In the face of a huge credit bubble, Hong Kong may pull its peg from the U.S. dollar:
While Switzerland this week in effect pegged the franc to the euro, a debate is intensifying in Hong Kong over whether to sever the city’s 27-year-old peg to the US dollar.
The mechanism that links the Hong Kong and US dollars at a rate of HK$7.80 to US$1 has served the city well since its introduction in 1983. It has survived the hand-over of sovereignty from Britain to China, the Asian financial crisis and repeated attacks from speculators.
But by forcing Hong Kong to import ultra-loose monetary policy from the US, the peg is contributing to soaring inflation and property prices, a growing source of concern among city dwellers.
Hong Kong is grappling with an 8% inflation rate (the U.S. is at 4%):
The consumer price index rose 7.9 percent from a year earlier after a 5.6 percent increase in June, the government reported on its website yesterday. Excluding distortions caused by a public housing subsidy, prices rose 5.8 percent.
Hong Kong’s economy will shrink again this quarter after a contraction in the three months through June that was caused by an export slowdown, Morgan Stanley and Daiwa Capital Markets say. Wage increases may add pressure on profit margins just as businesses including McDonald’s Corp. (MCD) report that they are grappling with increased rent and material costs.
“The headline CPI figure is pretty scary, and that will change inflation expectations among residents in a drastic way,” said Kevin Lai, of Daiwa, the most accurate of nine economists surveyed by Bloomberg News on gross domestic product for the second quarter. “The higher business costs and rising expectations for wage gains may force some companies to close and hasten the recession,” said Lai, who is based in Hong Kong.
Hong Kong's peg has forced it to swallow U.S. stimulus, which has driven up wages and may along with higher transportation costs compel companies to repatriate American jobs:
According to a study released in May by the Boston Consulting Group, wages in China, the world's most populous country, have been rising at a rate of close to 20 percent a year for decades now, and experts now believe that it will make more financial sense for American companies to manufacture their goods stateside by 2015. Although Chinese workers still will be paid far less than American workers in four years, other factors, including fuel costs, the time goods spend on the ocean, the rising value of the Chinese Yuan and the generally better productivity of American factories and workers will make it attractive to make goods here.
According to consulting firm Accenture, 61 percent of manufacturing executives said they were considering relocating factories back to the U.S. or Mexico from lower wage rate Asian countries citing other issues such as inconsistent application of intellectual property laws, human rights issues, quality control deficiencies, and the lack of environmental regulation in developing countries, particularly China.
The wage component is not an absolute favorite anymore. In reality, what matters most to manufacturing managers in the U.S. today are factors such as skilled labor, modern infrastructure, the ability to drive innovation with top-class R&D facilities and new lean production systems. All these factors play well to the U.S.'s strengths.