The Fed Raised Rates. Why Didn’t Hong Kong’s Banks Follow?

On September 17, the Hong Kong Monetary Authority raised its Base Rate by 25 basis points to 4.25%. Four major local banks subsequently announced that they would leave their best lending rates, or prime rates (P), unchanged.

Why did two decisions concerning the same currency diverge? Their underlying objectives were entirely different: the HKMA was defending the exchange-rate system, while the banks were assessing their own operating costs.

The HKMA: Defending the Exchange Rate

The HKMA’s central objective is to maintain the Hong Kong dollar’s Linked Exchange Rate System, keeping the exchange rate within a range of HK$7.75–7.85 per US dollar. One firm rule helps that mechanism operate smoothly: the policy rate must not fall below the lower bound of the US dollar interest-rate range plus 50 basis points.

The HKMA’s Base Rate is determined by a preset formula. Put simply, the formula compares two figures: one follows US dollar rates, while the other is based on an average of local interbank rates. It then takes the higher value.

The Banks: Calculating Their Own Costs

Each bank sets its prime rate independently, taking account of deposit costs, market interbank rates, credit demand and competition. The HKMA’s website also explains that most mortgage loans are priced with reference to interbank rates or prime rates, rather than being directly linked to the Base Rate. An increase in the HKMA’s Base Rate therefore does not directly raise mortgage interest costs.

In this round, HSBC, Hang Seng Bank and Bank of China (Hong Kong) kept their prime rates at 5%, while Standard Chartered maintained 5.25%. None of the four banks changed its prime rate. A similar divergence occurred in September 2022: after a large Fed rate increase, the HKMA raised its rate in step, but Hong Kong banks made only small increases to their prime rates.

Two Numbers to Watch

The key indicators to follow are the Hong Kong dollar exchange rate and Hong Kong dollar interbank rates. They interact under the Linked Exchange Rate System.

Hong Kong Interbank Offered Rates, or HIBOR, represent the cost of short-term borrowing between Hong Kong banks and indicate how tight Hong Kong dollar funding is. They are both an important input to the HKMA’s Base Rate calculation and a determinant of banks’ funding costs, indirectly affecting deposit and lending rates.

One-month HIBOR had recently fluctuated, falling from 2.95% on September 16 to 2.90% on September 17.

How the Two Interact

First, watch whether the exchange rate approaches the weak-side boundary of HK$7.85 per US dollar. If it reaches 7.85, the HKMA intervenes by buying Hong Kong dollars, reducing their supply in the market and pushing interbank rates higher. Higher rates help retain Hong Kong dollar funding and bring the exchange rate back into the 7.75–7.85 range.

Second, watch whether one-month HIBOR rises above 3%. Higher interbank rates indicate tighter Hong Kong dollar funding and help show whether exchange-rate pressure is being transmitted to the local money market.

Two Different Decision Frameworks

Under Hong Kong’s linked exchange-rate framework, news that rates are following the Fed needs to be read at two levels. The HKMA’s policy rate is determined by the system’s rules, while Hong Kong banks set their retail rates independently according to their business conditions. Those different yardsticks explain the divergence in Hong Kong dollar interest rates.