Establishment of the Exchange Fund
Hong Kong's Exchange Fund was established by the Currency Ordinance of 1935 (later renamed the Exchange Fund Ordinance). Since its inception, the fund has held the backing to the note issue of Hong Kong.
In 1976, the role of the Exchange Fund was expanded. The assets of the Coinage Security Fund (which held the backing for coins issued by the Government), as well as the bulk of foreign currency assets held in the Government's General Revenue Account, were transferred to the Exchange Fund. On 31 December 1978, the Coinage Security Fund was merged with the Exchange Fund.
In 1976, the Government began to transfer its fiscal reserves to the Exchange Fund. This arrangement was introduced to avoid fiscal reserves having to bear exchange risks arising from investments in foreign currency assets and to centralise the management of the Government's financial assets. The fiscal reserves are not permanently appropriated for the use of the Exchange Fund, but are repaid to the General Revenue Account when they are required to meet the obligations of the general revenue. Through this transfer of the fiscal reserves, the bulk of the Government's financial assets are, therefore, placed with the Exchange Fund.
Active Management of the Fiscal Reserves
Prior to 1 April 1998, fiscal reserves were placed with the Exchange Fund as Hong Kong dollar deposits to minimise market risk. Since the official reserves had grown dramatically over the years, it was decided that the fiscal reserves placed with the Exchange Fund should be more actively managed to achieve a higher long-term real rate of return. From 1 April 1998, the fiscal reserves previously placed as Hong Kong dollar deposits with the Exchange Fund became actively managed and the return of these official reserves were linked to the performance of the overall Exchange Fund.
Since 1 April 2007, the Treasury collects a fee on the fiscal reserves placed with the Exchange Fund based on a fixed rate for the year determined every January. The rate is the average investment return of the Exchange Fund's investment portfolio for the past six years or the average annual yield of three-year Exchange Fund Notes for the previous year, whichever is the higher.
Merger of Land Fund Reserves into the Exchange Fund
On 1 November 1998, the assets of the Land Fund, amounting to about HK$211.4 billion were placed with the Exchange Fund and managed in the same way as other fiscal reserves placed with the Exchange Fund.