Linked exchange rate
Encyclopedia
A linked exchange rate system is a type of exchange rate regime
to link the exchange rate of a currency
to another. It is the exchange rate system implemented in Hong Kong
to stabilise the exchange rate between the Hong Kong dollar
(HKD) and the United States dollar
(USD). The Macao pataca (MOP) is similarly linked to the Hong Kong dollar
.
Unlike a fixed exchange rate
system, the government or central bank
does not actively interfere in the foreign exchange market by controlling supply and demand of the currency in order to influence the exchange rate. The exchange rate is instead stabilised by an exchange mechanism, whereby the Hong Kong Monetary Authority
(HKMA) authorises note-issuing banks are to issue new banknotes provided that they deposit an equivalent value of US dollars with the HKMA.
crisis in 1983, the linked exchange rate system was adopted in Hong Kong
on October 17, 1983 through the currency board system. The redemption of certificates of indebtedness (for backing the banknotes) were sent out by note-issuing banks to peg the domestic currency against the US dollar at an internal fixed rate of HKD
7.80 = USD
1.
The Hong Kong Monetary Authority
(HKMA), Hong Kong's de facto central bank, authorised note-issuing banks are to issue banknote
s. These banks are required to have the same amount of USD to issue banknotes. The HKMA guarantees to exchange USD into HKD, or vice versa, at the rate of 7.80. When the market rate is below 7.80, the banks will convert USD for HKD from the HKMA, HKD supply will be increased, and the market rate will climb back to 7.80. The same mechanism also works when the market rate is above 7.80, and the banks will convert HKD for USD.
In practice, the HKMA also set a lower limit at 7.80 (7.85 as an upper limit and 7.75 as a lower limit since May 18, 2005) for the HKD to flow within. The HKMA will buy or sell HKD in the market when the exchange rate is at (or extremely close) the lower limit and upper limit respectively. The HKD is backed by one of the world's largest foreign exchange reserves
, which is several times the amount of money supplied in circulation.
Exchange rate regime
The exchange-rate regime is the way a country manages its currency in relation to other currencies and the foreign exchange market. It is closely related to monetary policy and the two are generally dependent on many of the same factors....
to link the exchange rate of a currency
Currency
In economics, currency refers to a generally accepted medium of exchange. These are usually the coins and banknotes of a particular government, which comprise the physical aspects of a nation's money supply...
to another. It is the exchange rate system implemented in Hong Kong
Hong Kong
Hong Kong is one of two Special Administrative Regions of the People's Republic of China , the other being Macau. A city-state situated on China's south coast and enclosed by the Pearl River Delta and South China Sea, it is renowned for its expansive skyline and deep natural harbour...
to stabilise the exchange rate between the Hong Kong dollar
Hong Kong dollar
The Hong Kong dollar is the currency of the jurisdiction. It is the eighth most traded currency in the world. In English, it is normally abbreviated with the dollar sign $, or alternatively HK$ to distinguish it from other dollar-denominated currencies...
(HKD) and the United States dollar
United States dollar
The United States dollar , also referred to as the American dollar, is the official currency of the United States of America. It is divided into 100 smaller units called cents or pennies....
(USD). The Macao pataca (MOP) is similarly linked to the Hong Kong dollar
Hong Kong dollar
The Hong Kong dollar is the currency of the jurisdiction. It is the eighth most traded currency in the world. In English, it is normally abbreviated with the dollar sign $, or alternatively HK$ to distinguish it from other dollar-denominated currencies...
.
