Although short-term deviations of Hong Kong dollar interest rates from US dollar rates are not a matter of concern now, banks and their customers should be alert to interest-rate volatility, Monetary Authority Chief Executive Joseph Yam says.

In his latest Viewpoint article, posted today on the authority's website, Mr Yam said with a fixed exchange rate, the city's interest rates should, in the medium to long term, closely follow US dollar rates.

"But short-term deviations can be substantial, for one reason or another, as we saw during the 18 months before May last year, when the market expected the Hong Kong dollar exchange rate to be affected by the renminbi exchange rate if flexibility was introduced to the latter."

Rate deviations

If the short-term deviations in interest rates are restricted to the wholesale market, chiefly the interbank market, there is not much to worry about, Mr Yam said.

"Of slightly greater concern is the possibility that interest rate deviations at the wholesale level might be transferred to the retail level, in which case many more in the community - depositors and borrowers - will be affected. They are obviously not always as well equipped as the banks to manage interest rate risks.

"Homebuyers, of course, would like to see lower mortgage interest rates, but low interest rates might not be sustainable if the underlying trend dictated by US interest rates is taken into account. Few people would consider whether they would face hardship if the short-term interest rate deviations dissipated or even turned from a discount into a premium."

Financial dynamics

Mr Yam said short-term deviations of Hong Kong dollar interest rates from US dollar rates are not a matter of concern now because the differential is only a little over one percentage point and the banks are capable of managing short-term divergence of Hong Kong dollar interest rates from US interest rates.

"Even if banks pass the risks associated with the short-term deviations to customers, resulting in retail rates moving in response to fund flows, I believe the mortgagees and other borrowers should still be quite resilient, thanks to a high savings rate, a declining unemployment rate and a robust economy.

"But the dynamics in the financial system are obviously changing under the influence of intense competition in the banking sector and we should all be alert."