SEIDLITZ: If you are so optimistic about China why expand in distant shores like Chile in South America, transfer your bank holding to London, and do rather limited business with China? Gray: We had to close most of our [China] branches after 1949, except Shanghai. There was little we could do. There are still constraints today. The banking system has not been totally opened up to foreign competition. And I suppose it never will be. Seidlitz: Is that because Chinese banks can't compete with banks like yours? Gray: When you are transforming the whole of the economy you have to go fairly slowly. There are also historic reasons. No doubt, 70 or 80 years back China was exploited. People don't want to go back to times where the economy will be dominated again by Western business interests. Those thoughts are not unique to China, you only have to look to Malaysia or Singapore. Seidlitz: So no retail business for your bank in China? Gray: Even if the doors opened more, it would be difficult to break into this market. But you can do a lot in retail banking without having to have concrete on the ground in every village in the country. The main barrier now is the inability of foreign banks to do renminbi business. That should be the next major step to come, but I don't have a time-frame. But I think that door will be open in time. The other barrier is, of course, the foreign exchange market, which already has changed. The dealings, which were previously in official rates, have been taken over by the swap-centres. It's not a perfect market yet, but they are moving in the right direction. Seidlitz: So what is your China strategy? Gray: We do trade financing, of course. Which is normally on a 120-day cycle. We know the clients on both sides of the transaction. If you go beyond that, which is really short-term financing, you have to look at a variety of different loan opportunities. Project financing is one. We are involved in the financing of the super-highway in Guangzhou. There is a clear need for this highway. You just have to cross the border. It's essential. It's a question also of looking at the cash flow and making a commercial decision. Seidlitz: Have you carried a lot of bad loans on your books in China? Gray: During the mid-1980s we carried a few bad hotel loans, but even these hotels are coming around now. There was over-expansion of hotels in China at that time. There were too many hotels in one place and to few in another. Bad planning. But now, by and large, they are working out. Seidlitz: Do you want to get back your old building on the Bund in Shanghai? Gray: We signed it away in 1953 like all our property in Shanghai. A lot of people have suggested that the Hongkong and Shanghai Bank get back their old premises, and that would be a strong signal for Shanghai. We need larger premises. But don't forget, it's an old building. Bank-building technology has come a long way since the 1920s. It's not an ideal building for a bank anymore. But as a concept, I find it quite appealing. Seidlitz: China had initial success in stopping the fall of the yuan, but there is fear that this was temporary. Gray: Any economist will say that the central bank can't hold the rate for ever. It all depends how much financial strength they have to put behind it. They were quite successful so far. But, of course, it will be dictated by inflation rates and by economic indicators like in any other country. Seidlitz: What should be the right renminbi exchange rate? Gray: You could argue about whether it should be at 8.80 or 9.80 or 10.80 [to the US dollar]. All this is not totally out of alignment with economic reality. Seidlitz: How much flight capital is leaving China, and is there a danger that in China we see a repetition of events in South America, namely a transfer of huge assets of the rich and powerful? Gray: There is quite a significant flow of money coming out of China. There is investment in Hong Kong with money coming out of China. But money is also going back into China. Hong Kong is an important source of foreign exchange to China. In July, when the exchange rate was coming under pressure, there was repatriation of accrued retained profits from Hong Kong to China, which were held back by Chinese national co-operation because they were waiting to see if the exchange rates would move. The trouble with China is that statistical evidence is far from perfect, although our China desk gives me volumes of reports drawing conclusions from them. Seidlitz: What are you going to do when 1997 comes to protect your customers' confidentiality? Once China takes over here, some could be tempted to find out what's happening inside your bank. Gray: Bankers' confidentiality is very well established by law in Hong Kong. And the law is guaranteed for 50 years beyond 1997. There is always, of course, a conflict in places like Hong Kong and Switzerland with government departments of other countries who wish - if there are tax or drug cases - to penetrate the wall of confidentiality. But here you require a court order, and you have to demonstrate to the court that you have a need to access that information. In the case of money laundering, which normally is connected with drug money, there are guidelines for the authorities. These oblige the bank to act, if the bank clearly suspects that there may be money laundering going on. There has been co-operation between the ICAC and the authorities in Guangdong. The central government is as concerned as we are about these excesses. Seidlitz: As a bank with its holding company now in London, do you have fears that you will be punished by Beijing, particularly as you now sit on Exco with the Governor, who is not exactly on good terms with China? Gray: In all my conversations I had up in Beijing I have been assured that Hongkong Bank has a significant role to play in China. And they wish us to continue to be involved. But despite our buying Midland [Bank], China is very much one of the most important initiatives during my tenure. I want to reinforce this commitment. Seidlitz: Wouldn't it be better in these new democratic times that you stick to banking and let the politicians run Hong Kong? Gray: I am just an adviser. The Governor makes the decisions. Seidlitz: But you will surely be the last Hongkong Bank chairman in Exco? Gray: I am appointed - I have the letter here - during the period of Her Majesty's pleasure. I had better keep the letter for my grandchildren. Seidlitz: How did you turn around Marine Midland in America? Only through a change of management? Gray: We had to take some pretty hard decisions as they had, like all the other banks, invested heavily in the real estate market. John Bond went in with a firm idea. The cost base was too high. Marine Midland had shrunk in terms of assets and lending opportunities. The bank also had two head offices, one in Buffalo, one in New York. And it needed to shrink its costs and refocus its business to its real strength, which is still consumer banking. Seidlitz: There was a time when we thought banking was a sunset industry and that you in the banks had to change like the businessmen had to change. But you bankers have not changed and you make terrific profits. Have you had it easy because you have an interest cartel? Gray: That some banks are doing better than before is because they are not making the mistakes they did before. Seidlitz: You are helped by your interest cartel. Gray: There is a three per cent gap. The Hong Kong Association of Banks has done research on that and they found out that there is not much difference in most other countries. Seidlitz: You can't leave your money in the bank and count on interest rates if inflation is nine per cent. That's a reason for property speculation. Gray: Normal economic laws will also apply in Hong Kong. But most banks are not overexposed in the real estate market, having seen what has happened in the United States and other countries. We have been concerned at the rate at which property prices have risen. It's also a social concern. But nevertheless, I don't feel we have the same situation like in England or the United States. There is genuine end-user demand in Hong Kong. Seidlitz: Are you going to spin off Hang Seng Bank? Gray: We have no plans to do that. We were fortunate to be in this region of growth while in the industrial countries of the West the margins were going down because labour and manufacturing costs were going up. Look at Germany's steel industry. The chairmen of industry and banking from Europe, whom I meet regularly here in this office, realise that more and more opportunities lie here in the East, particularly if you cannot compete in your own country because you are priced out. You have to diversify and find new markets. There are many more people coming through Hong Kong than two years ago. And they are not coming here because of the good weather at this time of the year. They are coming out because they have identified this region as one that has opportunities for their companies. They have specifically identified China. Some have not even defined the opportunities, but they just say: I have to look at it. Some might be disappointed. If you have a brewery in Schleswig Holstein, there is not much you can do in China. But if you are in textiles and you are being priced out because the margins are shrinking, you can source here and can still remain competitive. Seidlitz: But is there money to made by those who try to compete against you in retail banking? Gray: The entry costs into retail banking are so high that it is most probably too expensive. Seidlitz: So the American and other banks don't make money in retail banking? Gray: Certainly the local banks, even if they don't have the share we have, probably do quite well. Their expenses are not so high. That also goes if you can buy a bank with an existing branch network. But to make it worthwhile, you need to have a marketshare of at least three or four per cent. It's a real struggle to get to four per cent.