Banks need to exercise great skill and care in managing their HK dollar interbank liquidity when HK dollar interest rates fall below their US dollar counterparts.

This was the message from Monetary Authority Chief Executive Joseph Yam in his latest Viewpoint column posted on the authority's website today.

Mr Yam said whatever the reason behind the recent strength of the HK dollar, under the Currency Board system, such strength has manifested itself in HK dollar interest rates being significantly lower than those for the US dollar.

"However, with continuing deflation, we do not mind seeing HK dollar interest rates being kept low, and lower than US dollar interest rates, as the banks ponder on what to do with their surplus HK dollar liquidity," he said.

In managing its HK dollar liquidity, a bank will also assess the exchange rate risk of temporarily parking its HK dollar liquidity in the form of US dollars.

Mr Yam said it is possible the uncertainty surrounding when and by how much we would increase the aggregate balance, with a view to nudging the exchange rate back to 7.8, is making it difficult for the probability of that adverse exchange rate movement to be accurately gauged.

"It should be noted that the aggregate balance would not be reduced back to its normal level until the exchange rate is back to 7.8 and we are asked to sell US dollars through the Convertibility Undertaking at that exchange rate," he said.