Weakening the Hong Kong Dollar May Hurt China More Than Tariffs Would, Experts Say

A man looks on in front of a currency exchange booth in Hong Kong on Oct. 22, 2012. Philippe Lopez/AFP via Getty Images

News Analysis

Weakening Hong Kong’s currency peg to the U.S. dollar may be more consequential for China’s economy than imposing tariffs on imports, according to experts.

Beijing relies on Hong Kong’s stable monetary system to drive the de-dollarization strategy and maintain a sanctions evasion haven for Russia and North Korea. In 2023, nearly 40 percent of goods exported from Hong Kong to Russia were listed on the U.S. and European “common high priority items” lists. These primarily included semiconductors and other advanced technologies that Russia urgently needed for its military efforts in Ukraine.

The decades-old Linked Exchange Rate System (LERS) ensures the Hong Kong dollar remains stabilized against the U.S. dollar at an exchange ratio between 7.75 and 7.85 to 1. Such financial stability can ensure substantial U.S. dollars and international funds reserves to support yuan settlement while reducing exchange rate risk. Mainland China cannot replicate this due to the yuan’s high risk and volatility.

Given Hong Kong’s strategic importance, experts predict that the U.S. dollar-pegged exchange rate system could become a primary target of sanctions if President Donald Trump initiates his policies against the Chinese regime in his second term.

The Chinese Communist Party (CCP) has also seen the threat.

On Jan. 9, Eddie Yue, chief executive of the Hong Kong Monetary Authority, reaffirmed the LERS with an article published on the agency’s official website.

“While risk management is important, let’s not be swayed by unfounded concerns,” he wrote. “And let me reiterate, we have no intention and we see no need to change the LERS.”

Calling the potential move the “most decisive” in the coming U.S.–China trade war,” Shi Shan, a China expert and contributor to The Epoch Times, said a weakened LERS could bring greater economic loss to China than the tariff increase on Chinese goods.

On the campaign trail, Trump repeatedly said that he would impose up to 60 percent tariffs on imports from China. After he won the election in November 2024, he announced that he would impose an additional 10 percent tariff on Chinese goods entering the United States.

Increasing tariffs may hinder exports, which are a vital driver of economic growth, and losing Hong Kong as an essential financial gateway to the global market would have catastrophic consequences for the CCP, Shi said. About two-thirds of China’s foreign direct investment is routed through Hong Kong.

Five years ago, the first Trump administration revoked Hong Kong’s special status of preferential trade treatment as a countermeasure to Beijing’s enactment of the National Security Law in Hong Kong. The CCP’s heightened control of Hong Kong has led to an alarming escalation in the repression of dissent and the disruption of human rights in the region.

Possible Approaches to Hong Kong

Although the United States cannot set policies for Hong Kong, it can indirectly influence the outcome.

As Hong Kong and its financial system are increasingly in the saddle of the CCP in the following years, Trump may choose to disrupt LERS as a chokehold on the CCP, said Shi.

He said Trump could sanction major money-printing banks in Hong Kong, which would affect trading volumes and investor confidence and increase the costs and risks of maintaining the exchange rate regime.

Pedestrians walk past the logo for HSBC outside a local branch bank in Hong Kong on Aug. 2, 2021. Isaac Lawrence/AFP via Getty Images

David Huang, a U.S.-based economist, said the United States could also limit Hong Kong banks’ ability to purchase U.S. dollars, thereby affecting the dollar reserves held by the Hong Kong Monetary Authority.

Another possible approach could be restricting which banks in Hong Kong could deal with the U.S. financial system, such as imposing approval conditions that prevent them from directly transferring funds to U.S. banks or financial institutions for investment, he said.

Both of the above measures would significantly reduce the liquidity of U.S. dollars in the Hong Kong market and disrupt the regular operation of the exchange rate system. Many people would seek to sell Hong Kong dollars in exchange for U.S. dollars, leading to a depreciation of the Hong Kong dollar and a decrease in the number of investors using Hong Kong banks for international settlements.

“In the long run, weakening the Hong Kong dollar’s peg to the U.S. dollar will erode Hong Kong’s position as a global financial hub,” Huang told The Epoch Times.

