Twenty-three years on, the Linked Exchange Rate system continues to be a bulwark against monetary instability.
However one chooses to put it, twenty-three years is a long time. About 30% of our population is less than 23 years old. So when the Linked Exchange Rate system became operational on Monday 17 October 1983, none of them had been born yet. They include almost all of our university students; many of them, recognising Hong Kong's continuing status as an international financial centre, are studying money and finance. For them, the Hong Kong dollar has always been linked to the US dollar at the fixed exchange rate of 7.80. For them, the long, near-panic queues at supermarkets scrambling for rice and toilet rolls in the weekend of 24-25 September 1983 must be quite alien; so too, I imagine, the exchange rate of 9.60 to the US dollar on that scary Saturday morning.
Looking back, I cannot help wondering why we got to where we were. Those who have some knowledge of monetary management will appreciate the importance of having an anchor for the currency. In technical terms, this means that the authorities should have some effective control over the monetary base, however it is defined. Yet there had been none over the nine years of floating of the Hong Kong dollar (1974 to 1983), and there had been little or no research or contingency planning on the monetary front. It was also probably asking too much of a commercial bank to expect it to shoulder the responsibilities for running the important function of settlement for all interbank Hong Kong dollar transactions at the time, and hence ensuring the effective control of the Monetary Base in Hong Kong.
But then it is inappropriate to judge anything with hindsight. It is more appropriate to learn from experience. The arrangement introduced 23 years ago for the issue and redemption of banknotes (through Certificates of Indebtedness issued to and redeemed from the note-issuing banks for the account of the Exchange Fund) against US dollars at the fixed rate of 7.80 represented the first anchor for a component of the Monetary Base. Over the years research and contingency planning have revealed inadequacies in the system and so refinements have been introduced, I am pleased to say, considerably ahead of time to avoid destabilising crises. Now we have effective control of a monetary base that is very well defined, including crucially the Aggregate Balance in the Hong Kong dollar clearing accounts of commercial banks maintained with the HKMA for the account of the Exchange Fund, and we exercise such control transparently and in a rule-based manner. And research and contingency planning have become an important part of the work of the HKMA.
This is not to say that we are now immune to any monetary crisis. It is in the nature of crises that they are often unpredictable. And globalisation means that a monetary or financial crisis does not necessarily erupt from domestic events. With the Basic Law mandating that no foreign exchange control policies shall be applied to Hong Kong, and with Hong Kong being a significant international financial centre of considerable liquidity and having a fixed exchange rate, we are arguably more vulnerable than others to monetary and financial instability. What is important is that, in the light of changing circumstances, we should ensure that we have the necessary armoury to deal with shocks in our monetary and financial systems in the best way we can. Having nursed the Linked Exchange Rate system from day one and been responsible for the various refinements introduced since then, my views are probably biased, but for what it's worth, I think we are now in that position. We nevertheless welcome any views anybody may have on monetary management in Hong Kong so that we can further refine the system if necessary.
I wish all the twenty-three-year-olds who were born in October a happy birthday. Give your parents a special, big hug on your birthday (and do so every year). They had an exceedingly tough time, not only in bringing you into this world 23 years ago, but also worrying about the escalating prices of those diapers that they had difficulty finding on the near-empty shelves in supermarkets.
Joseph Yam
12 October 2006
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