Transcript The exchange rate system in Hong Kong

The exchange rate system in
Hong Kong
Linked exchange
rate system
Hong Kong is a……
Trading Centre
International Financial & Monetary
Centre
What is the reason make Hong Kong
so Successful?
The Linked exchange rate system
History of Exchange Rate
System in Hong Kong
Date
1863 – 4 Nov
1935
Dec 1935
Exchange rate Reference rate
regime
Silver Standard Silver dollars
as legal tender
Link to
£1 = HK$16
Sterling
(Dec 1935 –
Nov 1967)
Link to
£1 = HK$14.55
Sterling
(Nov 1967 – Jun
1972)
History of Exchange Rate
System in Hong Kong
Date
Exchange rate
regime
Reference rate
6 Jul 1972
Link to the US
dollar with ±
2.25%
intervention
bands around a
central rate
US$1 = HK$5.65
(Jul 1972 – Feb
1973)
Link to the US
dollar
US$1 = HK$5.085
(14 Feb 1973 –
Nov 1974)
History of Exchange Rate
System in Hong Kong
Date
Exchange rate
regime
Reference rate
25 Nov 1974
Free float
Exchange rates on
selected dates
US$1 = HK$4.965
(25 Nov 1974)
US$1 = HK$9.600
(24 Sep 1983)
17 Oct 1983
Link to the US
dollar
US$1 = HK$7.80
History of Exchange Rate
System in Hong Kong
What is Linked Exchange rate
System?
Currency broad system
Pegged the Hong Kong Dollar to
the USD at the rate of 7.80
Two exchange currency markets in
HK (Exchange Fund and open
market )
Ways to fixed the exchange rate
at HK$7.8 = US$1
 Arbitrage activities
• Different in the price of a good in different
market
• Buy the product at the lower price market
• Sell it at the higher price market
 Two kinds of arbitrage activities in
exchange rate system
a) Interest rate arbitrage
b) Currency arbitrage
Interest rate arbitrage
Determined by demand and supply
Speculation against HK Dollar
Demand for HK Dollar would then decrease
HK Dollar would depreciation against USD in
open market
Domestic interest rate would rise and this
would attract back the funds
Demand for the HK Dollar would rise
 Exchange rate would be stabilized
Interest rate arbitrage
Speculation for HK dollar
Demand for HK dollar would rise
Exchange rate of HK dollar to US dollar
would increase in open market
Domestic interest rate would then fall
Demand for HK dollar would fall
Exchange rate of HK dollar would be
stabilized
Currency arbitrage
Exchange rate of HKD fall in
open market
Exchange rate fixed in the
close market
Different of HKD to USD in
open market
How does bankers gain profit?
Sell USD for HK Dollar in open
market
Sell HK Dollar for USD in Exchange
Fund
Exchange rate of HK Dollar for USD
would be stabilized
Why the linked exchange rate
system important to HK ?
1. Suits the needs of a highly open
economy such as Hong Kong’s
2. Enables Hong Kong to adjust to
shocks without the damage and
volatility of a sudden currency
collapse
Why the linked exchange rate
system important to HK ?
3. Provides Hong Kong with a firm
monetary
4. Reduces the foreign exchange risk
faced by importers, exporters and
international investors
The effectiveness of the Linked is
helped by a number of economic
attributes enjoyed by Hong Kong:
1. The structure of Hong Kong
economy is flexible and responsive
2. Hong Kong’s banking system is
strong and solvent, and well able
to deal with the fluctuations in
interest rates
The effectiveness of the Linked is
helped by a number of economic
attributes enjoyed by Hong Kong:
3. The Hong Kong Government
pursues a prudent fiscal policy
4. Hong Kong possesses ample
foreign currency reserves for
supporting the Linked Exchange
Rate System
Advantages of the Linked
Exchange Rate System
Provides a stable, predictable and
well understood monetary system
Suited to Hong Kong’s highly
external and flexible economy
To its position as an international
financial centre
Advantages of the Linked
Exchange Rate System
Enables Hong Kong’s economy to
adjust to external shocks without the
damage
Volatility of a sudden currency
collapse
Provides Hong Kong with a firm
monetary anchor
Reduces the foreign exchange risk
Advantages of the Linked
Exchange Rate System
The Hong Kong dollar exchange rate
has remained stable in the face of
various shocks
Unaffected by the 1987 stock market
crash
Advantages of the Linked
Exchange Rate System
Stable Hong Kong’s economy in the
face of external shocks without the
damage and volatility of a sudden
currency collapse
Advantages of the Linked
Exchange Rate System
Advantages of the Linked
Exchange Rate System
the price level of Hong Kong has
been exceptionally stable:
There had been an increase more
than 10% in price level five times
(1973, 1974, 1979, 1980 and 1981) a
year within the twenty years
Disadvantages of the Linked
Exchange Rate System
Ties Hong Kong to US monetary
policy
The economy of Hong Kong is
directly affected by the monetary
policy of US and US Dollar
The business cycle of Hong Kong and
US might not be indifferent
Disadvantages of the Linked
Exchange Rate System
In 1998, Hong Kong was facing a
depression and a high
unemployment rate
Hong Kong Government might
increase the money supply of Hong
Kong Dollar
Reduce the price of goods in Hong
Kong
Disadvantages of the Linked
Exchange Rate System
To increase the export and decrease
imports
Theoretically, flexible exchange rate
system should be used
Disadvantages of the Linked
Exchange Rate System
But, US Dollar was appreciating
Restricted Hong Kong government to
change the money supply
Obstructed the speed of recovering in
Hong Kong
A great matter when Hong Kong and
US are in alien business cycles
Disadvantages of the Linked
Exchange Rate System
Reduces Hong Kong's ability to deal
with external shocks
• HKMA surrenders its power to adjust the
territory's monetary policy to the U.S. Federal
Reserve
• The currency crisis in Southeast Asia in 1998,
could lead to excessive financial market
volatility whenever there are speculative
attacks on the Hong Kong dollar
Should the exchange rate
system be changed to float?
For:
•The HKMA can get back the
independence of monetary policy
― HKMA can use suitable policy to stabilize
the Hong Kong economy
― The Hong Kong monetary policy has to
follow that of US under the linked
― Use the same monetary policy may cause
serious problems
Should the exchange rate
system be changed to float?
Against:
•The economy in Hong Kong may
greatly fluctuate
• Price level fluctuated greatly in 1970s –
80s
• Lots of money flows in Hong Kong
everyday
Should the exchange rate
system be changed to float?
HKMA does not have necessary
monetary instruments
•The policy of controlling money supply
Should the exchange rate
system be changed to float?
The necessary conditions of changing
the system
•HKMA has the full necessary monetary
policy
•Do not let the market entirely freely
operate
•Notice the change suddenly
Conclusion
The exchange rate system of Hong
Kong has been improving
Stabilize the Hong Kong economy
Brings a basis of being an
international financial centre
There will not be a change in the
system in the following few years
The End