On the other hand, should the Hong Kong dollar weaken significantly against the U.S. dollar, Beijing will take countermeasures. Huang surmised that the CCP would permit the Hong Kong Monetary Authority to draw on foreign reserves from the mainland. As of the end of November 2024, China’s foreign exchange reserves stood at $3.3 trillion.

However, this figure does not look that vast. Many of these reserves are committed to essential national expenditures, such as purchasing semiconductor chips, energy, and other critical materials, as well as servicing substantial debts, such as real estate giant Evergrande’s outstanding debt payments in billions of dollars.

“Tapping into these reserves could erode market confidence in the Chinese yuan and accelerate its depreciation,” Huang said.

Moreover, if the reserve levels are compromised, this could lead to heightened speculative attacks on the Hong Kong dollar, driving the currency to depreciate further and risking economic instability in Hong Kong, which could spill over to the mainland.

Huang told The Epoch Times that domestic and foreign investors would also lose confidence, resulting in massive capital withdrawal.

‘Drastic Measure’

In addition to imposing restrictions on Hong Kong banks and disrupting the exchange rate system, the United States could implement a “drastic measure,” such as potentially excluding Hong Kong’s financial system from the international SWIFT payment network, according to Shi.

Toward the end of Trump’s first term, some top White House advisers floated the idea of undermining the Hong Kong dollar’s link to the greenback. But the administration didn’t take action because of the amount of work involved and the potential harm to U.S. business interests. However, Shi said it remains an option in Trump’s second term.

He said that excluding Hong Kong’s financial system from international settlements is the ultimate weapon that the United States may use, for example, in the event the Chinese regime attacks Taiwan. In this scenario, the United States could kick Hong Kong banks out of SWIFT, just as Washington and the European Union sanctioned Russia by excluding major Russian banks from SWIFT after Russia invaded Ukraine in 2022.

In addition, if China’s economic power exceeds that of the United States, this option will be activated eventually, Shi told The Epoch Times.

“For instance, the CCP’s efforts to de-dollarize have affected the global status of the U.S. dollar, and the greater the impact, the more likely the United States will seek to leverage this as a countermeasure,” he said.

Beijing quickly established an alternative settlement system based on the Chinese yuan. At the BRICS summit in October 2024—an annual meeting of an informal group of emerging markets aiming to increase global influence—founding members China and Russia expressed their intention to establish a Chinese yuan-based cross-border payment system, intending to reduce reliance on Western-dominated financial systems and avoid potential sanctions.

A woman walks past a Chinese "renminbi" (RMB or yuan) currency sign advertising personal services at its headquarters in Hong Kong on Feb. 24, 2004. Ted Aljibe/AFP via Getty Images

Most offshore Chinese yuan transactions flow in and out of China via Hong Kong, which handles around 80 percent of global offshore yuan settlements, exempting from Beijing’s foreign exchange controls. Statistics released by the Hong Kong Monetary Authority on Dec. 31, 2024, show that Hong Kong’s yuan deposits stood at 992 billion yuan ($136 billion) at the end of November 2024.

In addition, most transactions with BRICS partner countries are conducted in yuan. Russia has drastically increased the use of yuan in bilateral trade with China following U.S. sanctions against Russia for its invasion of Ukraine.

Since China established the Cross-Border Interbank Payment System, or CIPS, in 2015, Hong Kong has been at the forefront of launching various cross-border financial mechanisms linked to the yuan. This interconnection with the Shanghai and Shenzhen stock markets facilitated the expansion of the Chinese currency.

Hong Kong also serves as a “crucial buffer” to ease the impact of fluctuations in the Chinese currency, as the yuan is under downward pressure due to economic stagnation in the mainland, according to Huang.

He said that Hong Kong can help investors manage potential losses from the yuan’s volatility by providing various financial products and services, including hedging and risk management tools.

Weakening the Hong Kong dollar’s link to the U.S. dollar would significantly reduce the yuan’s liquidity, Huang said, which could potentially shatter the CCP’s ambition to dominate the global currency.

Xin Ning contributed to this report.

Correction: A previous version of this article misspelled David Huang’s name. The Epoch Times regrets the error.