Photographer: Lam Yik Fei/Bloomberg

IMF Says Hong Kong Property to Slow If Fed Delivers Rate Hikes

House prices in Hong Kong, the world’s most expensive real estate market, could cool next year if the Federal Reserve delivers the rate hikes it has projected, according to the International Monetary Fund.

The outlook comes as Hong Kong’s red hot property sector shows few signs of a slowdown with price gains of 11 percent this year even after the government pushed through new taxes and mortgage curbs.

The Fed could slow that momentum, according to Sonali Jain-Chandra, IMF Mission Chief for Hong Kong.

"If the Federal Reserve’s plans to increase interest rates over the next year materialize, as expected, we should expect a moderate slowdown of house prices in Hong Kong," Jain-Chandra said in emailed remarks.

Fed officials are scheduled to meet Dec. 12-13 in Washington, with economists forecasting they will raise the benchmark interest rate. The U.S. central bank has lifted rates just four times in two years and put its $4.5 trillion balance sheet on a very gradual path of slimming down, but further tightening is expected next year.

Importing Policy

Because Hong Kong’s currency is pegged to the dollar, it effectively imports U.S. monetary policy. Higher borrowing costs in the U.S. and elsewhere in the world would increase Hong Kong’s debt burden and suck capital away from the finance hub.

But authorities have tools to respond. If there was a housing slump, very tight macro-prudential policies and punitive stamp-duty taxes could be reversed, Jain-Chandra said. "If a large and disorderly correction were to happen, the authorities can reverse their current policies to support the housing market."

U.S. economic growth could cushion the impact of any tightening by the Fed or other central banks around the world, Jain-Chandra said, noting that during past periods of Fed rate hikes, Hong Kong’s growth and exports rose.

Releasing its annual assessment of the former British colony on Wednesday, the IMF said that although faster global growth and ongoing reforms in China are lifting Hong Kong’s economy, "overall risks are still tilted to the downside." It described Hong Kong’s property market as "booming and overvalued."

House Price Records

Buyers continue to set new records for residential and commercial properties, putting the city in bubble risk territory. Mass market home prices are tipped to rise between 8 percent and 10 percent next year, according to property consultancy Colliers International Group Inc. Real estate consultant Knight Frank LLP expects prices of such homes to climb 5 percent next year, while luxury housing advances 8 percent.

Because a significant portion of new mortgages are on floating rates and indexed to the benchmark Hibor, borrowers are vulnerable to interest rate hikes, the IMF’s report said. Interest rates for mortgages linked to Hibor have been rising since May after the Hong Kong Monetary Authority raised the capital that banks have to set aside to cover new housing loans.

"A disorderly housing price correction could trigger an adverse feedback loop between house prices, debt servicing ability and lower consumption, which would result in weakening growth leading to second round effects on banks’ balance sheets," the IMF said in its report.

To deflate the housing boom, authorities will need to speed up the supply of new housing stock by tackling hurdles that are blocking the release of land for development. Continued usage of macro-prudential measures also needs to be part of the policy response.

More Land Needed

"One of our main policy recommendations is to increase land supply for new developments," said Jain-Chandra.

There are other worries too. An economic slump or financial stress in mainland China could spill over into Hong Kong, especially via the banking system. That echoes similar commentary from ratings firms. Heightened credit risks could act as headwinds for the city’s lenders given their exposure to China, S&P Global Ratings said in a report earlier this month. 

Both Moody’s Investors Service and S&P downgraded Hong Kong’s credit rating this year on the back on earlier cuts to China’s status, citing linkages between the two economies.

Rising protectionism also poses headwinds given Hong Kong’s reliance on cross-border trade, investment and movement of labor. The Heritage Foundation has dubbed Hong Kong’s economy the world’s most open for the past 23 years.

But Hong Kong has buffers which will help it weather any storm, according to the IMF. They consist of large net foreign assets and international reserves, fiscal reserves amounting to 25 months of government spending and gross debt that lies at below 0.1 percent of gross domestic product. Banks have built up strong capital buffers and asset quality remains strong.

— With assistance by Frederik Balfour, and Alfred Liu

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