The HKMA swiftly follows the Federal Reserve's hike in order to prevent capital outflows but diverging economic cycles look to increasingly test the city's mettle.

Many in the overseas media characterize the Hong Kong Monetary Authority (HKMA) as a de facto central bank. That might be accurate if it had free reign to set the city's interest rates and manage the money supply.

But it doesn't, and that is why the word de facto frequently gets inserted into the conversation. Perhaps a better term would be to call it the chief - and solitary - defender of the local currency peg against the US dollar, as besides its banking industry supervisory activities, that is essentially what it does. 

Since yesterday, that job got a great deal harder. The Fed raised its base rate by 0.75 percent, its largest increase since 1994, and the HKMA followed immediately by ratcheting its rate up to 2 percent, an identical 75 basis steps higher. It rationalized the step by saying it was governed by established mechanisms. Which, in other words, it means that it can't really choose not to.

Outflows Still Expected

But even if it could, it would have faced the threat of immediate, significant outflows as everyone tried to trip each other over on the way out of Hong Kong in an effort to get a better rate on their money. 

It still faces some of that anyway, as HKMA head, Eddie Yue, indicated in remarks made after the US hike. 

«As the US raised interest rates again, there will be incentives for market participants to conduct carry trades when the Hong Kong dollar and US dollar interest rate differentials are sufficiently wide, driving funds to gradually flow from the Hong Kong dollar to the US dollar. Therefore it is normal for the Hong Kong dollar to remain weak,» Yue indicated.

A Tale of Two Economic Cycles

Although monetary and financial markets remain stable and benefit from ample liquidity, he again warned the public to «carefully assess» the risks when making property purchases or mortgage decisions.

Indirectly, he is telegraphing the city's key economic challenge right now. It is in a completely different economic cycle than the US is. Local inflation risks remain muted and economic growth is forecast to remain very weak as continued Covid-19 restrictions weigh on activity.

finews.asia previously argued that economic growth and assets in Hong Kong had been artificially buoyed by importing US interest rates following the financial crisis. The opposite is now coming true, and the downward impact is likely to be just as exaggerated.

If you ride the rollercoaster up, you need to keep yourself strapped in all the way down. And the city is just getting started.