Hong Kong: Fact and Fiction

Mr. Donald Tsang, Financial Secretary, Hong Kong Special Administrative Region Government at a lunch organized by the Hong Kong Trade Development Council in cooperation with the Asia Society. The program was part of our "Road To Renewal: Rebuilding East Asia's Economies" with Asian Central Bank Governors and Finance Ministers.

Boston, Massachusetts

October 13, 1998

Distinguished guests, ladies and gentlemen,

It really is a pleasure to be back in Boston. I am always filled with a touch of nostalgia when I come back. Back in the early 1980s, Boston was my home for a year while I studied at Harvard. I made many good friends during that time and to this day we still keep in touch. Harvard was of course hard work, but immensely satisfying and enlightening. Equally satisfying-in another sense-was a good feast of the famous Boston lobster. I might only be here for a day and a half, but I can assure you that lobster will feature on the menu at one stage or another.

For now, I will put lobsters on the back burner and turn to food of a different kind-and that is food for thought. I want to talk about fact and fiction. In doing so I want to dispel a few myths, and reinforce a few realities about Hong Kong, which have emerged in light of the Asian financial turmoil. You may at first find them disparate or disjointed but each and every point is a piece of the Hong Kong jigsaw-you need all the pieces to see the big picture.

I will start with the most controversial, and that was Hong Kong's decision in August to buy into our stock market. I won't go into the complexities of the incursion other than to say our actions were taken to protect our linked exchange rate and to stop a market manipulation, or anti-trust activities. The actions by a handful of over-aggressive investors threatened our very economic existence. It was a case of do nothing and die, or make a stand to ensure there was still a market in which to invest. As simple as that.

Herein lies myth number one: Hong Kong has abandoned free-market policies.

The reality is that Hong Kong is still the world's freest economy. It is too simplistic-and also very unfair-to judge our commitment to the free market by a single, extraordinary battle at a time of great economic turmoil, and when massive, secretive and destructive capital flows were creating havoc in the markets. So how do you judge our commitment to a free market?

A free market means the rule of law upheld by an independent judiciary. You are free to fight for your corporate rights in the courts anytime you wish. You can take on the government, as many do, and win. A free market means a level playing field for all who do business; it means a stable, freely convertible currency. You can change Hong Kong Dollars anytime you want, into any currency you want. There are no restrictions on the amount of money or the type of currency you can bring into, or take out of, Hong Kong. You can buy and sell as much gold or silver as you want. There are no quotas, no duties payable, on virtually all good coming into Hong Kong. There is a fast, free and unfettered flow of information. We have a vibrant and critical press-and I know that from personal experience. We have a small, efficient and corruption-free government which facilitates private-sector business, trade and investment. We have a low, predictable and simple tax system which allows business and individuals to keep most of what they earn. We have a maximum 15 percent salary tax, but about 60 percent of residents pay no tax while many of the rest pay less than this. We have a maximum of 16% corporate profits tax. There is no sales tax, no VAT, no capital gains tax, no withholding tax. And importantly, you must also remember-Hong Kong has a constitutional duty under the Basic Law to develop its role as an international financial centre. In Hong Kong, a free market is not just a policy; it is not just a philosophy-it is the law. You can not ask for any stronger commitment than that.

During and following our incursion another myth emerged: Hong Kong was working secretly in the market.

The reality is that from the moment the government entered the stock market on August 14, and until we left the market on August 28, the whole world knew what we were doing. The whole world was told why we were doing it. Since the beginning of September we have effectively not operated in the market. About a week ago we announced the establishment of a separate company, at arm's length from the government and market regulators, to professionally manage the portfolio of shares purchased during the operation in August. Once we are sure that the manipulators have left the market we will disclose our holdings of shares. The management company will abide by all of the laws and regulatory requirements relating to the securities industry. The government does not wish to seek representation on the board of those companies in which it has substantial holdings. We will take a passive position in the market. We are prepared to hang on to our stocks for quite a while if necessary. If and when we decide to liquidate some of the our holdings it will be done in an orderly way, over time, so as not to disrupt the market.

Since the stock market incursion there has been a great deal of guessing about how much we spent. That guessing continues, and as I have just said we will disclose our share holdings in due course. What I can say is that the final figures are not as much as many have estimated. This has led to another myth and that is: Hong Kong will not have the resources to counter another concerted attack by currency speculators.

The reality is that we have both the financial, and regulatory, means to protect our linked exchange rate under our currency board system. Let me stress that everything we have done, all the pain we have endured, has been to protect our linked exchange rate. At the end of August, after the incursion, we had about US$92 billion in reserves. That's our money, we have earned it and we are holding on to it. We cannot and will not allow aggressive investors to steal our next egg and ruin our economy. The government has no external debt. The Hong Kong Dollar has remained firm, totally and brutally free, even under severe speculative attack.

Apart from stopping the manipulation, our actions also gave us the time we needed to move on the regulatory front to make it much more difficult for such an attack in the future. Immediately after the attack, we brought in a wide range of measures to bolster the linked exchange rate under our currency board system and to increase the transparency of our Exchange Fund. We have further strengthened the linked exchange rate by increasing liquidity in the banking system and making it less susceptible to manipulation. We have tightened stock market rules and regulations, especially in regards to short selling and borrowing shares, and the settling of positions. We are confident the new measures will not affect genuine investors. You may be interested to know that our regulatory framework is no more stringent than that which you have here in America, and in many cases less stringent.

During all these speculative attacks against the Hong Kong Dollar-in October last year and in January, June and August this year-there have been several recurrent myths aired in the market and media. One is that the renminbi will be devalued; another is that if the renminbi is devalued, then the Hong Kong Dollar link will go. Another that always comes up is that link must go to restore our competitiveness.

