ENG-1996 — Page 135

FINANCIAL AND MONETARY AFFAIRS

The Exchange Fund's statutory role, as defined in the Exchange Fund Ordinance, is to influence the exchange value of the Hong Kong dollar. It is used to intervene, when necessary, in the local money market or foreign exchange markets to maintain currency stability. Its functions were extended on the enactment of the Exchange Fund (Amendment) Ordinance 1992 by introducing a secondary and subsidiary role of maintaining the stability and integrity of the monetary and financial systems, with a view to maintaining Hong Kong as an international financial centre.

The HKMA manages the fund. Apart from ensuring that the fund meets its statutory roles, the principal activity of the HKMA on a day-to-day basis is the active management of fund assets. These are held mainly in the form of bank deposits, equities and marketable interest-bearing instruments in certain foreign currencies and in Hong Kong dollars.

The HKMA adopts an ongoing programme, initiated on its formation in April 1993, of reviewing its investment operations and strategy. Having regard to the statutory purposes for which the Exchange Fund was created and maintained, the investment style and strategies now in place closely resemble those of comparable central banks and monetary authorities. Strategies appropriate to a long-term fund such as a benchmark approach and a greater use of the long-term capital markets have been adopted, and the range of currencies and instruments used has also been increased.

The HKMA continues to place great emphasis on establishing links with other market participants. The management style is one of openness and co-operation with the market, with a view to encouraging close working relationships to enable the markets to play their part in assisting in the HKMA's management of the fund. In terms of day-to-day operation, the HKMA has established three portfolios: (a) a portfolio of assets to act as a hedge against the interest-bearing liabilities of the fund, to ensure that it can at all times meet all the claims upon it; (b) a portfolio of liquid reserves to be available whenever required to meet market operational needs; and (c) an investment portfolio to preserve the fund's value for future generations in Hong Kong. The returns from the management of the fund and the investment style adopted are set out and explained in the HKMA's annual report each year.

Another function related to the Exchange Fund is to supply notes and coins to the banking system. Bank notes in denominations of $20, $50, $100, $500 and $1,000 are issued by the Hongkong and Shanghai Banking Corporation Limited, the Standard Chartered Bank and the Bank of China. Apart from a very small fiduciary issue, which is backed by eligible securities, the note-issuing banks may issue currency notes only against non-interest-bearing CIs issued by the fund. The fund bears the costs of maintaining the note issue (apart from the proportion of the costs relating to the fiduciary issue), and accrues the net profits of the note issue.

Administration of the coin circulation is the responsibility of the HKMA. Coins of $10, $5, $2, $1, 50 cents, 20 cents and 10 cents denominations are issued by the government, and the assets received against their issue are held in the Exchange Fund. The government also issued currency notes of one-cent denominations until September 30, 1995, after which they were demonetised and ceased to be legal tender. The introduction of the bauhinia flower series continued, with greater emphasis being placed on the higher denominations. The total currency in circulation at the end of 1996 was $87.1 billion.

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