Hong Kong’s Interbank Liquidity Halved in the Past Two Months, Amid Currency Defense

Hong Kong Monetary Authority

 A measure of Hong Kong’s interbank liquidity has shrunk by 50% since may as analysts forecast increased cash drainage as the city’s central bank defends its currency.

The Hong Kong Monetary Authority has bought HK$172 billion ($22 billion) of local currency since May 11, shrinking the aggregate balance to about HK$165 billion. That pushed up local interest rates and helped narrow the gap with the US to help the HKMA maintain its dollar peg.

The intervention is draining the city’s liquidity, with Hayman Capital Management’s Kyle Bass claiming it may be depleted by the end of next month. That prompted the monetary authority to defend its currency policy last week. The Hong Kong dollar is prepared to fall under renewed weakening pressure as the Federal Reserve forecast to raise its interest rate by 75 bp at its meeting on Wednesday.

The HKMA’s liquidity withdrawals have pushed the one-month Hong Kong interbank offered rate up by 19 basis points this month to 1.06%, the highest level since May 2020. That has helped to narrow the spread with the London interbank offered rate of the same tenor. The gap between the US dollar and the Hong Kong dollar is about 120 basis points, which makes it easier for traders to deal with the USD compared to the local currency.

Ken Cheung, chief Asian foreign-exchange strategist at Mizuho Bank Ltd. in Hong Kong said, “It appears that the aggregate balance will fall below HK$100 billion after the Fed meeting in September. Hibor will catch up with its US equivalent at year-end.”

“If the one-month Libor-Hibor spread narrows and is sustained at a level below 50 basis points, there may be some relief for the local currency,” said Carie Li,  global market strategist at DBS Bank (Hong Kong) Ltd. Libor isn’t likely to peak until the end of the Fed-rate-hike cycle, she said.

HKMA officials have expressed confidence in the currency peg even as rising interest rates hurt the local property developers. The latter are already pressured by the emigration of Hong Kong residents and the dwindling of the economy caused by covid.

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