TNAG-2466-FCO40-3590-Economic-situation-in-Hong-Kong-1992 — Page 43

G.F. 316

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the link was about to be broken or changed, it is unlikely

that "professionals" would be willing to take this risk.

18.

Sixth a wide divergence of the market exchange

rate from 7.80 is necessary for arbitrage to become clearly

attractive to the "man in the street", but it is likely

that before a divergence of this magnitude was reached,

market confidence on the ability or willingness of the

Hong Kong Government to maintain the link would seriously

be undermined.

19.

Given that arbitrage has not been an effective

means of preventing significant movements in the exchange

rate from the linked rate of 7.80, what then was responsible

for the stability experienced? The answer is direct

intervention in the foreign exchange market. The mechanism

and the extent of Government's involvement in such inter-

vention are dealt with in Annex III. Intervention has

become an essential element in the maintenance of stability

in the exchange rate, although this is not widely known.

In the absence of intervention, there is simply no short-

term counteracting force to stabilise the exchange rate.

Although with the exchange rate having apparently remained

remarkably stable over a four-year period, so that there

is already an increasing belief amongst the general public

that the link will not be altered, many are still not

prepared to go against the market.

/20.

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