ENG-2005 — Page 134

104 Financial and Monetary Affairs

in 2005. The divergence in growth of HK$M1 and HK$M3 partly reflected a shift away from liquid monetary assets to term deposits. Specifically, the share of liquid deposits (i.e. demand and savings deposits) in total Hong Kong dollar deposits declined from a high of around 65 per cent in early 2005 to about 45 per cent at end-December, probably brought about by a rise in deposit rates.

Following a 6.3 per cent increase in 2004, loans for use in Hong Kong expanded by 7.8 per cent in 2005, reflecting increased demand for credit. Analysed by major usage, lending grew in most sectors in 2005. Trade financing and loans to finance the manufacturing sector, and property development and investment registered notable increases. The outstanding stock of residential mortgage loans increased slightly in 2005, due to an expansion in new mortgage lending activities. As the rate of increase in Hong Kong dollar loans was higher than that in Hong Kong dollar deposits, the Hong Kong dollar loan-to-deposit ratio rose from 82.6 per cent at the end of 2004 to 84.3 per cent at the end of 2005.

Exchange Fund

The Exchange Fund was established by the Currency Ordinance of 1935 (later renamed the Exchange Fund Ordinance). Since its establishment, the fund has been responsible for backing Hong Kong dollar note issues. The role of the fund was expanded in 1976 to include the backing for coins issues. The Coinage Security Fund was merged with the Exchange Fund on December 31, 1978.

The Government transferred the fiscal reserves of its General Revenue Account (apart from the working balances) to the fund to centralise the investment management of its financial assets. Through this transfer, the bulk of the Government's financial assets are placed with the fund. Prior to April 1, 1998, fiscal reserves were placed with the Exchange Fund as deposits on which market interest rates were paid by the Exchange Fund to General Revenue. With effect from April 1, 1998, the arrangement was changed and the return on the fiscal reserves placed with the Exchange Fund was linked to its overall return.

When the Hong Kong Special Administrative Region (SAR) was established on July 1, 1997, the Chief Executive appointed the Financial Secretary as the public officer to receive, hold and manage the Land Fund, as part of the Hong Kong SAR Government reserves. Between July 1, 1997 and October 31, 1998, under the direction of the Financial Secretary, the Land Fund was managed by the HKMA as a separate portfolio from the Exchange Fund. With effect from November 1, 1998, the assets of the Land Fund, which remained as a separate government fund, were merged into the Exchange Fund and managed as part of the Investment Portfolio of the Exchange Fund.

A resolution was passed by the Legislative Council under the Public Finance Ordinance to authorise the transfer of $120 billion from the Land Fund to the General Revenue Account to meet the Government's expenditure requirement. A further transfer of $40 billion was made under a similar resolution passed by the Legislative Council in June 2004.