CONFIDENTIAL
Para 4 It is important to note that the change in the tax regime which made non-HK$ deposits more attractive (introduced in February 1982) could in normal circumstances have been expected to result in the following:
- a fairly rapid shift to foreign currency holdings as investors adjust their portfolios to the change in relative post-tax yields and then
a growth in deposits of all denomination at roughly the same rate.
The first phase occurred during a period before political uncertainty became intense, and the correct comparison for the shifts away from HK$ deposits during 1983 is not this first phase, but what would have happened after portfolio readjustment in the absence of loss of confidence. Thus the fact that growth in deposits and the money supply is due almost entirely to the increase in the foreign currency component is disturbing. The fact that the rate of growth in this component has slowed is to be expected, and is not indicative of greater confidence in the HK$.
Para 5 The first part of the first sentence is obscure. Foreign currency may be required to finance imports of raw materials. An importer with HK$ may purchase foreign currency from outside the HK monetary system to spend abroad; there is then a fall in the HK$ component of the money stock. If the foreign currency is purchased within the HK monetary system and then spent abroad, the HK$ remains constant while the foreign currency component falls, contrary to the statement in the text.
Para 6 The first sentence does not seem to make a particular claim about net outflows of capital, but does speak of 'significant' gross outflows balanced 'to a large extent' by gross investment inflows. I would be interested to know if any quantification underlies these statements or whether they are based on anecdotal evidence.
3.
The general question of capital outflows and 'flight' is likely to assume an increasing importance in the future. My initial attempts at a clearing of the ground were sent to Mr Clift with a covering minute by Mr Broadbent on 15 June. The main lesson drawn was a very negative one: because of the nature of the financial system in the Territory hard facts are just not available and reliance on partial evidence may be misleading. It was concluded that the exchange rate and the rate of investment (both giving increasing cause for concern) were the most valuable indicators. It would be helpful if at least the first paper could be sent to the Bank of England and Treasury for comments, as they may feel that there are indicators that may allow better analysis, which the suggested framework obscures. I would be grateful for your views on this.
23 September 1983
Nick Hallett
N O Hallett
ESID WH425B
CONFIDENTIAL
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