16 July 2019
Ample liquidity continues to keep Hong Kong home prices at high levels. Photo:  HKEJ
Ample liquidity continues to keep Hong Kong home prices at high levels. Photo: HKEJ

Why Fed balance sheet reduction won’t hit HK home prices much

The Centa-City Leading Index, a gauge of secondary housing prices in Hong Kong, eased last week. That marked the first decline after a 19-week rally but does that mean a meaningful correction is around the corner?

Hong Kong’s home market has gone through two bull cycles since 1984. The second bull cycle started in July 2003 due to a combination of factors, including a sharp downturn in the previous year, economic recovery as well as the influx of money due to global monetary easing.

Hong Kong’s monetary base has soared more than four times since the Federal Reserve started its QE (quantitative easing) program. By contrast, the monetary base in the US expanded by 3.8 times in the same period.

If the city’s housing price boom is largely due to fund inflows and abundant liquidity, it is unlikely to reverse unless the situation changes drastically.

Now that the Fed has hiked interest rates four times and would start to reduce its balance sheet later this year, is that a prelude to a much tighter monetary environment? Perhaps not.

So far, Hong Kong’s monetary base remains above HK$1.6 trillion. Therefore, the Fed’s rate hikes have had little impact on the massive capital parked in Hong kong.

Meanwhile, the Fed’s pace of reducing its balance sheet is going to be quite gradual.

According to the plan, the initial cap for the reduction of the Fed’s Treasuries holdings would be set at US$6 billion per month, increasing by US$6 billion increments every three months over a 12-month period until it reached US$30 billion per month.

For agency debt and mortgage-backed securities, the cap will be US$4 billion per month initially, rising by US$4 billion at quarterly intervals over a year until it reached US$20 billion per month.

Such slow and prudent approach is unlikely to bring any immediate shock or trigger any substantial capital outflow in Hong Kong.

Also, normalization of the Fed’s balance sheet would support the US dollar and thus may put pressure on the Chinese yuan.

We have seen notable fund inflows from China after the one-off exchange rate reform in August 2015. That means if the yuan weakens, more mainland capital may flow into Hong Kong, offsetting the impact of the Fed’s balance sheet reduction exercise.

A major pullback of home prices does not look likely. Small adjustments, however, could be possible, given the very high private company borrowing ratio and the significant amount of purchasing power already absorbed by the market as reflected in the brisk home sales data over the past 12 months.

This article appeared in the Hong Kong Economic Journal on June 28

Translation by Alan Lee

[Chinese version 中文版]

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Hong Kong Economic Journal chief economist and strategist

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