(Approved for Issue by the Exchange Fund Advisory Committee on 28 March 2002)
Currency Board Operations for the Period 26 January - 23 February 2002
The Sub-Committee noted that the Hong Kong dollar exchange rate had been stable during the reporting period and that the operations of the Currency Board system had been normal. The continuing crisis in Argentina and the weakness in the yen had not affected the stability of the Hong Kong dollar. Hong Kong dollar interest rates had remained stable, although they had generally maintained a modest spread above their US dollar counterparts throughout the period. Members noted that, as usual during the period leading up to the Chinese New Year holiday, the increased demand for banknotes had led to a surge in the number of outstanding Certificates of Indebtedness, which had peaked in early February and had gradually declined since.
2. The Sub-Committee noted that, in accordance with Currency Board principles, changes in the monetary base during the reporting period had been fully matched by 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 that the global outlook had shown some signs of improvement in the past month or so, with increasing signs of a recovery in the US. The strength and the durability of the recovery nevertheless remained uncertain. Japan remained in recession. While there had been a rebound in the yen and in the stock market, it remained to be seen how sustained these trends would be.
5. Members noted from that the near-term outlook for Hong Kong remained weak. A particular concern was the pronounced decline in exports and what appeared to be an emerging decoupling of export growth between Hong Kong and the Mainland. It was unclear whether this would become a longer-term trend or what the exact causes were. One factor could be a shift in the source of China's exports away from the southern provinces, where there was a closer relationship with re-exports from Hong Kong. Another factor could be a shift from re-exports to direct exports from the Mainland ports.
6. The Sub-Committee noted a preliminary assessment of the macro-economic impact of the recent Government budget. Members noted that the near-term policy priority outlined in the budget was to help economic recovery, through a fiscal impulse that was estimated to raise real GDP growth by three-quarters of a percentage point, and that the medium-term strategy focused on expenditure retrenchment, which, if successfully implemented, should improve market confidence in fiscal sustainability.
Definition of Money Supply
7. The Sub-Committee considered a proposal for making a slight revision to the definition of money supply in Hong Kong. At their discussion of a paper on the Management of Fiscal Transfers and its Implications on 12 September 2001, Members had noted that the current practice of excluding short-term Exchange Fund placements from the money supply statistics, adopted since 1979, had introduced minor statistical distortions to the monetary aggregates and had recommended that the definition of monetary aggregates should be reviewed.
8. Members considered that, conceptually, there was a case under a Currency Board system for including short-term Exchange Fund placements in the monetary aggregates and that, in practical terms, it was unlikely that such an inclusion would lead to any significant changes in the monetary aggregates or their relationship with other macro-economic variables, such as output and price. Members therefore recommended that the revision to the definition, as proposed in the paper, should be made. The HKMA, however, would provide money supply statistics compiled based on the existing definition, on request by researchers for study purpose.
Comparing Flexibility in Argentina and Hong Kong
9. The Sub-Committee noted an information paper comparing the experience of Hong Kong and Argentina over the past decade, with particular reference to the question of economic flexibility. Members observed that there were a number of contrasts between the two systems, including much greater flexibility in Hong Kong's goods and labour markets and in its fiscal arrangements, and that the rigidities in Argentina's experience were incompatible with the maintenance of a fixed exchange rate. Members also noted that Argentina's problems had been compounded by administrative and political weaknesses.
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