Unlike a fixed exchange rate
Fixed exchange rate
A fixed exchange rate, sometimes called a pegged exchange rate, is a type of exchange rate regime wherein a currency's value is matched to the value of another single currency or to a basket of other currencies, or to another measure of value, such as gold.A fixed exchange rate is usually used to...
system, the government or central bank
Central bank
A central bank, reserve bank, or monetary authority is a public institution that usually issues the currency, regulates the money supply, and controls the interest rates in a country. Central banks often also oversee the commercial banking system of their respective countries...
does not actively interfere in the foreign exchange market by controlling supply and demand of the currency in order to influence the exchange rate. The exchange rate is instead stabilised by an exchange mechanism, whereby the Hong Kong Monetary Authority
Hong Kong Monetary Authority
The Hong Kong Monetary Authority or HKMA is Hong Kong's central banking institution . It is a government authority founded on 1 April 1993 via the consolidation of "Office of the Exchange Fund" and the "Office of the Commissioner of Banking"...
(HKMA) authorises note-issuing banks are to issue new banknotes provided that they deposit an equivalent value of US dollars with the HKMA.
History
As a response to the Black SaturdayBlack Saturday (1983)
Black Saturday is the name given to the crisis when the Hong Kong dollar exchange rate was at an all-time low. On that day, the USD $1 = HKD $9.6. For a period, Hong Kong stores began quoting products in US dollar prices, because of the uncertain fluctuation in domestic currency.-History:From...
crisis in 1983, the linked exchange rate system was adopted in Hong Kong
Hong Kong
Hong Kong is one of two Special Administrative Regions of the People's Republic of China , the other being Macau. A city-state situated on China's south coast and enclosed by the Pearl River Delta and South China Sea, it is renowned for its expansive skyline and deep natural harbour...
on October 17, 1983 through the currency board system. The redemption of certificates of indebtedness (for backing the banknotes) were sent out by note-issuing banks to peg the domestic currency against the US dollar at an internal fixed rate of HKD
Hong Kong dollar
The Hong Kong dollar is the currency of the jurisdiction. It is the eighth most traded currency in the world. In English, it is normally abbreviated with the dollar sign $, or alternatively HK$ to distinguish it from other dollar-denominated currencies...
7.80 = USD
United States dollar
The United States dollar , also referred to as the American dollar, is the official currency of the United States of America. It is divided into 100 smaller units called cents or pennies....
1.
The Hong Kong Monetary Authority
Hong Kong Monetary Authority
The Hong Kong Monetary Authority or HKMA is Hong Kong's central banking institution . It is a government authority founded on 1 April 1993 via the consolidation of "Office of the Exchange Fund" and the "Office of the Commissioner of Banking"...
(HKMA), Hong Kong's de facto central bank, authorised note-issuing banks are to issue banknote
Banknote
A banknote is a kind of negotiable instrument, a promissory note made by a bank payable to the bearer on demand, used as money, and in many jurisdictions is legal tender. In addition to coins, banknotes make up the cash or bearer forms of all modern fiat money...
s. These banks are required to have the same amount of USD to issue banknotes. The HKMA guarantees to exchange USD into HKD, or vice versa, at the rate of 7.80. When the market rate is below 7.80, the banks will convert USD for HKD from the HKMA, HKD supply will be increased, and the market rate will climb back to 7.80. The same mechanism also works when the market rate is above 7.80, and the banks will convert HKD for USD.
In practice, the HKMA also set a lower limit at 7.80 (7.85 as an upper limit and 7.75 as a lower limit since May 18, 2005) for the HKD to flow within. The HKMA will buy or sell HKD in the market when the exchange rate is at (or extremely close) the lower limit and upper limit respectively. The HKD is backed by one of the world's largest foreign exchange reserves
Foreign exchange reserves
Foreign-exchange reserves in a strict sense are 'only' the foreign currency deposits and bonds held by central banks and monetary authorities. However, the term in popular usage commonly includes foreign exchange and gold, Special Drawing Rights and International Monetary Fund reserve positions...
, which is several times the amount of money supplied in circulation.
External links
- Linked Exchange Rate System at Hong Kong Monetary Authority (HKMA)
- http://www.amcm.gov.mo/publication/quarterly/Apr/Financial_EN.pdf, p. 22