Hong Kong's finance sector has undergone an unprecedented overhaul this year. In less than 12 months, the financial landscape has been transformed by wide-ranging private and public initiatives, most of which aim to maintain and enhance the attraction of the SAR as the region's main international finance centre. Accelerating the pace of reform has been the changes China has made in its bid to join the World Trade Organisation (WTO). In the banking and finance arenas China, in return for accession, has to open its banking sector to foreign competition in two phases: two years after accession foreign banks will be allowed to transact yuan business with mainland enterprises; and five years after accession foreign banks will be free to compete with mainland banks for consumer business. More importantly, WTO means mainland banks and businesses will need capital. For banks, capital will be required to bolster balance sheets to enable them to compete in the new regime, while corporates will need capital to finance the expected plethora of privatisations. Hong Kong can provide the gateway through which capital flows should take place and it has spent much of the year cementing this claim. Addressing a Joint Financial Markets Lunch earlier this year in London, Financial Secretary Donald Tsang Yam-kuen said the programme of reforms in Hong Kong's finance sector were focused on maintaining an edge over the SAR's competitors. 'In summary, our overall programme is designed to keep us ahead of our competitors and further enhance our claim as Asia's premier financial centre. And we will not rest there. 'With globalisation, markets are continuing to evolve in the face of ever fiercer competition. This means we can never be complacent,' said Mr Tsang. Addressing a conference on globalisation on September 4, Hong Kong Monetary Authority chief executive Joseph Yam Chi-kong examined the topic 'The WTO - China's future and Hong Kong's opportunity'. For foreign banks generally, opportunities brought by financial liberalisation on the mainland, in the context of WTO, were immense, Mr Yam said. 'In two years time, foreign banks will be able to conduct renminbi [yuan] business with Chinese enterprises in Shanghai, Shenzhen, Tianjin and Dalian. Within five years, they will be able to deal with all Chinese enterprises without any geographical restriction. 'The obvious advantages for Hong Kong's banks in this process are the same as those that have taken Hong Kong's other industries into the mainland. Hong Kong's banks were among the first to open branches on the mainland, especially in the southern cities. 'They know China well, speak the language, have extensive branch networks, and maintain strong relationships - some of which have grown up over more than a generation.' Mr Yam said there were niches in which Hong Kong's banks should maintain and extend their competitive advantage. 'For example, they should be able to continue to derive substantial business from the extensive involvement of Hong Kong companies in the manufacturing and retail sectors in China, in the form of private or joint-venture enterprises. 'Given also that about 40 per cent of the mainland's trade is routed through Hong Kong, Hong Kong's banks will have an unrivalled advantage over other banks in capturing the increased demand for trade and related financing services. 'As the largest source of foreign direct investment in the mainland, and as China's main financial conduit and funding centre, Hong Kong will stand to benefit considerably from the increased demand for banking services in China,' he said. Mr Yam conceded in his address that opinions were divided on the implications for Hong Kong with China joining the WTO and throwing open its borders to free-flow of goods and financial services. 'At the extreme end of the spectrum there are those who believe that China's WTO entry will be one more nail in the coffin, one more noose around the neck for Hong Kong. 'That the diversion of business that will result from the now well-advanced infrastructural development in China's coastal cities and the direct access provided through WTO membership heralds the demise of Hong Kong's historical role as intermediary between China and the rest of the world,' Mr Yam said. The outcome would probably prove more complicated and altogether more positive, he said. 'The World Bank projections on the effects of WTO entry - a doubling in the space of five years of China's share in international trade [which is projected to grow at the rate of about 6 per cent per year] - suggests the business 'creation effect' stimulated by WTO accession will far outweigh the 'diversion effect'. 'There should, in brief, be more than enough work to keep both Shanghai and Hong Kong busy for a long time to come, and more than enough skill and enterprise available in both cities to enable each to focus on the opportunities that WTO entry will bring,' Mr Yam said. While similarity of functions would probably occur, there would be scope for each city to develop its own characteristics as a financial centre, he said. 