and the global financial crisis in 2008-09, questions have been raised about its effectiveness in the current global environment.

Critics have argued that by being linked to the US dollar, Hong Kong's monetary policy is heavily influenced by that of the US.

They say that given the difference in the economic conditions between the two, this is not in the best interests of Hong Kong.

The US economy has been going through a rough patch. In a bid to boost growth, it has maintained interest rates at between zero and 0.25% since December 2008.

Given its currency peg, Hong Kong has also had to keep its interest rates low, not least because higher rates would be likely to result in a surge in capital inflows to the territory and put pressure on its currency.

Analysts say the peg and the resulting low interest rates have played a role in the recent boom in housing prices in Hong Kong, raising fears of asset bubbles being formed.

"They have a phenomenally bubbly housing market - more prone to boom and bust - and a part of that is due to the peg of the US dollar," Sean Callow, a senior currency strategist at Wetspac told the BBC.

"Right now they have a stable currency, but a volatile economy."

'Snowball effect'

While the recent strength in the Hong Kong dollar has been mainly due to capital inflows resulting from the US quantitative easing programme, some analysts say that other factors may have also played a part.

"There is speculation that markets may be trying to force the HKMA's hand in breaking the peg," said Andrew Robinson a currency analyst at Saxon Capital Markets.

He explained that the recent strength of the Hong Kong currency may have prompted some players to put further pressure on it in an attempt to get the authorities to break the existing peg.

"We call it the snowball effect - the momentum suggests that it may be vulnerable and they try and push their luck," Mr Robinson said.

However, he added that it was highly unlikely that the HKMA would lose the peg anytime soon.

"Given how vehemently they have protected the peg, there is no reason why they would not stick to it."
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