Macroscope
by

The US dollar peg has served Hong Kong well for 34 years

The peg protects us from a much worse fate in the whirlpool of volatility

PUBLISHED : Wednesday, 30 November, 2016, 1:25pm
UPDATED : Wednesday, 30 November, 2016, 10:36pm

The dollar has bossed the financial markets for a decade. And all the signs are that this will continue; driven by safe haven worries and rising US interest rates. The dollar is king – or is it?

It has been a good ride for us and the Hong Kong dollar, pegged as we are to the world’s strongest currency in the last few years.

Our money is worth a lot more on the world stage and recently even in China. The rising dollar has depressed inflation – although looking at supermarket inflation over the last ten years, it has not been the general public who has benefited from this windfall.

Otherwise it is all good news – for now.

Against the Euro, the dollar has risen 21 per cent in three years and even the mighty yen has not prevailed over the same period.

The unit has risen a whopping 24 per cent against the pound since 2013, and 41 per cent since the global financial crisis.

Buyers, squawking like chickens (“cheep, cheep, cheep”) flock to sterling assets. If you need to buy pounds today, this is a spectacularly historic gain, including Black Wednesday of 1992, and rather dwarfs the pathetic chasing of yields.

The dollar remains king because chronically slow global economic growth is just a bit better in the US than elsewhere. It continues to be a shelter from global storms because of long-held confidence in the US authorities to manage the economy, and frankly because the US economy is so big.

This is why the greenback has been a monopoly reserve currency since World War II and was stiff competition for the pound in the century before that.

The Hong Kong dollar peg has served us well for 34 years and, despite the potential of a long slow decline we should keep it

It was not created as a reserve currency but developed over decades of proving itself to sceptical investors. There is little chance the dollar will be overhauled in this role for at least fifty years – though the fall of the pound showed that reserve status takes a very long time to gain, and can be quick to lose.

The attached chart is very long term and illustrates 40 years of the real trade weighted US dollar index – against a wide basket of currencies.

A single line touching the peaks reveals a strong global secular decline in the dollar since the Asian Debt Crisis of 1987, naturally that was when I was at a US business school, funding myself with a loan in pounds.

So while the current dollar is strong (and may indeed go a little stronger) the big picture shows that the overriding trend is one of decline, not strength. In any case, the dollar must by now be so overbought, who is left to buy to push the price up?

Of course, it is possible for the dollar to surprise in 2018 or 2020 by breaking upwards through the line. A major black swan event could be the catalyst: the break-up of the Euro, the crash of the Chinese economy, a bond market meltdown, or a nuclear warhead going off in the wrong place.

Yet the balance of probabilities is in favour of the line holding.

The Hong Kong dollar peg has served us well for 34 years and, despite the potential of a long slow decline we should keep it. The peg protects us from a much worse fate in the whirlpool of volatility. All economic revolutions create winners and losers. Winners should enjoy their lot – it won’t last. Losers need to manage it.

And, of course it’s nice to know, as you jangle the coins in your pocket, that the world still has great confidence in the Hong Kong dollar, one of the strongest in the world, and that it still reigns supreme as the world’s undisputed reserve currency!

Richard Harris is an investment manager, writer and broadcaster – and has lived in Hong Kong for nearly half a century.