Record of Discussion of the Meeting of the Exchange Fund Advisory Committee Currency Board Sub-Committee held on 9 January 2013

(Approved for Issue by the Exchange Fund Advisory Committee on 4 February 2013)

Report on Currency Board Operations (5 October 2012 – 13 December 2012)

The Sub-Committee noted that the Hong Kong dollar exchange rate strengthened and stayed close to the strong-side Convertibility Undertaking (CU) of 7.75 during the review period.  The strong-side CU was triggered intermittently due to inflows of funds, partly reflecting increased allocation to Hong Kong dollar assets by overseas investors and proceeds from issuance of foreign currency bonds by Hong Kong firms in exchange for Hong Kong dollars.  As a result, the Aggregate Balance increased markedly, and the Monetary Base increased to HK$1,175.92 billion from HK$1,102.05 billion during the review period.

2. The Sub-Committee noted that, in accordance with Currency Board principles, changes in the Monetary Base had been fully matched by corresponding changes in foreign reserves.

3.  The Report on Currency Board Operations for the period under review is at Annex.

4. The Sub-Committee noted that after the review period but before the meeting was held, the HKMA announced on 7 January 2013 that it would issue additional 3-month and 6-month Exchange Fund Bills (EFBs) in order to meet the increased demand by banks for EFBs given the abundance of liquidity in the banking system.  The additional Exchange Fund Bills would be offered through tenders on 15, 22 and 29 January 2013, totaling HK$21 billion.  The Sub-Committee noted that the increase in the supply of EFBs was consistent with Currency Board principles.

Monitoring of Risks and Vulnerabilities

5. The Sub-Committee noted that in Europe, the recession continued to deepen, with industrial production declining sharply across different economies.  The Sub-Committee further noted that the European Central Bank (ECB) hinted at cutting the deposit facility rate to negative level in its Governing Council meeting in December 2012. 

6. The Sub-Committee noted that in the US, the White House and Congressional leaders reached an agreement in time to scale down tax hikes under the “fiscal cliff”, but it remained unclear if the two sides could compromise again in February on alleviating the automatic spending reduction and on raising the debt ceiling. 

7. The Sub-Committee noted that in Hong Kong, economic conditions showed signs of slight improvement.  While inflationary pressures picked up somewhat, residential property prices moderated amid the Government’s demand-management measures.  However, against the background of an extended period of global monetary easing, sustained inflows of funds and the ultra low interest rate environment, upside risks to inflation and asset prices would remain in the near future.

Recent performance of the Hong Kong dollar exchange market

8. The Sub-Committee noted a paper on recent performance of the Hong Kong dollar exchange market.  The paper reviewed the market liquidity and market depth of the Hong Kong dollar exchange market after the introduction of the two-sided Convertibility Zone to the Linked Exchange Rate System in May 2005.  The Sub-Committee noted that while the Hong Kong dollar showed no strong tendency to revert towards the centre of the Convertibility Zone, a new analytically tractable model showed that the Linked Exchange Rate System had been seen by the market as highly credible.

Hong Kong Monetary Authority
15 February 2013