(Approved for Issue by the Exchange Fund Advisory Committee on 27 September 2001)
Currency Board Operations for the Period 1 August - 24 August 2001
The Sub-Committee noted that the Hong Kong dollar exchange rate and money market had remained stable during the period under review, despite corrections in local stock prices and volatility in the external environment. Interbank interest rates had eased, partly reflecting a 25 bp rate cut in the US Fed Funds Target Rate on 21 August as well as market expectations of a further rate cut. The Hong Kong dollar interest rates across all maturities had stayed below their US dollar counterparts.
2. The Sub-Committee noted that, in accordance with Currency Board principles, changes in the monetary base during the period under review 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 A.
Monitoring of Risks and Vulnerabilities
4. The Sub-Committee noted the regular information paper on external and internal risks facing Hong Kong. The discussion focused on the implications of the devastating events in the US on 11 September. Members noted that the incident had triggered sharp declines in equity prices around the world. Nevertheless, central banks in industrial economies had vowed to provide liquidity to maintain stability in the money markets, if needed. Investors expected further interest rate easing in the US to mitigate the adverse impact of the events. In the currency market, the incident had created uncertainties regarding the direction of the US dollar exchange rate.
5. Members considered that the macroeconomic impact of the incident would depend on how the events unfolded. In the near to medium term, there was a risk that weakened consumer and investor confidence would exacerbate the slowdown of the US economy. Coupled with the prevailing demand weaknesses in Japan and the euro zone, the outlook for the global economy appeared worrisome. Asia would not be immune, and the export-dependent economies would be particularly hard-hit. In South America, Argentina, with persistent problems in its public finances, remained a concern.
6. Members noted that, notwithstanding the closure of financial markets in the US immediately after the incident, money and exchange markets in Hong Kong had remained stable. The Hong Kong Monetary Authority had assured banks of adequate liquidity provision in the interbank market and the smooth functioning of the clearing and settlement systems. Nevertheless, as in most other bourses, local stock prices had declined significantly. Growth prospects were likely to be affected by the unfavourable developments in the external environment, although a possible weakening of the US dollar and further interest rate easing might cushion the slowdown.
Management of Fiscal Transfers and its Implications
7. The Sub-Committee considered a paper discussing the various ways through which the impact of fiscal transfers on interbank liquidity was neutralised, and their implications on the exchange rate, interest rate and money supply. Members noted three main recycling routes: (a) placements to or drawdowns from the banking system, (b) repayment of loans or borrowings from the banking system, and (c) the purchase or sale of US dollars against Hong Kong dollars. The effects of these various channels on money and exchange markets were not likely to be significant in view of the depth of the markets.
8. Members noted that the current practice of excluding short-term Exchange Fund placements from the money supply statistics, adopted since 1979, introduced some minor statistical distortions to the monetary aggregates. They agreed that the definition of monetary aggregates should be reviewed.
Monitoring Market Sentiment Regarding the Currency Board using Hong Kong Dollar Option Prices: A Preliminary Report
9. The Sub-Committee noted an information paper on extracting information from Hong Kong dollar option prices to monitor market sentiment regarding the Hong Kong dollar.
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Jasmin Fung, Manager (Press), at 2878 8246 or
Caitlin Wong, Manager (Press), at 2878 1687
Hong Kong Monetary Authority
28 September 2001
