Peg has taken us from panic to prosperity, so let's leave it alone

PUBLISHED : Tuesday, 04 January, 2011, 12:00am
UPDATED : Tuesday, 04 January, 2011, 12:00am

This [currency board peg] was reintroduced in Hong Kong in 1984 with the specific object of preventing a massive panic outflow of capital from the territory during the prolonged Sino-British negotiations and the 13-year transition period...

...Just float the Hong Kong dollar like we used to. What is there to lose?

Lau Nai-Keung

Perennial committee sitter

Insight page, December 10

It's a line that would never be allowed on Don't Do This At Home. Let's all jump off the highest cliff we can find. What is there to lose? Just close your eyes and you'll never know.

But corrections of fact come first. The peg to the US dollar was not adopted in 1984. It was adopted in October, 1983.

I know. I was there, working for a stock broking firm right smack in the middle of a very nasty bear market with overseas clients staying out because the Hong Kong dollar was in free fall and nothing could be seen to stop it.

No such thing as a well thought out 'specific object' existed and, as to preventing an outflow, the word 'prevent' implies that this outflow was anticipated in the future when it was already a raging, sweeping torrent at the time.

There was only one sentiment in the financial secretary's office and in the head office of The Bank. It was desperate panic bred of that peculiar sort of confusion that comes from complete ignorance of what is going on (the financial secretary was an airline executive) and is best described in a single word - Help!

Portraying this now as a reasoned measure to ensure a smooth transition period to the handover of sovereignty is a staggering rewrite of history.

Help did come of course. The idea of reverting to a currency board regime had been tossed around earlier but was given weight when promoted by a respected private sector economist. Only two years earlier he had been threatened with eviction from the territory if he kept up his criticism of the lax monetary policy but he stuck to his guns and was proved right.

The peg level of HK$7.80 to US$1 was settled at a weekend crisis meeting in The Bank's offices and, with this fundamental underpinning made, a huge economic expansion was soon under way.

Over the next 15 years, Hong Kong gross domestic product tripled in real inflation-adjusted terms. The peg has been the bedrock of Hong Kong's prosperity. This is simple fact.

But why not go back to a floating currency now? Stability has been achieved and the present time is a particularly inconvenient one to be linked to the US dollar. We seem to be on opposing cycles at the moment with our property market overheated by the low interest rates that have been foisted on us by the peg. Surely now is a good time to remove this panic remedial measure.

It might be so, but before answering this question there is a more important one to pose. What would we put in its place? I may be a general believer in free markets but no market can really exist when supply can be generated out of thin air. If we are to have a freely floating currency we need some way of regulating the money supply, of not printing Hong Kong dollars recklessly.

This is particularly important because there were no such controls when we did have a freely floating currency in the 12 years before 1983. There was only an Exchange Banks Association (The Bank and its underlings) that were supposed to establish interest rates in the public interest but, by mistake, purely by misfortune you understand, established them in their own interests instead.

That's why we found it necessary to adopt the peg. How do we know that the same thing will not happen again? Can we now create the necessary monetary tools of statutory reserves, a discount window and open market trading? Would we trust our monetary authorities to wield these tools properly?

Personally, I don't think it is worth the risk.

The Hong Kong dollar would always be dominated by the US dollar or the yuan anyway and leaving monetary management to ephemeral policy rather than a mechanism would only leave it more open to tampering by Beijing.

If we can throw away HK$67 billion on a pointless high-speed railway just because someone in Beijing sneezed, think what might happen to our currency if there were active interference, particularly as recent events show Beijing to be at a complete loss just now as to how to manage its own monetary affairs.

No thanks, Mr Lau. We have far too much to lose.