Buy now at 1983 prices
“WHATEVER exchange-rate system a country has, it will wish at some times that it had another one,” according to Stanley Fischer, a former central banker. Many countries find it hard to cope with a floating currency and even harder to stick to a fixed one. It is therefore remarkable that Hong Kong this week celebrated the 30th anniversary of its currency’s peg to the dollar.
This crude but effective system was adopted on October 17th 1983 to stop a currency crisis. Since then it has survived three American recessions, SARS (Severe Acute Respiratory Syndrome) and Soros (ie, George), a fabled currency speculator, who attacked the peg during the Asian financial crisis.
In recent years Hong Kong’s peg has come under upward, not downward pressure. In maintaining its fixed rate to the dollar, Hong Kong has imported the Federal Reserve’s easy monetary policy despite its healthier economy. The result has been high inflation and surging home prices. Even as its economy has diverged from America’s, it has converged with that of the rest of China. Yet the Hong Kong dollar and the yuan have been growing apart. The Hong Kong dollar’s peg was once also a tight link to the yuan, which was itself pegged to America’s currency. But since China modified the peg, the yuan has appreciated by over a third.
As Mr Fischer suggested, some economists now wish that Hong Kong had another system. It could, for example, let its exchange rate crawl upwards to curb inflation, as Singapore does. Or it could track the rising yuan. Eventually it could even adopt the mainland’s currency; over 10% of bank deposits in Hong Kong are already in yuan.
But these alternatives have drawbacks of their own. China may now dominate Hong Kong’s trade, but much of that trade is still priced in dollars, points out Li-Gang Liu of ANZ, a bank. Besides, the yuan’s value is still fixed each morning by China’s central bank, and yuan assets are fenced in by capital controls. Pegging to an inconvertible yuan could destroy Hong Kong’s role as an international financial centre, Mr Liu argues.
Over time Hong Kong has adapted to some of the peg’s constraints. Its exchange rate may be rigid, but its other prices and wages are remarkably flexible. During the financial crisis, even senior civil servants took a pay cut. This flexibility allows the economy to adjust quickly to cyclical ups and downs without the help of an independent monetary policy.
Prices, particularly for property, do sometimes take on a life of their own. But a more flexible exchange rate is not enough by itself to prevent asset-price booms: Singapore’s house prices have also soared despite its strengthening currency. And in some cases the currency itself can be the asset that takes off. The Swiss franc, for example, strengthened dramatically during the euro crisis, prompting its central bank to intervene. As nearby countries like India and Indonesia fret about capital outflows and plunging currencies, the stability offered by Hong Kong’s peg looks as good on its 30th birthday as it ever has.