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Stocks

Economic alarm bells ringing as depreciation weighs on market

HONG KONG -- Stocks here are plunging as the Hong Kong dollar sinks to its softest level in years, fueling fears of an impact on the real economy, including capital flight and weaker corporate earnings.

     The benchmark Hang Seng Index sank below 19,000 for the first time in nearly three and a half years during Wednesday's trading. The Hong Kong dollar reached around 7.8228 to the U.S. dollar at one point -- its weakest since August 2007.

     Major foreign financial institutions, including HSBC Holdings and insurer AIA Group, were among Wednesday's losers. A soft Hong Kong dollar is seen as a bearish factor for these stocks, the Metro Daily newspaper's Tuesday edition said. While these companies settle their accounts in U.S. dollars, they rely on Hong Kong for much of their profits. This raises the concern that a weak Hong Kong dollar will create foreign exchange losses that eat into overall earnings, according to a local brokerage.

     Hong Kong developers such as Cheung Kong Property Holdings also fell across the board Wednesday. The Hong Kong Interbank Offered Rate has climbed as the Hong Kong dollar has softened. The 12-month Hibor stood at more than 1.14% Wednesday morning, its highest in about five and a half years, data from the Hong Kong Association of Banks shows. Higher interbank lending rates raise the reference rate on which mortgage rates are based.

     The economy of resource-poor Hong Kong relies on the service sector, particularly finance and real estate. A blow to these two industries can do significant damage to the real economy. For example, because big foreign financial institutions employ so many people, a drop in earnings could have a direct impact on the local job situation, said Louie Shum Chun-ying of Sincere Securities.

     The Hong Kong dollar's weakness has also sparked heated debate over the dollar peg that has been in place since 1983. Ben Bernanke, former chairman of the U.S. Federal Reserve, expressed support for the peg Tuesday at the Asian Financial Forum here, commenting that it makes sense given Hong Kong's small economic system.

     But selling of the freely traded Hong Kong dollar as a proxy for the offshore yuan propped up by Chinese monetary authorities has become excessive. The Hong Kong currency is approaching HK$7.85 to the greenback, the weak end of its permitted trading band. If it hits this level, Hong Kong will be forced to intervene to defend the peg.

     The Hong Kong dollar's weakness naturally stems from the soft yuan, which in turn owes to worries about the slowing Chinese economy, said Eric Yuen Chi-fung, head of research at Guoco Capital. When China sneezes, Hong Kong catches a cold. China's slowdown is not only cutting into Hong Kong's tourism and pushing money out of its stock markets, but threatening key industries as well.

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