Bank of American Merrill Lynch expects local banks to raise the Hong Kong dollar prime rate by 0.125 percent in the second half of this year.
Meanwhile, Fed funds futures are predicting the Federal Reserve will cut rates twice this year.
Some analysts point out that Sino-US trade tensions will push up consumer prices in the United States and rising inflation could force the Fed to hike rates.
These projections appear to contradict each other.
But if we understand the relationship between Hong Kong dollar and US dollar rates, and pay attention to the difference between the short-term and long-term trends of US dollar rates, these scenarios are not mutually exclusive.
In view of the peg to the greenback, Hong Kong dollar interest rates should move largely in line with that of the US dollar, but the two do not have to move in lockstep.
Subject to demand and supply as well as fund flow situations, the two can deviate from time to time.
In fact, the Fed has hiked rates nine times since 2015, and the Fed fund rate has increased by 2.25 percent over the period. Yet, the prime rate in Hong Kong only climbed by 0.125 percent once, in September last year.
In the near term, as foreign funds might leave Hong Kong as the trade war escalates, fund supply could tighten. Yet factors like Alibaba seeking a second listing in Hong Kong could boost demand for funds.
Bank of American Merrill Lynch is expecting local banks to raise the prime rate by 0.125 percent in the second half. Those with a mortgage may have to set aside a bit more money each month.
On the US dollar side, the market is expecting the Fed to cut rates twice this year in view of deteriorating economic data, including softer job figures and Purchasing Managers’ Index.
In that case, we might see a decoupling scenario in the second half, as central banks in Hong Kong and the US take divergent paths.
Over the long run, American consumers would eventually pay for most of the trade tariffs. Leading retailers such as Walmart and Costco have already warned of price increases.
It’s widely feared that US inflation might go up and the Fed would face pressure to hike rates since it has a dual mandate to promote maximum employment and stable prices.
All in all, there is limited upside for the Hong Kong dollar rate in the near term. But for a longer-term outlook, investors should closely watch the US inflation trend.
This article appeared in the Hong Kong Economic Journal on June 5
Translation by Julie Zhu
[Chinese version 中文版]
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