As recorded by thebalance.com, Hong Kong has a fixed exchange rate system against the USD currency, that 7.85 HKD is fixed to 1 USD.
Such fixed exchange rate system makes trading more convenient and accessible. According to the office of the United States Trade Representative, Hong Kong was the United States’ 10th largest goods export market in 2018, with exporting gods worth approximately $37.5 billion, which accounts for 10% of the Hong Kong’s national income ($363 billion given by countryeconomy.com). This indicates that having a stable exchange rate would be important to businesses in the United States, since any fluctuations in the exchange rate would fluctuate the demand for the goods that United States producer are producing, change the import price for Hong Kong, alter the level of their competitiveness against the domestic producers and other foreign producers of the same good, thereby influencing the level of quantity traded and pricing decisions that they have to make. This would mean that businesses will find it difficult to predict their profits and could not plan ahead for their production and investment schemes, from which the United State government would also experience uncertainty in the level of economic activity and the tax revenue. With a fixed exchange rate system, all these concerns could be made disappeared, through which businesses and government of the United States experience less uncertainty and could plan ahead.
In a like way, it is well known that most of the future goods, such as crude oil, gold and other metals have their standard market expressed in the currency of USD. Having its currency fixed against the USD, Hong Kong firms do not have to worry for the fluctuating cost of production caused by the fluctuating exchange rates, keeping their production costs less fluctuating. This means their pricing decision can remain more stable and they do not have to bear extra costs incurred by the printing of new menus/price tables as a result of changing their selling prices. This leads to increase in business efficiency.
The fixed exchange rate system does not only benefit the United States, and Hong Kong, but with all countries that trade with United States and Hong Kong, especially those who also have a fixed exchange rate system against either USD or HKD. For example, since Saudi Arabi’s currency, Riyal, is also fixed to the U.S. dollar, HKD would become automatically fixed against the SAR, which makes the importing & exporting firms in both Hong Kong and Saudi Arabi prompt to less uncertainty too.
In addition, a fixed exchange rate indicates that the value of HKD might not always reflect the real value of it in terms of USD, and it is usually lower due to fixing. This might put domestic businesses in a situation that they would be more profitable, as foreign buyers might find it cheaper as a result of their weak exchange rate.
However, fixed exchange rate comes with a number of drawbacks. To start with an obvious one, a fixed exchange rate system requires the government to take approaches to adjust the demand and supply of the currency to manipulate the rate whenever a fluctuation is monitored. This incurs costs to the Hong Kong government with an opportunity cost and puts a pressure on the government budget. This can in turn create political disparity as people engender different opinions upon government’s budget.
Next, since a fixed exchange rate system encourages trade, it is unfavorable to those who used to gain from the floating exchange rate system as a protectionism approach to increase their competitiveness. For example, United States producers of machineries might not be able to compete against those in Hong Kong, because Hong Kong has access to cheaper materials imported from China. In a severe case, it can cause structural unemployment and economic depression.
A fixed exchange rate system also means that Hong Kong and United States will be affected by inflation in other country. This is called ‘imported inflation’, which can cause a series of undesirable consequences.
It is difficult to come to a conclusion whether the fixed exchange rate system is beneficial to Hong Kong and United States. This is because, such exchange rate system certainly brings lots of benefits to businesses worldwide, but it might not be a good thing to the government in terms of budget, how it destroys protectionism, and how it conflicts with other macroeconomic objectives.