Should We Worry About The Hong Kong Dollar?

Winter is coming to Hong Kong. The Hong Kong dollar breached its 2007 low today, down to as low as 7.8226, just haircuts away from the 7.85 level that would prompt the Hong Kong Monetary Authority to intervene.
After China decoupled its loosely pegged yuan from the dollar last August, we Hong Kong residents are understandably worried Hong Kong may de-peg its currency as well.

But really, rather than the Hong Kong dollar, we should worry about the Hong Kong economy instead.

First of all, it is highly unlikely Hong Kong would want to rock the boat even though Hong Kong’s economy is more closely tied to China (and so should its monetary policy be). After all, this is the government that lets its citizens kidnapped across the border without consequences.

Second, HKMA has enough gun power to defend its currency when it comes to it. Hong Kong’s foreign reserve is currently at $359 billion, which covers 1.75 times its monetary base. See my last week’s blog for Credit Suisse‘s commentary on the possibility of Hong Kong de-pegging.

But what this means is that Hong Kong has to raise its interest rates to compensate for the Hong Kong dollar outflow, estimated to be around 300 billion Hong Kong dollars, or $38 billion. This certainly is not good news for the Hong Kong economy, especially when it is already in the downturn. In 2015, Hong Kong retail sales, a growth engine in recent years, is expected to slump over 5%, even worse than the SARs epidemic in 2003.

Hong Kong investors are catching up to reality today, sending the Hang Seng Index down 3.1% a new 40-month low. No surprise, Hong Kong property developers tumbled today. Cheung Kong Property fell 5.6%, Wheelock dropped 4.8%, Wharf Holding was down 3.7%.

Year-to-date, the iShares China Large-Cap ETF (FXI) fell 13.5%, the iShares MSCI China ETF (MCHI) fell 13.4%, the iShares MSCI Hong Kong ETF (EWH) was down 10%.