Hong Kong's Financial Infrastructure (II)

inSight

31 May 2001

Hong Kong's Financial Infrastructure (II)

Effective financial infrastructure, even in a free market economy, needs a degree of government involvement.

Last week I emphasised the importance of a safe, efficient and cost-effective financial infrastructure to Hong Kong's development as an international financial centre and argued that the Government of the Hong Kong Special Administrative Region has a responsibility, under the Basic Law, to provide it. For this week and next, I would like to describe how we in the HKMA, as part of the Government of the Hong Kong SAR, view this task. I shall this week focus on the platform for international financial intermedation. Next week I shall deal with the settlement system.

To preface this, I have to make clear, in case I am accused of being interventionist, that I believe that the free market can largely be relied upon to come up with a safe, efficient and cost-effective financial infrastructure. It is indeed in the long-term interest of the financial community that this is so. But, like the construction and operation of various forms of the physical infrastructure, there is invariably also a role, necessitating differing degrees of involvement, for the authorities. We need a safe and efficient platform (a robust banking system for example) for the conduct of financial transactions, just as we need a convention and exhibition centre - a physical platform for people to interact and conduct activities that keep the economy going. We need a settlement system to effect payments and transfers of ownership of financial products safely, cost-effectively and efficiently, just as we need a transport system, for people and goods, with the same characteristics. Some of these facilities will simply not be built if left entirely to the private sector operating in a free market environment. There is a need for this to be understood and accepted.

The busiest and most extensive platform for financial intermediation is the banking channel: the banks are all privately run, and they are free to decide who to lend money to and who to take deposits from. And, with the removal of the remaining Interest Rate Rules for Hong Kong dollar current account and savings deposits in July this year, they will be entirely free to determine the pricing of all such activities. Their business has, with hardly any involvement by the authorities, achieved a highly international profile in terms of both deposits and loans, off-balance sheet activities, and currency denomination. But for the purposes of affording depositors a degree of protection and promoting the general stability and effective working of the banking system, there is a need for the banks to be supervised. This is done in accordance with the provisions in the Banking Ordinance and the requirement of Article 110 of the Basic Law. In doing so, we have, in effect, also assumed the responsibility, in the context of the banking channel for financial intermediation, of ensuring that there are no cracks in that channel and that those who maintain it are not abusing their franchise.

The stock exchange is privately run and provides in essence a monopolised channel (in Hong Kong) for financial intermediation through equity. Because this monopolistic arrangement enables market liquidity to be maximised and therefore enhances the efficiency in the flow of money through that important channel, this departure from the free market principle is accepted and is furthermore sanctioned by law. For this and other reasons, there is a need for a regulatory system, in the body of the Securities and Futures Commission, to oversee the operation of that monopoly, among other things. The stock exchange is, of course, responsible for developing its business and has been successful in attaining an increasingly international product profile - a trend that is likely to continue with financial liberalisation on the Mainland. The regulatory authorities, both here and on the Mainland, are merely facilitating the identification and opening up of opportunities, particularly when policy changes are involved.

By comparison, the debt channel is not as well defined as the other two. Nor is the involvement of the regulatory authorities. The primary market is for professionals and is largely free. At the wholesale, secondary market level, it is very much an over-the-counter market and the participants are mostly banks: there is no specific involvement of the authorities in that market, either in the regulation or in the licensing of participants. The exceptions are the Exchange Fund paper market and the Hong Kong Mortgage Corporation. But our involvement there is in the capacity as suppliers of debt, satisfying demand in and helping to develop the debt market. At the retail secondary market level, again the banks are mainly the service providers in an unregulated environment, although some of the debt instruments are listed on the stock exchange. Overall, there is greater market freedom and less involvement of the regulatory authorities in developing the debt channel, but ironically, and perhaps only coincidentally, it is also less developed. This explains our continuing emphasis on the further development of the debt market.

Joseph Yam
31 May 2001


Related Viewpoint Articles:

More information on financial infrastructure can be found here.

More information on debt market development can be found here.

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Last revision date : 31 May 2001