Sky-high rates one way to defend HK-US dollar peg, says creator

HONG KONG is willing to tolerate sky-high borrowing rates and near-term economic pain to defend its currency peg with the US dollar in the wake of renewed attacks by speculators.

John Greenwood, the architect behind the currency board mechanism created in 1983, said the Hong Kong Monetary Authority (HKMA) “would be willing to let Hong Kong dollar rates to rise to whatever level necessary to maintain the fixed exchange rates”.

He added: “There’s a cost, but the dislocation caused by a fluctuating currency would have a much bigger impact on domestic prices, import costs and capital markets.”

Hedge fund titans Bill Ackman and Boaz Weinstein are shorting the currency to test and profit from that pain threshold. Ackman, the billionaire founder of Pershing Square Capital Management, said the peg no longer made sense for Hong Kong. He was referring to a Bloomberg Opinion column which argued that the social and economic toll of maintaining the link is too much to bear.

While financial conditions appear ripe for bears to emerge, Greenwood said those speculators underestimate the HKMA’s willingness to preserve the peg. After all, the range-bound currency tied to the US dollar remains the city’s biggest draw for doing business with mainland China.

For the better part of this year, the Hong Kong dollar has traded at the weak end of the HK$7.75 to HK$7.85 band. This has prompted the HKMA – Hong Kong’s de facto central bank – to step in to buy local dollars, sending borrowing costs higher. The three-month Hong Kong interbank offered rate now sits at 5.27 per cent, the highest since 2007. The economy has also taken a hit after a prolonged Covid exit, with growth expected to decline more than expected this year into next.

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Still, these signs of distress have yet to convince officials to change their official stance: Hong Kong does not need nor intend to change its linked exchange rate system in response to Ackman’s comments, said the HKMA.

“As long as the Hong Kong authorities maintain high interest rates to attract flows, there will always be liquidity to counter those shorts,” Greenwood said. “They would allow domestic rates to rise as high as the sky rather than undermine 40 decades of currency stability.” BLOOMBERG