The Seven Technical Measures

inSight

30 Sep 1999

The Seven Technical Measures

One year on Hong Kong's monetary system has been strong and stable since the introduction of the seven technical measures last September.

It has been just over a year since the seven technical measures to strengthen the currency board system of Hong Kong were introduced. I remember quite well spending the whole of Saturday 5 September 1998 giving extensive briefings on those measures, and on other initiatives, to Legislators, editors, reporters, academics and bankers. By the end of the day I was exhausted. But I was also relieved that months of contingency planning, done as usual almost in isolation because of the sensitivity of the issues involved, had borne fruit. There was even a sense of excitement, because the circumstances had presented a real opportunity to prove whether the contingency plan worked, not to mention a secret sense of trepidation in case it did not.

No precedents were available to show us how a modern day currency board system should be structured. In contrast to the days of the old currency board systems, money now takes on more forms than just cash. Financial transactions are now conducted mostly through electronic money, and money is itself traded with the touch of a few buttons on a 24-hour basis with no geographical boundaries. No consensus existed among academics or practitioners about what the ideal definition of a monetary base, to be fully backed by foreign reserves, should be. Breaking new ground in monetary management is never easy. You are up against the traditionalists who may be quite dogmatic and who speak with unquestionable authority. And you also have the task of convincing a lot of sceptical people that you have got it right, something that only time can tell.

A very supportive press, reporting very favourable comments from opinion formers in this field and carrying encouraging editorials, on Sunday 6 September 1998 gave the reform measures a good foundation on which to be tested on the next business day and beyond. One leading newspaper generously referred to the package as a "class act", while others awarded me a few more nicknames. But it was not until the next day, when interest rates in the inter-bank market fell across the board and the Hang Seng Index rose nearly 600 points to close at well above 8000, that my colleagues and I at the HKMA were able to breathe a sigh of relief. The rest, now one year on, is history. Indeed, even a day is a very long period in the world of finance, let alone a year.

There have been further tests, and further refinements over the past year, but I am glad to note that confidence in Hong Kong's currency board system has continued to strengthen. This is reflected in the high degree of stability in interest rates for the Hong Kong dollar. In particular, the interest rate premium over the US dollar, to which the Hong Kong dollar is linked, has fallen to pre-crisis levels.

The seven technical measures in effect created a big buffer that made Hong Kong interest rates a lot less sensitive than before to capital flows without in any way compromising the important principle of a currency board system: that the monetary base must be fully backed by foreign reserves. Creating this buffer involves committing an additional part of our foreign reserves in defence of our currency before the interest rate mechanism is brought into play. Some have expressed concerns about such a commitment, despite the adequacy of our substantial foreign reserves, for the excessive commitment of foreign reserves in such a way has the potential to undermine confidence in the system. Others have said that we can afford, and indeed should be prepared, to commit more, for the defence of our currency is the legal role of the Exchange Fund holding our foreign reserves. Perhaps because of the stability that our monetary system has enjoyed over the last year, the debate on this issue has subsided in recent months. It might, however, be useful to revisit it during this continuing period of calm, and I welcome views on the topic: even if they do not point to any desire to change the present system, they would be helpful to us in our contingency planning.

 

Joseph Yam
30 September 1999

 

More information on the Currency Board System can be found here.

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Last revision date : 30 September 1999