CE/MA remarks after FOMC Meeting

Last night, the US FOMC made a 25 basis points rate hike. This morning, the HKMA also adjusted our Base Rate for the Discount Window by 25 basis points to 2%.

While the US rate hike is expected by the market, it is worth noting that yesterday, the US Fed also lifted their economic forecasts and median projection on US interest rates for 2018 and 2019. In particular, among the 15 FOMC participants, seven of them saw US interest rates rising by at least four times this year, six of them saw by three times, and two of them saw by less than three times. This shows some divergence in terms of interest rate projection within the Fed.

I see some uncertainties in the path of US inflation and interest rates. First, although US unemployment rate is currently low (4.1%), an acceleration in economic growth and tightening of labour market may cause wages to rise faster than expected. This will affect US prices and inflation. Secondly, there are growing risks of large scale trade conflicts and disputes. Should this materialise, it will affect the economic and inflation outlook.

Arising from last night’s interest rate hike, the gap between HKD and USD interest rates widened further. This is expected to create more incentives for carry trades. The HKD exchange rate has weakened recently, and is only some 40 to 50 pips away from the weak-side Convertibility Undertaking rate of 7.85. The rise in US interest rates may lead to the triggering of weak-side Convertibility Undertaking in the short term. If so, the HKMA will buy HKD and sell USD, the Monetary Base will shrink, thereby creating a conducive environment for HKD interest rates to normalise. The HKMA reiterates that we will act to ensure that the HKD exchange rate will not weaken beyond HK$7.8500 to one USD. This is part of the design and operations of the Link Exchange Rate System. There is no need to be concerned.

Although the HKD interbank, savings, and borrowing interest rates have not risen as much as their USD counterparts, HKD interest rates will eventually normalise. It is not reasonable to expect that HKD interest rates will stay low for prolonged period. When taking out a loan, one should take into account different factors, and manage risks prudently.