The Exchange Fund was established by the Currency Ordinance of 1935 (later renamed the Exchange Fund Ordinance). Since its establishment, the Fund has assumed the role to back the bank note issuance of Hong Kong. In 1976, the Fund's role was expanded. The backing for coins issued and the majority of the foreign currency assets held in the Government's General Revenue Account were transferred to the Exchange Fund. Meanwhile, the Government began to transfer the fiscal reserves of its General Revenue Account (apart from the working balances) to the Fund to centralise the investment management of its financial assets. Through this transfer, the bulk of the Government's financial assets are placed with the Fund. The Coinage Security Fund was merged with the Exchange Fund on December 31, 1978.

Prior to April 1, 1998, fiscal reserves were placed with the Exchange Fund as deposits on which market interest rates were paid by the Fund to General Revenue. As the official reserves have grown significantly over the years, it was decided that the fiscal reserves placed with the Exchange Fund should seek to achieve a higher long-term real rate of return. With effect from April 1, 1998, the return on the fiscal reserves placed with the Exchange Fund is linked to its overall return.

Upon the establishment of the Hong Kong Special Administrative Region on July 1, 1997, the assets of the Land Fund Trust were vested in the Hong Kong SAR Government. The Chief Executive of the Hong Kong SAR appointed the Financial Secretary as the public officer to receive, hold and manage the Land Fund, as part of the Hong Kong SAR Government reserves. Subsequently, the Land Fund was established by resolution made and passed by the Provisional Legislative Council under section 29 of the Public Finance Ordinance. Between July 1, 1997 and October 31, 1998, under the direction of the Financial Secretary, the Land Fund was managed by the HKMA as a portfolio separated from the Exchange Fund. Effective from November 1, 1998, the assets of the Land Fund, which itself has remained as a separate government fund, were merged into the Exchange Fund and managed as part of the Investment Portfolio of the Exchange Fund.

The Land Fund will continue to be administered in accordance with the Resolution of the Provisional Legislative Council of July 1997. Following an investment decision taken by the Financial Secretary under the terms of the Resolution, the placement of the entire Land Fund, along with the fiscal reserves, with the Exchange Fund, yields a return that is the same as that of the Exchange Fund. In 2003, a Resolution was made and passed by the Legislative Council under the Public Finance Ordinance to authorise the transfer of $120 billion from the Land Fund to the General Revenue Account to meet the Government's expenditure requirement. A similar Resolution was passed by the Legislative Council in June 2004, which authorised the transfer of $40 billion from the Land Fund to the General Revenue Account. The Exchange Fund's primary statutory role, as defined in the Exchange Fund Ordinance, is to affect the exchange value of the Hong Kong dollar. Its functions were extended on enactment of the Exchange Fund (Amendment) Ordinance 1992 by introducing a secondary role of maintaining the stability and integrity of the monetary and financial systems, with a view to maintaining Hong Kong as an international financial centre.

The HKMA manages the Exchange Fund. Apart from ensuring that the Fund meets its statutory roles, the HKMA's principal activity is the day-to-day management of the Fund's assets. These are invested mainly in OECD bonds and equities. To meet the Government's operational needs, part of the Exchange Fund is also held in Hong Kong dollar denominated assets.

To meet the objectives of preserving capital, providing liquidity to maintain financial and currency stability and generating an adequate long-term return, the Exchange Fund is managed as two distinct portfolios. The first is a Backing Portfolio, which ensures that the monetary base related to the currency board operations is fully backed by highly liquid, primarily short-term, US dollar denominated debt securities. The second is an Investment Portfolio, which preserves the Fund's value for future generations of Hong Kong. The long-term asset allocation strategy of the Exchange Fund is guided by the investment benchmark, which defines the bonds and equities mix as well as the overall currency composition of the Fund. The management of the Fund and the investment style adopted are set out and explained in the HKMA's annual report.

On December 31, 2004, the Exchange Fund's total assets stood at $1,061.9 billion, of which foreign currency assets amounted to $969.4 billion (or US$124.7 billion). The accumulated surplus of the Exchange Fund amounted to $423.6 billion. The Fund's financial position from 1999 to 2004 inclusive is shown in the Appendices. With a view to demonstrating the Government's continued commitment to greater openness and transparency, foreign currency asset figures have been published monthly since January 1997. In addition, an abridged balance sheet of the Exchange Fund and a set of Currency Board accounts are published monthly.

Another function related to the Exchange Fund is currency issuance. Bank notes in denominations of $20, $50, $100, $500 and $1,000 are issued by the three note-issuing banks: the Standard Chartered Bank, the Hongkong and Shanghai Banking Corporation Limited and the Bank of China (Hong Kong) Limited. The note-issuing banks may issue currency notes only by surrendering non-interest-bearing US dollar backing at a fixed exchange rate of 7.80. Thus the Fund enjoys the seigniorage from the notes.

Through the HKMA, the Government issues new $10 currency notes and coins of $10, $5, $2, $1, 50 cents, 20 cents and 10 cents denominations. Sufficient quantities of the $10 note and all denominations of coins have been maintained for injection into the market when required. The total of notes and coins in circulation at year-end was $152.9 billion. After circulation of the new $100 and $500 banknotes issued by the three note-issuing banks in December 2003, the new $20, $50 and $1,000 banknotes began to circulate in October 2004. The security features used in the new banknotes and the colour schemes for all denominations issued by the three note-issuing banks have been standardised.