The Hong Kong dollar was pegged to the Sterling post WWII for economic reasons. It was later switched to the US dollar. Pegging a developing country’s currency to that of its largest trading partner has distinct advantages. You lock in your labour cost advantage which happens to be your greatest development asset. The negative aspect is that you lose control of your domestic monetary policy.
In the mid-Seventies, the US started a cycle of huge monetary stimulus that spawned a high inflationary spiral years later. The medicine used to combat inflation was high interest rate. This resulted in a deep recession for the early Eighties. Hong Kong made a wise decision to unpeg from the USD in 1974. It avoided the malaise that inflicted the US.
In October 1983, Hong Kong repegged its dollar to the USD. This time, it was for political reasons. Hong Kong was to be handed back to the mainland in 1997. Hongkongers were considering moving their wealth out of HKD or the place itself. So, the HK administration decided to repeg to avert such a crisis. The peg of HKD 7.80 to 1 USD has survived with minor modification, till now.
In the last one year, the USD has depreciated against the Yuan. It went from 6.83 Yuan to 1 USD to 6.47. This represents a 5.3 % appreciation of the Yuan or by corollary a 5 % depreciation of the HKD. During this same period, the SGD has moved up against the USD from 1.4 to 1.25. This is a 10.7 % improvement. So, the HKD, vis-à-vis the SGD has depreciated 10.7 % in the last one year. Does Hong Kong need this devaluation to stay competitive?
Already, many Hong Kong residents are converting their savings to the Yuan. Yuan deposits in Hong Kong now total some Y400 billion. This is expected to hit Y2 trillion by the end of 2012. Exposure to property is seen as a way of being long the Chinese currency over time. That is why the property market in Hong Kong is booming. Inflation in Hong Kong is aggravated by the lost of purchasing power of its currency.
Should Hong Kong remove the peg or peg its currency to other currencies? Its basic law requires it to peg to a freely convertible currency. Renminbi is out because it still has capital controls and does not trade freely. There is increasing support to peg to a basket of currencies like Singapore does. The Yuan can be a component of the basket and does not contradict the basic law.
Pundits think that the adoption of the basket will be done soon. When that happens, the HKD is expected to appreciate. So, keep an eye out for this.
Wednesday, June 29, 2011
Monday, June 6, 2011
Whither the Euro?
Will the Euro survive? It all depends on how things pan out in Greece. First, it depends on whether Greece will resolve to push through austerity measures to reduce its budget deficits. Or, are the richer members of the Eurozone (23 nations) willing to support the weakest. Then, Greece could default on its debts. The last option would be for Greece to leave the Euro.
Greece has a debt to GDP ratio of 140%. Its total debt is E340 billion. Its unemployment rate is at a record 15%. It is contemplating selling state-owned enterprises to raise money to pare down the debt. The assets under consideration are its telephone company, post office and ports. These sales could potentially raise E50 billion. Asset sales are an attractive way of cleaning up the public balance-sheet without doing anything that further chokes demand.
On May 20th, Fitch cut Greece’s debt rating by another three notches. Greek ten-year bonds are now giving a yield of 16.8 %. At this rate, Greece cannot afford to borrow anew from the market. (Greece needs funds to redeem its maturing bonds.) So, it will have to depend on the stronger partners for handouts. But the stronger members like Germany and France will face revolt at home if public fund is used to bail out other nations. As such, this is unlikely to happen.
So is default inevitable? A default by Greece would make investors shun Greek debt and make it hard for the country to borrow. A more palatable option would be for the creditors to grant an extension on the maturity of their bonds i.e. roll over their bonds when they fall due. That would keep Greece away from the market for a while. Also, it would give Greece a reduction of 20 to 25% on the present value of their debt. That is tantamount to the creditors taking a haircut on their Greek debt.
What about Greece leaving the Eurozone? Leaving would allow it to inflate its economy, devalue its currency and maintain competitiveness. However, the disadvantages are that it would expand its debt burden, provoke capital flight, cause turmoil across Europe’s banks and endanger its membership of the EU. That would bring more misery to its people. It would be on its own. So, Greece would probably not leave the Euro and the Euro would probably survive.
Greece has a debt to GDP ratio of 140%. Its total debt is E340 billion. Its unemployment rate is at a record 15%. It is contemplating selling state-owned enterprises to raise money to pare down the debt. The assets under consideration are its telephone company, post office and ports. These sales could potentially raise E50 billion. Asset sales are an attractive way of cleaning up the public balance-sheet without doing anything that further chokes demand.
On May 20th, Fitch cut Greece’s debt rating by another three notches. Greek ten-year bonds are now giving a yield of 16.8 %. At this rate, Greece cannot afford to borrow anew from the market. (Greece needs funds to redeem its maturing bonds.) So, it will have to depend on the stronger partners for handouts. But the stronger members like Germany and France will face revolt at home if public fund is used to bail out other nations. As such, this is unlikely to happen.
So is default inevitable? A default by Greece would make investors shun Greek debt and make it hard for the country to borrow. A more palatable option would be for the creditors to grant an extension on the maturity of their bonds i.e. roll over their bonds when they fall due. That would keep Greece away from the market for a while. Also, it would give Greece a reduction of 20 to 25% on the present value of their debt. That is tantamount to the creditors taking a haircut on their Greek debt.
What about Greece leaving the Eurozone? Leaving would allow it to inflate its economy, devalue its currency and maintain competitiveness. However, the disadvantages are that it would expand its debt burden, provoke capital flight, cause turmoil across Europe’s banks and endanger its membership of the EU. That would bring more misery to its people. It would be on its own. So, Greece would probably not leave the Euro and the Euro would probably survive.
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