Renminbi policy is of course a matter for our sovereign power. I am certain-and our national leaders have said time and again-that the renminbi will not be devalued. Why? Because it simply does not need to. Despite the regional turmoil, the Chinese economy has a trade surplus of US$30 billion for the first half of the year. It has foreign exchange reserves of US$140 billion-the world's second largest such holdings after Japan. The Chinese economy is growing by about 7 to 8 percent. But more significant than strong economic performance, is the determination of our leaders to maintain regional stability. China is taking a long-term view. If the renminbi were devalued, it would trigger round after round of devaluations around Asia. This would impact strongly on exports from the U.S, Europe and Japan. There is nothing to be gained from a renminbi devaluation except greater instability and uncertainty in global markets. I also firmly believe that the exchange rate stability of the Hong Kong Dollar and renminbi is now the currency anchor for the region. Our currency stability will help pave the way for recovery in Asia. We should not overlook the significance of this.

Then there is this myth that is the renminbi was devalued, the Hong Kong Dollar link would come under serious pressure. Since the link was introduced in October 1983-almost 15 years ago to this day-parity with the US Dollar has been solid, actually on the strong side of the linked rate of HK$7.80 to US$1. During that time the renminbi has devalued several times, four times I can think of. The renminbi exchange rate against the US Dollar is about half of what it was a decade ago. We have two systems operating under two completely different sets of conditions. We have different currencies with different economic backdrops. Hong Kong is a small, externally oriented economy of 6.5 million people with 85 percent of GDP related to services. The Mainland of our nation has 1.2 billion people with very divergent development, manufacturing and natural resources. Our country has a relatively industrialised and prosperous eastern and southern seaboard, but overall it is still a poor country, with a per capita GDP of about US$300 per annum. If look at the issue rationally then speculation on the future movement of the renminbi is useless and futile on its pronounced so-called effect on the Hong Kong Dollar. If you look at it logically a renminbi devaluation would actually help our economy. There would be a strong increase in Mainland exports. Many of them would pass through Hong Kong, using our port, our airport, our transport and shipping agents, our insurance firms, our bankers. Our economy benefiting, not suffering. Business increasing, not decreasing. The two currencies are not like the Siamese twins that people-especially speculators-try to portray.

Another myth is that the linked exchange rate has hurt our competitiveness. Yes, we may be more expensive than some other places but we are on par with say New York, Paris, London, Frankfurt, Tokyo, Singapore-good locations don't come cheap. Big business doesn't just look at how much it costs to rent a house or office. Big business looks at the bottom line-is there a reasonable return on investment for me. Quite clearly, in Hong Kong, there is. There are thousands of overseas companies based in Hong Kong, many with regional headquarters or offices. Why? Because they see the value of the place. The see the merit of investing in a city which already had its feet firmly planted in the 21st century. Our communications systems, our infrastructure, our location are unrivaled in Asia. We have the expertise, know-how, entrepreneurial flair and connections to facilitate trade in the Mainland for U.S. and European business; Asian, African, South American-anyone-who wants to trade or invest in the Mainland may make good use of Hong Kong for this purpose.

Also consider that housing and office accommodation prices have dropped by 50 percent in the past year; inflation is at a 15-year low; US$30 billion in new infrastructure projects are coming on line over the next five years. Now is a time of opportunity in Hong Kong. I suggest you come and look, see for yourselves and start planning for what will happen five or 10 years down the track, and not so much five months down the track.

Now, to the global financial turmoil-the Asian contagion which has turned pandemic. Four Asian economies have collapsed; governments have toppled. Russia and Latin America are in trouble and with that consequences for Europe and the United States. So here is another myth, which relates to the rest of the world as much as it does to Hong Kong and that is: as long as there is good government, balanced budgets, sound monetary and fiscal policy, then things will be alright.

The reality, unfortunately, is that the size and speed of global capital flows pay no attention to sound economic fundamentals. Cash is pumped into emerging economies at times of growth; then sucked out at the speed of lightning at the first hint of trouble. Such huge and wild swings in capital swings have become as dangerous as they were beneficial. That the Hong Kong market was attacked and manipulated was basically due to the face that our markets had contracted so much we were ripe for speculative attack. We had committed no crime. It was just that we were experiencing an economic downturn which has caused a 50 percent drop in asset and stock market values over the past year. So a much smaller injection of capital into our stock and money markets produced a disproportionately larger and disruptive effect than the same amount of money would have caused a year ago. Thankfully this issue is now being addressed with a greater sense of urgency following this week's IMF/World Bank meetings, and after the special meeting of Finance Ministers-the G-22-attended by U.S. President Bill Clinton and co-chaired by Robert Rubin and Alan Greenspan on Monday night. We really need to codify the degree of transparency required of financial institutions generating such capital flows. But Hong Kong is not advocating capital controls. We also need to establish greater discipline in the extension of credit to these institutions. If not even the best managed, best regulated, most open and financially sound economies-economies like Hong Kong-will be vulnerable to attack from rogue capital flows and aggressive investors.

Having said that, I ask that when you judge our commitment to the free market, look at the big picture rather than once piece of the jigsaw. In August, when our very economic existence was threatened, we had to take exceptional action at an exceptional time. It was a question of survival.

There is no better example of a free market than Hong Kong. We thrive on a free market, free trade and fair competition; we will not impose capital controls; we have no intention of taking a covert position in the stock market; we will not devalue or delink the Hong Kong Dollar. And, importantly, we have a constitutional duty to maintain and promote Hong Kong as an international financial centre. These are the realities. These are the facts.

Thank you.

Visit the Hong Kong government's official website for more information on Mr. Tsang.