Hong Kong dollar nears weak end of peg as trade war costs mount

Hong Kong’s currency is once again approaching the weak end of its trading band against the greenback, after a reprieve last month.

Falling demand for Hong Kong assets amid an escalation of tensions between China and the U.S. is weighing on the currency, and the gap between city’s and U.S. borrowing costs has widened after narrowing in April. This makes the local dollar more appealing to short.

Further weakness will likely prompt the Hong Kong Monetary Authority to resume interventions, after spending HKD22.1 billion (USD2.8 billion) defending the currency in March. That would reduce interbank liquidity at a time when the local economy is struggling as a fragile global outlook and the trade war damps activity.

The Hang Seng Index has retreated almost 5 percent in May. The gap between the borrowing costs on the Hong Kong dollar and the greenback has widened to about 70 basis points after falling to 34 in mid-April. A wider spread spurs traders to sell the local currency and put the proceeds in the higher-yielding greenback.

The weaker stock market will add downward pressure on Hibor, helping to widen the spread with Libor and increasing pressure on the Hong Kong dollar, said Samuel Tse, an economist at DBS Bank Ltd. in Hong Kong.

“If stock market weakness is sustained, that means the Hong Kong dollar will depreciate further and that will trigger HKMA intervention,” he said. Livia Yap, Bloomberg