'The logical trend in financial services, given the continuation of exchange controls on the mainland, in contrast to the free flow of capital in and out of Hong Kong, as enshrined in the Basic Law, seems to be for Shanghai to develop as China's domestic financial centre and for Hong Kong to develop its international financial centre.' Clearly Hong Kong policymakers and bankers believe China's accession to the WTO will bring advantages, but Hong Kong should not expect to become an automatic beneficiary. Rivals for the business abound - not least Singapore, which is aggressively marketing its attractions as a key regional financial centre. Among the initiatives adopted in Hong Kong over the past 12 months aimed at securing its role as the region's premier financial centre were: To create a more efficient and lower-risk environment for the transaction of US dollar business, the Hong Kong Monetary Authority (HKMA) launched the most extensive offshore US dollar clearing system in the world on August 21. On September 25 the second phase of the system scored a world first by enabling the instant 'real time' settlement of a transaction involving the payment of US dollars for Hong Kong dollars; On June 27, Hong Kong's merged equities and futures markets were listed as Hong Kong Exchanges and Clearing (HKEx). The change, explained HKEx chief executive Kwong Ki-chi, was driven by the need to match the accelerating pace of institutional and technological change in global financial markets; In July, bond trading went live online with the creation by the three dominant players in the market - HSBC, Citigroup and Deutsche Bank - of the Bondsin Asia joint venture. This month, competitor asia bondportal.com will offer an online marketplace for trading bonds, with the launch of an alternative Internet marketplace for bonds; In May, HKEx offered investors the opportunity to trade seven Nasdaq-listed stocks on the local market, and the prospect of a 24-hour global equity trading marketplace was raised with news that talks were underway with nine other exchanges to allow continuous trades to take place across the time zones; and In May the first swap agreement in which a local bank exchanged a US$1 billion portfolio of mortgage loans for interest-bearing bonds issued by the Hong Kong Mortgage Corp (HKMC) took place. The deal was the first in the HKMC's expanded brief to develop a market for securitising mortgages to provide lenders with enhanced asset-management techniques. The HKMC is wholly owned by the Hong Kong Government through the Exchange Fund, and was incorporated in March 1997 with a view to develop the secondary mortgage market. In the first phase of its operations the HKMC focused on the purchase of mortgage loans from banks for its own portfolio and by end-June this year had accumulated a portfolio of loans valued at HK$7.68 billion. Other notable events on Hong Kong's financial calendar during the year included the launch of the Tracker Fund, and the Mandatory Provident Fund (MPF). The roots of the Tracker Fund, which delivered huge capital gains to its founding investors, go back to the controversial defence by Hong Kong of its capital and equities markets during the Asian crisis of 1997/98. Part of that defence was a move by the Government to support the Hong Kong dollar and local equities from speculative short-sellers, by spending HK$118 billion of public funds to buy key Hang Seng Index (HSI) stocks. Controversial at the time, the policy nonetheless helped end a double-play by speculative investors on both the currency and stock futures markets. The defence of the dollar peg, and the subsequent recovery by the market - from a low of 9,059.89 on the HSI on October 28, 1997, to about 17,000 at the beginning of August this year - delivered a massive gain to the public purse. To begin a programmed and orderly disposal of its share portfolio the Government launched the Tracker Fund in November last year, depositing an initial tranche of stocks valued at HK$33 billion in the fund and selling units to the public at a float price of HK$12.88. The issue was underpriced and oversubscribed and delivered strong capital gains to investors. The financial landscape was decisively transformed during the year with the introduction of the MPF. By the close of the year Hong Kong employers who previously provided no pension plans for their employees, will be required under the MPF rules to begin retirement savings plans for their employees. At present, about one-third of Hong Kong's workforce is covered by 19,300 occupational retirement schemes. The target market is the remaining 300,000 companies employing about 1.6 million employees not covered by an Occupational Retirement Schemes Ordinance (Orso) scheme, and the self-employed. The scheme applies to all full-and part-time employees aged between 18 and 64 with some exceptions. Employers and employees must each contribute 5 per cent of relevant income up to a limit of HK$24,000 per year, where employees earn between HK$4,000 and HK$20,000 per month (just under half the workforce). Analysts at Deutsche Bank Securities forecast retirement assets held by Orsos and MPFs would probably grow from HK$164 billion at the end of last year to more than HK$1 trillion by 2010 - or an increase from 18 per cent of gross domestic product to 36 per cent.