The leaping interest rate 'buck' is likely to land uncomfortably in the laps of Hong Kong home owners and tenants this year, but leave the wider economy and company profits largely unscathed. For this unequal outcome, householders will have to blame their lowly status at the end of the pricing chain. The result is that uncomfortable though that buck may be - in the form of a possible sharp rise in mortgage repayments and rentals - householders simply don't have anyone to pass it to. Although after a lag, a sustained erosion of disposable incomes caused by rising interest rates will begin to throw the brakes on consumer spending. For company earnings, however, 2005 is still shaping up as a reasonably good year, and the stampede out of Hong Kong stocks over the past few weeks on concerns of steadily rising interest rates might, as usual, have been overdone. That's because revenues will be buoyed by sustained trade flows and tourism dollars that are likely to keep the economy growing at about 5 per cent and their pricing power will be restored as inflation picks up, allowing them to play 'pass the interest rate parcel' in the form of rising prices. For Hong Kong banks, in particular, 2005 will be payback time as the first rises in lending rates boost interest margins that have tumbled for seven years since the Asian financial crisis of 1997/98. Therefore, to put the recent negative attention on interest rates into a wider perspective might require a few reminders about how the year began - and how it is due to end. In his most recent note to customers, Deutsche Bank chief economist Jun Ma did just that, recalling that the jobless rate declined further to 6.4 per cent in the November to January period, total employment rose by 14,500 to hit a record high of 3.34 million, and export growth surged 34.8 per cent year on year in January, up from December's 12.9 per cent. Also helping offset the impact of rising interest bills will be the boost to company revenues and the economy from the opening of Hong Kong Disneyland. In the circumstances, the interest rate cloud that descended over the Hong Kong stock market last month was not warranted, argued Macquarie Research in a note to clients. 'The market has been struggling recently, capped by the recognition of interest rate risk and uncertainty on the US dollar. While [Hong Kong] prime may reach 7.5 per cent in 12 months, we are less concerned about this fact given that real rate moves are less pronounced and that the benefits of growth will win out in sentiment terms,' analysts noted. However, the view was a little more sanguine than the growing consensus forming among analysts that Hong Kong prime rates may reach 8 per cent by as early as December. UBS strategist Bert Gochet pointed out that US dollar three-month rates were at 3.1 per cent, and despite the surge in domestic rates, the three-month Hong Kong interbank offered rate was still at a 40 basis point discount to US rates, at 2.7 per cent. At its widest point, in December last year, when three-month Hibor was just 0.32 per cent, it was trading at a discount of 2.3 per cent to US rates. 'So what we have seen is an almost 200 basis point retracement of that gap, but I don't believe it will close down to zero - so long as there is the slimmest chance of the mainland revaluing the yuan, which will return speculators and liquidity to the local market,' Mr Gochet said. One of the chief reasons why Hong Kong rates had finally begun to play catch-up with US rates, he said, was the draining of excess liquidity from the system in Hong Kong, or the 'aggregate balance' - helped by interventions from the Hong Kong Monetary Authority, which bought Hong Kong dollars in exchange for US dollars. Hong Kong's currency board system - which pegs the exchange rate between the local and US dollar at 7.8 - effectively ties Hong Kong and US rates together, since the currencies can be freely exchanged in search of higher interest rates at a rate that has a built-in floor level. When the two economies are out of sync this can deliver painful outcomes, but in his regular Viewpoint column published yesterday, HKMA chief executive Joseph Yam Chi-kwong said similarities were currently on display. 'Deflation is out of our system and prices have been on the rise, albeit moderately. The economy continues on its recovery path. The current monetary policy stance of the US is entirely appropriate for Hong Kong, if our economic recovery is to be sustainable,' Mr Yam said. Whether or not the lagged rise in domestic rates sees them fully catch up with US rates, there is gathering support for the view that pre-emptive strikes by the US Federal Reserve to cool down inflation will see it raise its Fed Funds' target rate to 4 per cent by the end of the year. That implies a prime lending rate of 8 per cent in Hong Kong. Although companies may be in a position to absorb that increase or pass it on, home owners will be brought down to earth with a bump after enjoying record low mortgage rates for the past seven years.