Mr Hoare,
HKD
Rok pla
17
SECRET
Reference..
#КК 10013
RECEIVED IN REGISTRY 17 JUL 1984
21
HONG KONG: EXCHANGE RATE MECHANISM
1. On Friday we discussed the Bank of England draft which expresses serious though unfocussed concern about the way the banks have operated the mechanism.
2.
The draft invites clarification from the HKG: 'At this distance
the we cannot be sure why the arbitrage mechanism is not working ...
Its main present position seems to us both dangerous and obscure.' point is to provide briefing for the Governor prior to discussions with 'key members of the financial community' which would concentrate on encouraging 'the banks' (whether note-issuing or all is not made clear) to operate the scheme more effectively.
3.
The burden of Telnos 1250, 1872 and 1929 from Hong Kong is that HKG and the note-issuing banks have not wished to see the mechanism tested, or really even used. The provision of US$ against HK$ notes is apparently leading to pressure on the reserves of the note-issuing banks. It seems that HK$ notes are not being cancelled by these banks so as to prevent this happening; there is insufficient provision of US$ to the note-issuing banks from the Exchange Fund. (The penultimate sentence of paragraph 1 of 1929 does not actually deny that this is taking place. The HKG has avoided answering a direct question from the FCO on this point.) The Exchange Fund has relied on traditional weapons: direct intervention in the foreign exchange markets and borrowing in HK$ to force HK$ interest rates up. Both of these could prove extremely costly and are not options beyond the short-term.
4.
so on
-
Kdy
and
If this is what has actually been happening the HK telegrams have been somewhat eliptical: 'psychology' rather than 'substance'
the Bank of England's intended message would be off the point. The banks cannot be blamed for not doing what it was not intended they should do. The note-issuing banks could not be blamed for lack of enthusiasm if they are running down their foreign exchange reserves without Exchange Fund support.
5. If pressure on the HK$ is severe, I am not confident that reliance on the mechanism actually being used will keep the market rate near 7.80: expectations of capital losses on HK$ holdings could easily outweigh any prospective arbitrage profits if there are doubts about note convertibility, and the rate holding.
6. Given HMG's ultimate responsibility for the Territory, the insistence of HKG on providing only vague information in a period in which crisis might not be far away is not acceptable in my view. I would have thought it only sensible for the Financial Secretary to draw on the best advice that the Bank of England could provide and this requires detailed, up-to-date statistics on a wide range of financial variables and policy actions. Beyond the current worries over the exchange rate, there are many large questions involving lender-of-last-resort facilities if problems in the financial sector
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