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Hong Kong's monetary policy objective is to maintain currency stability.
Given the highly externally oriented nature of the Hong Kong economy,
this objective is further defined as a stable external value of the currency
of Hong Kong, in terms of its exchange rate in the foreign exchange market
against the US dollar at around HK$7.80 to US$1. This clear monetary policy
objective is achieved through the linked exchange rate system, which was
introduced in October 1983 after a nine-year period during which the Hong
Kong dollar floated and the exchange rate was volatile.
The linked exchange rate system is characterised by
currency board arrangements, requiring the Hong Kong dollar monetary base
to be at least 100 per cent backed by, and changes in it to be 100 per
cent matched by corresponding changes in, US dollar reserves held in the
Exchange Fund at the fixed exchange rate of HK$7.80 to US$1. In Hong Kong,
the monetary base includes the amount of currency notes and coins issued,
the Aggregate Balance (which is the sum of the clearing balances of banks
held with the HKMA for the purpose of effecting the clearing and settlement
of transactions between banks themselves and also between the HKMA and
banks), and the outstanding amount of Exchange Fund Bills and Notes.
Since the inception of the linked exchange rate system
in October 1983, note-issuing banks are required to hold Certificates
of Indebtedness (CIs) issued by the Exchange Fund to provide backing for
bank note issuance. The issuance and redemption of CIs are made against
US dollars at the convertibility rate of HK$7.80 to US$1 for the account
of the Exchange Fund. Similarly, the issue and withdrawal of government-issued
currency notes and coins in circulation are conducted against US dollars
at the fixed exchange rate of 7.80.
When the linked exchange rate system was introduced
in October 1983, there was no institutional arrangement whereby banks
in Hong Kong maintained clearing accounts with the currency board. Thus,
that part of the monetary base represented by the clearing balances of
the banking system was initially not subject to the discipline imposed
by a currency board system. Action was taken to correct this in 1988 through
arrangements that required the Management Bank of the Clearing House of
the HKAB to maintain a clearing account with the Government's then Monetary
Affairs Branch for the account of the Exchange Fund. This was replaced
by another arrangement, when the RTGS system was introduced, for interbank
transactions in Hong Kong towards the end of 1996. Since then, all licensed
banks have had to maintain direct clearing accounts with the Exchange
Fund.
By assuming responsibility for the interbank clearing
system, the HKMA also became responsible for the provision of lending
to any banks experiencing day-to-day shortages of liquidity. A Liquidity
Adjustment Facility (LAF) was set up in 1992 for this purpose. This was
replaced in September 1998 by the Discount Window arrangement under which
banks have unrestricted access to day-end liquidity through repurchase
agreements using Exchange Fund Bills and Notes as collateral. A two-tier
structure of Discount Rates has been adopted to ensure that interest rates
are adequately responsive to capital flows, while avoiding excessive interest
rate volatility if liquidity shortages are only modest.
Under the currency board system, Hong Kong dollar
exchange rate stability is maintained through an interest rate adjustment
mechanism. The monetary base increases when the foreign currency (in Hong
Kong's case, US dollars) to which the domestic currency is linked is sold
to the currency board for the domestic currency (inflow into the Hong
Kong dollar). It contracts when the foreign currency is bought from the
currency board (outflow from the Hong Kong dollar). The expansion or contraction
in the monetary base leads interest rates for the domestic currency to
fall or rise, respectively, creating the monetary conditions that automatically
counteract the original capital movements, ensuring stability of the exchange
rate.
To strengthen the institutional framework for the
operation of the currency board system in Hong Kong, a Subcommittee on
Currency Board Operations was established under the Exchange Fund Advisory
Committee (EFAC) in August 1998. The subcommittee has been entrusted with
the responsibility of overseeing the operation of the currency board system
in Hong Kong and may, where appropriate, recommend to the Financial Secretary
through the EFAC measures to enhance the robustness and effectiveness
of Hong Kong's currency board arrangements.
The HKMA pursues a policy of transparency to ensure
that the financial industry and the wider public are fully informed of
the currency board operations. To this end, the Aggregate Balance and
forecast changes to the Aggregate Balance attributable to the currency
board's foreign exchange transactions are disclosed on a real-time basis.
In addition, the size of the monetary base and its components are published
on a daily basis, while the Currency Board Account is published on a monthly
basis. The records of the meetings of the Subcommittee on Currency Board
Operations are also published within six weeks of each meeting.
The Government is fully committed to the maintenance
of the linked exchange rate system, which is a cornerstone of Hong Kong's
monetary and financial stability, and to the strict discipline of the
currency board arrangement under that system. |
