Hong Kong slices interest rate by 1 percentage point

HONG KONG -- Hong Kong's de facto central bank said Wednesday it would trim its benchmark interest rate by 1 percentage point to 2.5% to encourage lending amid the global credit crunch.

The move by the Hong Kong Monetary Authority, effective Thursday, is a break from the territory's traditional pattern of closely tracking the U.S. Federal Funds target rate, now at 2%, due to the local currency's peg to the U.S. dollar.

"One has to do extraordinary things at extraordinary moments," said Jacky Choi, a Hong Kong-based fund manager at Value Partners Ltd., which manages about US$5 billion in Asia.

Choi described the authority's decision as reasonable, saying it would help local banks solve their short-term liquidity problems.

But some disagreed, saying the effect would be limited.

"Local banks do not want to take any risk and prefer to keep liquidity with themselves now given this financial situations," said Castor Pang, analyst at Sun Hung Kai Financial.

Investors took little heart from the move, sending the benchmark Hang Seng index down 8.2% at 15,431.73 points.

The authority said in a statement that Hong Kong's base rate — the reference for lending overnight funds to local banks through its discount window — would be slashed to 2.5% from 3.5% on Thursday.

The HKMA revised its formula for calculating its base rate from 150 basis points above the prevailing U.S. fed funds rate to 50 basis points, it said.

The 150 basis points "is larger in Hong Kong than elsewhere, and has become unjustified, particularly in the light of stressful conditions in global financial markets," said HKMA Chief Executive Joseph Yam in the statement.

On Tuesday, Federal Reserve Chairman Ben Bernanke gave a gloomy assessment of the U.S. economy, appearing to open the door wider to an interest rate cut in the U.S. on or before Oct. 28-29, the central bank's next meeting.

The Fed in June had halted an aggressive rate-cutting campaign to revive the economy out of fear those low rates would aggravate inflation. Since then, financial and economic conditions have deteriorated, while record-high energy prices have calmed, giving the Fed more leeway to again cut rates.