ENG-1990 — Page 99

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FINANCIAL AND MONETARY AFFAIRS

The outbreak of the Gulf crisis in August led to substantial volatility in stock markets worldwide, and Hong Kong was not immune. But the extent of the fall experienced in the local bourse was smaller than that in many stock markets overseas. Joining the international move to impose sanctions on Iraq, the Hong Kong government announced a freeze on Iraqi and Kuwaiti assets early in August.

The exchange rate of the Hong Kong dollar remained stable against the US dollar during 1990, moving within a narrow range of HK$7.753 and HK$7.816 to US$1. Reflecting the movements of the US dollar against other major foreign currencies, the overall exchange value of the Hong Kong dollar, as measured by the effective exchange rate index, strengthened from 109.3 at the end of 1989 to around 111.3 in early April, but then eased to 105.0 in early November. On November 17, the Renminbi was devalued by 9.27 per cent against the Hong Kong dollar, leading to an increase of around 2.8 points in the effective exchange rate index. Along with a slight rebound of the US dollar in December, the index showed some further increase during the month and ended the year at 109.3.

Under the linked exchange rate system, the movements of Hong Kong dollar interest rates generally follow those of US dollar interest rates. But to the extent that exchange rate stability would not be adversely affected, local money market conditions were deliberately kept tight to assist in alleviating the inflationary pressures. Under the influence of this tight monetary policy, local interbank interest rates edged up gradually in the early part of 1990, with the three-month rate rising from 8 9/16 per cent at the end of 1989 to 9 3/16 per cent at the end of March. Initiated by two small reductions in interbank liquidity (as mea- sured by the balance which The Hongkong and Shanghai Banking Corporation Limited maintains with the Exchange Fund) in March, and following two upward adjustments in the deposit rates set by the Hong Kong Association of Banks, local interbank interest rates firmed up more significantly early in April. The three-month rate rose to 9 11/16 per cent on April 2, 1 3/16 percentage points above the corresponding US dollar interest rate. The uptrend in local interest rates continued into early May, with the three-month rate reaching a high of 10 1/16 per cent on May 1-2. However, in response to some easing in the US dollar interest rates local interbank interest rates began to soften from May. The interest rate gap, which was maintained at around one percentage point from early April, showed signs of narrowing from the middle of June. By mid-August, the interest rate gap was completely closed. Thereafter, local interbank rates fluctuated closely with US dollar interest rates, with the three-month rate closing the year at 7 15/16 per cent. Along with the decline in local interbank interest rates, the deposit rates set by the Hong Kong Association of Banks were adjusted downwards twice, in August and in October.

While the general thrust of monetary policy was to continue the firm grip on interbank liquidity, the government refrained from reducing the balance in the second half of 1990, save for a small reduction early in July. This was to prevent a further strengthening of the Hong Kong dollar, which had stayed at a level marginally above the linked rate from early April. Besides, there were indications that the growth in domestic loan demand was slowing down significantly, partly as a result of the earlier increase in local interest rates and partly because of the moderation in general economic activity.

For 1990 as a whole, total loans for use in Hong Kong (including those for trade financing) grew by 16.9 per cent. This represented a marked deceleration when set against a growth rate of 25.2 per cent in 1989. With the exception of residential mortgage loans and

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