CAMBRIDGE, England — Oh dear, oh dear! The International Monetary Fund supports the Hong Kong dollar’s peg to the dollar. In Hong Kong recently, a senior representative of the IMF applauded Hong Kong’s decision not to break its fixed link to the greenback, saying that the IMF believes that “the peg is good for Hong Kong and we (the IMF) strongly support it.

If I was Anthony Leung, Hong Kong’s finance secretary, I would be very worried. This is the IMF, of course, that used to “support” the dollarization of the Argentine peso. And look what happened to that. Some of us think that the IMF was at least partly to blame for the 1997 Asian financial crisis for supporting the exchange rates of the Asian economies long after it was clear that they were out of line with economic reality.

The IMF manages the largest fund of foreign exchange in the world, supplemented by massive credit lines. If the IMF takes a position, it can support it with those funds; so the privates sector around the world watches out for what the IMF is doing or saying in the expectation that its position will be backed up.

Most people know the IMF as the multilateral agency that comes in to sort out financial crises. They are less aware that the IMF helps cause those crises by supporting inappropriate policies — as they are now doing in Hong Kong.

The IMF’s official in Hong Kong said “You pick the exchange regime that is right for you.” Given Hong Kong’s one country, two-systems arrangement with China, this indicated, he said, that the peg to the U.S. dollar was “appropriate to Hong Kong’s needs.” Some of us think the opposite is true.

The problem is that the Hong Kong dollar is not only pegged to the U.S. dollar, it is also tied to the Chinese currency, the renminbi yuan. It is not pegged in the same way of course, but it is effectively pegged because the yuan is also tied to the dollar.

In the case of the Hong Kong dollar, the peg is maintained by a currency board system in which all outstanding Hong Kong dollars are backed by dollar reserves valued at the pegged rate. The Hong Kong currency board maintains the peg by being willing to buy and sell dollars freely at that pegged rate.

In the Chinese case, the central bank of China, the People’s Bank of China, maintains the value for the yuan in a very narrow band against the U.S. dollar by managing access to the foreign exchange market, the yuan not being freely convertible on capital accounts.

As long as the Hong Kong dollar and the yuan are pegged or tied to the dollar in this way and they have sufficient reserves for efficient market management, which at present they do, there is no problem. However, in the last few months senior bankers and politicians in China have been reaffirming their commitment to the fixed yuan/dollar rate, which is always a bit worrying. It is doubly worrying at the moment because the People’s Bank of China has been following a policy for some time now that will make that fixed rate impossible to maintain.

Until a year or so ago, the Chinese central bank held about 80 percent of its foreign reserves in dollars, with the balance largely spread across the Japanese yen, the British pound and gold. The exact ratios are a state secret. It is, however, the stated policy of the government to reduce the proportion of the reserves held in dollars — and yen and sterling — and to raise the proportions held in the euro and gold. It is thought the dollar may now account for less than half the total.

In itself there is no problem with the change in the ratios in which different currencies and gold are held in the reserves portfolio. There has been talk, however, about changing the method by which the yuan is valued in international transactions. Instead of being tied to the dollar with rates against other currencies determined in the market, there are indications that the government is moving toward what is known as a “basket system.” In this system, the value of the currency is tied not to one currency but a number of currencies. The weight of each currency in the basket varies, possibly according to the share of trade that China does with each of the countries whose currency is in it.

If China is moving toward a basket system for valuing the yuan, that will spell trouble for Hong Kong. The U.S. dollar is hopelessly overvalued. It is no longer a question of if it will collapse — possibly by as much as 40 percent on average — but when. Since the yuan has had its basket dollar weight reduced to, say, 50 percent while remaining at 100 percent for Hong Kong, the rate between the Hong Kong dollar and the yuan would have to change.

Some of us believe that the Chinese government regards the fixed rate between the Chinese and Hong Kong currencies as more important than that between the Hong Kong dollar and the U.S. dollar. We also believe the Chinese government eventually intends to press for parity between the Hong Kong dollar and the yuan. A substantial devaluation of the dollar would probably trigger this move.

Although the economic cost to the Chinese economy of the move to parity would be politically acceptable to Chinese leaders, the disruption that would be caused by the larger devaluation that would result if the Hong Kong dollar/U.S. dollar peg was to be maintained would not be, whatever the IMF thinks.

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