China and Hong Kong React to the US Fed's Rate Hike

China's stance will be more "prudent" than "neutral" in 2018

The People’s Bank of China (PBOC) increased the cost of short-term loans to commercial lenders, tightening monetary policy after the Unites States Federal Reserve's (US Fed) well admonished 25 basis point hike on Thursday. PBOC raised the interest rates it charges on reverse-repurchase agreements by 5 basis points to 2.55%, in line with Coface's forecasts. We expect monetary conditions to tighten further, with reverse-repurchase agreements reaching 2.70% by end-2018. The decision was the first following the appointment of Yi Gang as PBOC governor. In his first appearance, Yi Gang pledged to keep the bank’s “prudent and neutral” monetary policy stance. In our opinion, this means that the PBOC will tighten wherever appropriate, as the economy is in a good position to withstand higher borrowing costs and these will also support the central government’s deleveraging objectives. Thursday’s “symbolic” 5 basis point hike was proof of this. However, Governor Yi Gang will likely wait until later in the year to make a more substantial move.

Will today mark the end of the era of ultra-cheap money in Hong Kong?

Meanwhile, the Hong Kong Monetary Authority (HKMA) increased its base rate by 25 basis points to 2.00%, in line with that of the US Fed. Hong Kong has a currency board (meaning the HKD is pegged to the USD), so the HKMA is obliged to adjust its borrowing costs at the same time as the US. Fed.

The Fed is expected to hike up to three times in 2018, stoking fears that Hong Kong housing prices may become vulnerable to a correction. However, HKMA rate hikes have so far had a very limited impact, as inter-bank lending rates remain well below the levels of their US equivalents. This is due to the fact that liquidity in Hong Kong’s financial system remains ample, owing to a booming stock market and capital inflows from the mainland. 

A more relevant development for Hong Kong’s housing prices will be the HKMA’s attitude to a depreciating HKD, which at HKD/USD 7.7847, remained dangerously close to the weak end of the band on March 22. HKMA Chief Executive Norman Chan stated that “although inter-bank rates haven’t caught up with the US, a rate normalization will definitely happen in Hong Kong”. Whether the authorities will succumb to FX pressures and implement measures to mop up liquidity remains to be seen…

Carlos Casanova Coface's Asia Pacific Economist, based in Hong Kong