Linked exchange rate system
One immediate result of this intervention is tumble in the stock market because higher interest rate hurts business prospects, especially in the property market. If the Hong Kong dollar is freely floating, international investors will have to face a currency risk. I will not try to repeat the argument here, except to point out that whatever the pros and cons of floating the Hong Kong dollar are, the debate is irrelevant unless the government has a clear idea about the goal of its macro economic policy other than maintaining the stability of the exchange rate.
You can subscribe to our Newsletter to get periodic update of EconReporter's latest contents. Many people suggest that the linked exchange rate should be abolished so interest rates and the exchange rate of the Hong Kong dollar can move in line with the Hong Kong economy.
When the US dollar strengthens, the Hong Kong dollar will also become stronger. The reason is simple. Hong Kong's linked exchange rate system has a distinct feature in its currency board arrangement.
Floating exchange rate
Its gross domestic product also has multiplied nearly 10 times. Together with the city's ample foreign reserves and policy stability, we do not have to worry about the stability of the linked exchange rate. This method has been keeping the HKD exchange rate in the targeted range. The naira became a "managed float" currency, meaning that its currency value fluctuates over time, and its central bank attempts to influence the currency's value relative to that of other countries' currencies through buying and selling various currencies to keep within a certain exchange-rate range. So deciding interest rate levels is in the hands of the US Federal Reserve. Most people recognize that delinking is politically impossible right now. A linked exchange rate system is a method of managing a nation's currency that links it to another currency at a specified exchange rate. However, any change to the peg system should not be an impromptu one. This procedure is consistent with the Currency Board discipline, since interest payments on Exchange Fund paper are backed by interest income on the US dollar assets backing the Monetary Base. Of course, everything has its costs.
This system allows for an adjustment of the fixed rate to compensate for differences in certain economic factors between the managed currency country and the country of the linked currency.
This, I assume you know also.
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EconReporter is an independent journalism project on Economics Research. A linked exchange rate system is a method of managing a nation's currency that links it to another currency at a specified exchange rate. Any change in the size of the Monetary Base has to be fully matched by a corresponding change in the foreign reserves. The current wave of capital outflow has not yet reached its highest levels as the current situation is just a return to normal. So deciding interest rate levels is in the hands of the US Federal Reserve. This ensures that all new Exchange Fund paper will be fully backed by foreign currency reserves. Is there a valid economic reason to delink the Hong Kong dollar? The HKMA should take steps to roll back recent banking regulations that make arbitrage by private banks more difficult, such as the modification in the note issuance and withdrawal system that effectively excludes all but the three note-issuing banks from engaging arbitrage.
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