(Approved for Issue by the Exchange Fund Advisory Committee on 3 June 2010)
Report on Currency Board Operations (30 December 2009 - 9 April 2010)
The Sub-Committee noted that the Hong Kong dollar exchange rate had weakened to around 7.77 in January 2010 reportedly due to repatriation of initial public offering proceeds and fund outflows amid signs of a monetary tightening in Mainland China, before strengthening slightly towards the end of the review period because of renewed speculation about an appreciation of the renminbi. The Hong Kong dollar interbank interest rates had remained stable at near-zero levels, with their negative spreads against US dollar interest rates moving within a narrow range.
2. The Sub-Committee noted that the Monetary Base had climbed from HK$1,009.34 billion to HK$1,023.99 billion during the period under review, driven by an increase in the Certificates of Indebtedness partly because of stronger demand for banknotes ahead of long holidays.
3. The Sub-Committee noted that, in accordance with Currency Board principles, changes in the Monetary Base had been fully matched by corresponding changes in foreign reserves.
4. The report on Currency Board operations for the period under review is at Annex A.
Monitoring of Risks and Vulnerabilities
5. The Sub-Committee noted that while the effects of the global financial crisis appeared to be subsiding, credit and financial markets were still faced with considerable risks. Notably, sovereign risks would heighten if the problem of fiscal slippage intensified in Europe.
6. In the US, the economy seemed to have settled at a lower pace of recovery than the growth recorded in the fourth quarter of 2009, with consumer spending showing signs of a gradual recovery and labour market conditions stabilising. The economy in the euro area had been on a slow recovery track. In the UK, labour market conditions had remained weak and the deterioration in public finances had brought about some longer-term concerns over fiscal sustainability. Real activity in the Japanese economy had continued to improve, albeit slowly.
7. The Mainland economy had continued to expand at a firm pace. Domestic demand had remained the major driving force for GDP growth and exports had continued to recover. The Mainland authorities had introduced some measures to stabilise the property markets but their effectiveness remained to be seen.
8. In Hong Kong, high frequency indicators suggested that growth momentum was likely to be sustained in the first quarter of 2010. The labour market had continued to improve, while inflationary pressures had been picking up. The risk of overheating in the property market had somewhat increased, with major indicators such as prices, transaction volume and the affordability index having returned to their pre-crisis levels.
9. The Sub-Committee also noted an analysis of confirmor transactions and speculative activities in the Hong Kong housing market. The analysis noted that confirmor transactions alone might no longer be sufficient to indicate speculative activities in the markets.
An Analytical Framework for the Hong Kong Dollar Exchange Rate Dynamics under Strong Capital Inflows
10. The Sub-Committee noted a paper proposing an analytical framework for examining the reasons causing the movements of the Hong Kong dollar exchange rate in the face of massive capital flows notwithstanding the strong credibility of the Linked Exchange Rate system. The proposed framework suggested that the expected change of the Hong Kong dollar exchange rate depended not only on the risk-free interest rate differential between the Hong Kong dollar and US dollar, but also the difference between the expected rates of returns on risky assets, notably equities, in Hong Kong and the US. It also suggested that while an increase in the Hong Kong dollar interest rates could act as a counter-factor, the increase would need to be substantial in order to offset the effect of the Hong Kong equity market.
Hong Kong as an Offshore Renminbi Centre: Implications for the Hong Kong Dollar
11. The Sub-Committee noted a paper suggesting that the increasing use of the renminbi in Hong Kong was unlikely to affect the stability of the Hong Kong dollar. The paper also suggested that the use of foreign currencies, including the renminbi, in Hong Kong for financial market activities could help reduce fluctuations in the Hong Kong dollar exchange rate and interest rates arising from cross-border money flows.
For further enquiries, please contact:
Yokee Wong, Manager (Communications), at 2878 1213 or
Natalie Wu, Officer (Communications), at 2878 8246
Hong Kong Monetary Authority
4 June 2010
