Howard Lee, Deputy Chief Executive, Hong Kong Monetary Authority
Since its first triggering last week, the weak-side Convertibility Undertaking (CU) was triggered repeatedly in the past few days. The HKMA bought HK$51 billion in 13 transactions in the forex market so far. The Aggregate Balance of the banking system will reduce accordingly as a result of the transactions. The frequency and scale of the forex transactions are broadly in line with our analysis and expectations. When the strong-side or weak-side CU was triggered in the past, these forex transactions usually persisted for some time.
Recently, especially over the past week, the HKMA has closely monitored market activities. We found the market operating in a smooth and sound manner. Under the Linked Exchange Rate System (LERS), when the interest rate spreads between HKD and USD reach a certain level, market participants will conduct carry trades through selling of the HKD in either the spot or the forward market. These carry trade activities are well within expectations under the LERS.
Based on the HKMA’s market surveillance, there are no large-scale short-selling of the HKD or sizeable positions speculating that the HKD will weaken significantly away from the weak-side CU level. Rather, the media and analysts have shown very strong confidence in the HKMA’s commitment to maintaining the stability of the HKD and the LERS.
The HKMA will stay alerted. We will continue to monitor the market situation closely and duly address abnormal market situations as necessary.
Some media recently raised the question as to whether the Aggregate Balance will fall to zero as funds keep flowing out of the HKD. As the Aggregate Balance shrinks, interest rates should gradually go up. With the triggering of the weak-side CU of HK$50 billion in the past few days, HIBOR of different tenors have gone up gradually. For instance, the overnight HIBOR rose by 10 basis points from last week while one-month HIBOR rose by 12 basis points. This situation is expected to continue. In addition, as HKD interest rates rise, the scale and incentive for capital flowing out of the HKD would reduce; the HKD would stabilise.
There is no need to be concerned about abrupt surges in HKD interest rates as the Aggregate Balance starts to shrink. Relative to the HK$150 billion of Aggregate Balance, the current outflow of HK$50 billion may look sizeable, but comparing it against the over HK$1 trillion inflows into the HKD system in the past few years, the HK$50 billion is actually quite small. Besides, banks hold a sizeable amount - about HK$1 trillion - of Exchange Fund Bills and Notes (EFBNs). When liquidity tightens, banks can use the EFBNs to obtain HKD liquidity via the discount window. The HKMA also has arrangements to adjust the amount of EFBNs and increase the Aggregate Balance so as to release liquidity back to the market should liquidity become so tight that market functioning is impaired.
The triggering of the weak-side CU in the past few days has taken place as designed. The market continued to operate smoothly, and market confidence in the HKMA and the LERS remained strong. The current outflow only accounts for a small portion of the HK$1 trillion inflows in the past few years. As outflows continue, interest rate will adjust. The public should pay attention to the upward movements of interest rates. The HKMA will continue to monitor the market closely, and ensure the stability of the HKD and the smooth functioning of the market.