TNAG-2515-FCO40-3669-Future-of-Hong-Kong-International-Rights-and-Obligations-Sub-1992 — Page 164

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was still a need to strengthen fiscal discipline. While he recognised the

potential effects of uncertainty on the Hong Kong economy., he felt that

economy had already now regained its confidence, and that it was more

important to follow policies that were consistent with steady growth and low

inflation. In his view, the main purpose of monetary policy was to control

inflation, not to maintain a particular exchange rate. It would therefore be better if the authorities allowed the exchange rate to appreciate, and used

higher interest rates to control inflation. He recognised that this was not

the preferred policy of the authorities. Therefore, fiscal policy would have

to play a key role, and yet it continued to be too expansionary. The

authorities should also consider issuing short-term bills in order to absorb

excess liquidity. Fiscal policy had an important role to play in smoothing out

commercial activity. Tabata was surprised that no deposit insurance scheme

had yet been introduced to the Hong Kong banking system, and was also

concerned that the banking supervision relied on external auditors rather than

on site examinations.

4.

Spencer (New Zealand) said that policy since 1983 had been aimed at

maintaining confidence and growth in the period up to 1997. This approach had

been successful and the authorities deserved great credit. However, inflation.

was now becoming a problem, in spite of the sensible policies taken recently

to dampen pressure in the property and labour markets. Monetary policy

remained chronically weak. This was due to the use of the peg to the dollar.

While productivity increases in Hong Kong warranted a currency appreciation,

the US dollar remained weak. The only way to secure a real appreciation in

the exchange rate was for domestic inflation to rise significantly above US

levels. He noted that the staff were less sanguine about costs associated

with the exchange rate link than they had been at the 1990 Article IV

discussions. If the authorities were going to continue with this exchange

rate policy, then labour market and fiscal policy would be that much more

important. He was concerned at the seeming lack of a willingness to allow a

free flow of skilled labour into Hong Kong, and that expenditure had grown faster than GDP in the past three years. He thought that the staff suggestion

of broadening the tax base was very sensible. However, he did not expect the

advice to be followed by the Hong Kong authorities because, in his view (which

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