For almost 30 years, Hong Kong’s currency has been pegged to the US dollar within a convertibility zone of 7.75 and 7.85. Under this system, when the exchange rate hits 7.75 the Hong Kong Monetary Authority has to intervene in the foreign exchange market by selling HK$ to meet rising demand for the currency. Stronger capital inflows in recent weeks have led to increased intervention, and has renewed concerns about whether a new round of quantitative easing by developed economies will result in a new wave of liquidity. The author Lu Jiang of JP Morgan analyses the fund flows over the past few years and examines the debate on whether the pegged currency regime should be changed or revalued. Jiang believes a change in the currency regime is unlikely, especially if such a move triggers market instability. However, persistent strong capital inflows can put upward pressure on asset prices as well as inflation, and the lack of monetary flexibility to deal with inflation expectations is a reason why the debate on whether to change the current regime is unlikely to go away.
This article was featured in a recent issue of Current Economics. You can download a sample at www.consensuseconomics.com.