As international financial activity increasingly focuses on China and the Asian time zone, Hong Kong's location and excellent infrastructure make it an attractive centre for that activity, and perhaps for financial markets themselves.
A necessary condition for a market to come into being is the existence of supply and demand for whatever product is to be traded in that market. For those involved in developing a market, assuming that it is considered desirable to do so rather than leaving it to market forces to bring it about, this is a fundamental issue on which to focus, arguably before anything else. For example, in establishing an international market in a particular financial product in Hong Kong, which is clearly desirable for the maintenance of the status of Hong Kong as an international financial centre, there is a need first to consider how international supply and demand for that financial product can be attracted to Hong Kong. This is not easy because we are talking about doing so possibly at the expense of established markets elsewhere.
Despite the obvious difficulties, we have one thing going for us, and this is the emergence of the Mainland as one of the largest global players (if not already the largest) in some financial products, perhaps to the extent of being in a position to influence, or even dictate, a migration of global activities to our time zone. There are interesting arguments, beyond the desire to maintain the status of Hong Kong as an international financial centre, for having global activities migrate to the Asian time zone. First, it is in the interest of investors in Asia for trading activities to gravitate to our time zone, where the sources of supply and demand meet and where the associated information originates. Then there is the convenience of being able to do business in our time zone, without having to stay up late or face the inflexibility of having to place overnight orders at pre-determined prices. There is also the associated possibility of greater ease in managing risks arising from the time differences, for example, payment and settlement risks. I am sure there are other favourable considerations. We obviously need to work on these arguments, articulate them well and conduct appropriate marketing on the Mainland and in other jurisdictions, not necessarily just those in our own time zone from which significant supply and demand originate.
There are two other related areas that should receive close attention when developing a market. The first is the mechanism for efficient and reliable price discovery, which is essential for attracting market participants, whether from the supply side or the demand side. There are many important issues to consider, such as the liquidity and market-making arrangements including short-selling; hedging and risk management; transaction costs; market concentration; disclosure of information, particularly price-sensitive information; and the role of intermediaries, if any. The second is the market infrastructure, which includes the trading platform (exchange-traded or over-the-counter); the payment, clearing, settlement and custodian arrangements; and, importantly, the framework (whether or not involving a formal regulatory regime) that safeguards market integrity and therefore sustains market confidence.
This quartet of market development issues - supply, demand, price discovery mechanism and market infrastructure - has to be considered systematically and comprehensively if we are to stand a chance of success. In Hong Kong we do not really have a domestic economy big enough to start or support a critical mass that justifies the natural existence or the deliberate establishment of markets in particular financial products. The supply and demand will need to come from outside Hong Kong. But there are successful examples of other jurisdictions running international financial markets even though there is no significant demand or supply locally. With the Mainland rising rapidly in significance in financial markets, the underlying conditions for a migration of financial market activities, if not the market place itself, to this time zone are becoming more favourable. We obviously would like to see such migrations to Hong Kong, but a prerequisite is for the Mainland to adopt a proactive policy of supporting Hong Kong as an international financial centre by organising its international financial activities here. Our financial architects and engineers in Hong Kong are more than happy, and actually in a very good position, to establish the necessary market mechanisms and infrastructure quickly.
Joseph Yam
26 October 2006
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