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The exchange rate system in Hong Kong

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  1. The exchange rate system in Hong Kong Linked exchange rate system

  2. Hong Kong is a…… • Trading Centre • International Financial & Monetary Centre • What is the reason make Hong Kong so Successful? The Linked exchange rate system

  3. History of Exchange Rate System in Hong Kong

  4. History of Exchange Rate System in Hong Kong

  5. History of Exchange Rate System in Hong Kong

  6. History of Exchange Rate System in Hong Kong

  7. 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 )

  8. 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 • Interest rate arbitrage • Currency arbitrage

  9. 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

  10. 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

  11. 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

  12. 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

  13. Why the linked exchange rate system important to HK ? • Suits the needs of a highly open economy such as Hong Kong’s • Enables Hong Kong to adjust to shocks without the damage and volatility of a sudden currency collapse

  14. Why the linked exchange rate system important to HK ? • Provides Hong Kong with a firm monetary • Reduces the foreign exchange risk faced by importers, exporters and international investors

  15. The effectiveness of the Linked is helped by a number of economic attributes enjoyed by Hong Kong: • The structure of Hong Kong economy is flexible and responsive • Hong Kong’s banking system is strong and solvent, and well able to deal with the fluctuations in interest rates

  16. The effectiveness of the Linked is helped by a number of economic attributes enjoyed by Hong Kong: • The Hong Kong Government pursues a prudent fiscal policy • Hong Kong possesses ample foreign currency reserves for supporting the Linked Exchange Rate System

  17. 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

  18. 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

  19. 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

  20. 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

  21. Advantages of the Linked Exchange Rate System

  22. 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

  23. 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

  24. 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

  25. Disadvantages of the Linked Exchange Rate System • To increase the export and decrease imports • Theoretically, flexible exchange rate system should be used

  26. 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

  27. 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

  28. Forecast

  29. 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

  30. 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

  31. Should the exchange rate system be changed to float? • HKMA does not have necessary monetary instruments • The policy of controlling money supply

  32. 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

  33. 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

  34. The End