Interesting times for Asian currencies
Hong Kong dollar
Interest rate differentials and capital flows point to some slight depreciation of the Hong Kong dollar against the greenback, but We see very low risk of a break of the peg between the Hong Kong dollar and the US dollar in the next years.
A currency usually comes under pressure because of large external imbalances. But Hong Kong has a structural current account surplus, while government debt as a percentage of GDP is close to zero. Overall, the Hong Kong dollar is not a vulnerable currency based on those metrics.
In addition, Hong Kong’s currency board has built up enormous credibility, having shown great resilience since its creation. The board is unlikely to seek to change the HKD’s anchor currency away from the US dollar. China has likely no interest in weakening the currency board, as Hong Kong’s financial hub serves as a gateway for international investment in Chinese stocks and bonds. As long as capital controls exist in China, the peg is unlikely to be challenged by Beijing. Also, China’s central bank, the People’s Bank of China, stands ready to back the HKMA in time of crisis.
A greater risk to the HKD’s stability could come from geopolitics. For example, the US could decide to limit the access of Hong Kong’s banks to the US dollar because of worsening tensions between the US and China. However, trying to clamp down on Hong Kong banks would have a very high political cost given their deep integration in the global financial system. Overall, we see very low risk to Hong Kong’s currency board in the next few years.
But more immediately, the prudent normalisation of Fed policy and question marks over the volume of capital inflows into Hong Kong favour the USD against the HKD. Our projections for the USD/HKD rate are HKD7.78 in three months, HKD7.82 in six months and HKD7.82 in 12 months.
Malaysia’s high vaccination rate should help the undervalued ringgit, which is also supported by a structural current account surplus.
Malaysia is a very open economy, our central scenario that global growth will remain robust should support its currency. Malaysian exports are well diversified. In particular, demand for health-related and electronic equipment should keep exports resilient, even should a slowdown in China affect industrial metal exports.
That said, concerns about the fiscal outlook because of the current government’s thin majority and the ringgit’s recovery since a July spike in covid cases sent it sharply lower suggest limited upside potential, while The central bank, Bank Negara Malaysia, is likely to keep its main policy rate unchanged until mid-2022. Our projections for the USD/MYR rate are MYR4.10 in three months, MYR4.20 in six months and MYR4.20 in 12 months.
We remain of the view that the key driver of the rupiah is balance of payment dynamics. This explains why the rupiah did relatively well during the pandemic: economic slowdown led to a narrowing of Indonesia’s current account deficit (through lower imports), which has offset the fall in portfolio inflows.
As a consequence, during the latest covid surge in Indonesia, from roughly 1 June to 31 July, the rupiah lost only 1.3% versus the US dollar, whereas the US dollar index rose 2.4% over the same period.
Looking forward, economic recovery could lead to a deterioration of Indonesia’s current account, but we see prospects for a larger increase in investment inflows. In particular, we see prospects of significant foreign equity inflows as the Indonesian stock market starts to include fast-growing companies, while recent wide-sweeping legislative changes should encourage more foreign direct investment.
Our projections for the USD/IDR rate are IDR14,200 in three months, IDR14,000 in six months and IDR14,500 in 12 months.