The government has a clear but limited responsibility for ensuring that the financial system works in the public interest.
The government of any jurisdiction has a responsibility for its financial system, but it is not easy to define what that responsibility is. I feel, nevertheless, that it is essential to do so, if only for the important purpose of providing a framework for prescribing clearly, for the benefit of all concerned, or indeed for limiting, the government's involvement in the financial system. The starting point for doing so must of course be the primary purposes of having a financial system, and I can think of two purposes that, if effectively fulfilled, would contribute to economic growth and development, and therefore to the wellbeing of the people that the government serves. They are:
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the channelling of savings into investments, i.e., financial intermediation. It is in the public interest that money should be made to work productively, and this basically involves making surplus money available to those who can make good use of it; and
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the provision of a financial infrastructure for effecting economic transactions, including, but not limited to, those arising from financial intermediation activities.
These two primary purposes of the financial system that I have identified are, I think, exhaustive. But there are, of course, secondary purposes. The financial system, for example, provides opportunities for employment and the making of profits, but the importance of such secondary purposes should not overshadow that of the two primary purposes. This is an important point that has often been overlooked, involving regrettably at times the promotion of, for example, the private interests of financial intermediaries at the expense of the public interest served by the financial system.
Indeed, this is, I think, the first of two important reasons for justifying, or limiting, government involvement in the financial system - the possibility of misalignment of private interests in the financial system with the public interest. The history of any financial system, not least that of Hong Kong, is punctuated with events, sometimes economically disruptive ones, characterised by recurring conflicts arising from such misalignments - the closure of the stock market in Hong Kong in 1987 is a telling example.
The second reason for government involvement in the financial system is that certain elements of the financial infrastructure are a "social good", which it may not be appropriate for a commercial organisation to provide or operate because of fair competition considerations or commercial viability. An analogy I have often used to put this point across effectively concerns the physical infrastructure (airports, roads, tunnels, etc.) for moving people and goods safely and efficiently. To move money safely and efficiently, there is also a need for an effective infrastructure and the government's involvement in bringing it about.
What then should be the nature and degree of government involvement? I think there is a need here for a delicate balance. My personal preference is for there first to be a firm commitment to the free market approach in encouraging the financial system to fulfil the two primary purposes. Market forces are definitely more efficient in achieving this than are bureaucratic decisions. Only when deficiencies are identified, as in the two examples above, should the government be involved.
Specifically, in respect of financial intermediation, government involvement should only be in a regulatory capacity, with the clear objective of promoting:
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stability;
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integrity;
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diversity; and
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efficiency.
In respect of the financial infrastructure, government involvement should be in the form of a service facilitator or provider, with the clear objective of creating payment, clearing and settlement arrangements that:
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cater for multiple access at both the wholesale and retail levels;
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cater for transactions denominated in the domestic currency as well as in the major foreign currencies;
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cover transactions conducted through and across the diversity of financial intermediation channels and in the derivatives products therein; and
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robustly achieve finality of transactions in real time, or as soon as possible and economically justifiable.
Joseph Yam
9 January 2003
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ANSWERS TO THE CHRISTMAS QUIZ 2002
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