Hong Kong’s overnight currency defence costs US$1.2 billion

The Hong Kong Monetary Authority intervened in the foreign currency market to defend the Hong Kong dollar for a second day this week on Wednesday, bringing its total purchases of the local currency since April to about HK$62.4 billion.

The city’s de facto central bank bought HK$9.5 billion (US$1.2 billion) of the currency during New York trading hours as the Hong Kong dollar hit 7.8500 per US dollar, the lower end of its permitted trading band.

The total intervention is expected to reduce the city’s aggregate balance, a measure of banking liquidity, to about HK$117 billion from HK$180 billion in April, when the HKMA first started intervening.

However increasing capital inflows into China’s stock and bond markets through Hong Kong’s financial system are anchoring the city’s borrowing costs, helping to maintain a wide differential between the local borrowing cost and the US borrowing cost, analysts said.

The US-Hong Kong interest rate gap is expected to narrow when the city’s aggregate balance drops to HK$100 billion. The aggregate balance refers to sums held in clearing accounts by local banks for settling payments with other banks as well as payments with the HKMA.

But new channels whereby foreign investors use Hong Kong as a conduit to enter China’s capital market, may mean continued inflows into the city, resulting in a banking system flushed with liquidity despite the HKMA’s intervention, analysts said.

“The HKMA’s intervention is probably not sufficient to tighten banking liquidity much given increasing inflows into Chinese bonds through Hong Kong,” said Christy Tan, Asia head of markets strategy research at National Australia Bank. “The Hong Kong dollar will keep hovering near the weak end for some time.”