CONFIDENTIAL
2
circumstances where the pressure was perceived to be temporary (as opposed to experience in Switzerland, for example, in earlier years where a structural surplus position was expected to result in revaluation). He does not, however, see this as lessening the constraints imposed on monetary policy by the maintenance of the link with the US$. There may be room for some further firming of interest rates and, indeed, the market believes this to be likely during the next few months, but any significant further rise, which does not reflect interest rate movements elsewhere, would be likely to put pressure on the exchange rate.
He
4 For the moment, Nendick appears relatively relaxed about the situation and believes that the economy is on course for a soft landing. Jacobs, on the other hand, I found a little nervous. is concerned that there is no real evidence of adjustment coming through and feels, for example, that the investment across the border has the effect of postponing adjustment. While Jacobs thinks that now is not the time to break the link and, indeed, is persuaded, in principle, that it should be maintained, he still agonises over the question and wonders whether a mistake was made in not breaking the link in 1987 (when we argued against this). He also worries about his options if, by October, when the preparation of the next budget will start, there is no strong evidence of an easing in inflation. The possibility of revaluation is certainly not excluded from his thinking.
5 He has other concerns. Rents and property prices have been rising sharply. Although activity seems to be concentrated in the commercial and industrial sector, where prices are underpinned by real demand from the continuing influx of foreign businesses to Hong Kong, most of those to whom I spoke (with the notable exception of David Li of the Bank of East Asia) felt that things were going too far. Rents for prime properties in Central have risen by 15-20% in the first four months of this year, while in other parts of the Colony the trend is in excess of 30%. A recently published survey of global trends in prime office space showed an increase in annual rents in Hong Kong from HK$350 per sq ft at end September 1988 to a current average of HK$795. Jacobs
admitted to worry on this score, and a consciousness of the effect on the economy of past collapses in the property market. Another