The IMF says that Hong Kong’s financial system has withstood the economic downturn well.

The International Monetary Fund (IMF), in its Staff Report on Hong Kong released December 3, recognized the Hong Kong Special Administrative Region Government’s efforts to aid economic recovery and reiterated its support for the Linked Exchange Rate system (LERS).

The IMF sees an economic recovery is under way in Hong Kong, fueled by growth in mainland China, supportive government policies and accommodative monetary conditions imported from the U.S.  The economy should steadily strengthen and unemployment should decline in the coming months.  Consumer price inflation is projected to be close to zero by the end of 2010.  

The IMF believes that Hong Kong’s financial system has withstood the downturn well.  It believes that banks in Hong Kong should be readily able to absorb a decline in profits that is likely to result from higher provisioning and tighter interest margins in the coming months.   To mitigate the risk of a credit-asset price cycle, the IMF believes that there is a role for the introduction of countervailing prudential measures in addition to the continued strict enforcement of the existing regulatory program in maintaining financial stability.  IMF agrees with the increase of the deposit protection limit and commends the steps taken to coordinate with Singapore and Malaysia on the exit from the blanket deposit guarantee.

The IMF expects the fiscal outturn for this year could involve a much smaller deficit than planned in the 2009-10 Budget, given the faster-than-expected economic recovery and improvement in asset prices and financial markets.  It believes that the risks to the global economy argue for a supportive fiscal stance to be maintained in the 2010-11 Budget.  It also suggests that the Government consider further modernizing the current budgetary management system.  The IMF continues to support the contribution of private financing sources to a larger share of healthcare expenditure.

Hong Kong Financial Secretary John C. Tsang, welcomed the IMF's commendation of the Government’s measures to support economic recovery.  “The global economic outlook remains subject to considerable uncertainties.  We are mindful of the prevailing risks in the external environment and will continue to adopt necessary measures to sustain economic growth,” Mr. Tsang said.

The IMF maintains its long-standing support of the LERS, which has shown itself to be a simple, transparent exchange rate arrangement that has proven to be an anchor of monetary and financial stability in Hong Kong.  The Hong Kong dollar continues to be valued broadly in line with economic fundamentals.  The IMF considers that maintaining a high degree of flexibility in the economy, particularly in the labor market, would be essential for the real exchange rate to adjust to external shocks.  It is right for the Government to be cautious and to adopt an evidence-based approach in setting the level of the statutory minimum wage.

The Chief Executive of the Hong Kong Monetary Authority Norman Chan said, “We welcome the IMF’s continued support of the Linked Exchange Rate system.  We remain firmly committed to the Link, which has served Hong Kong extremely well since 1983 as the anchor for monetary and financial stability.”

The IMF expects that the accommodative monetary conditions will remain in place for an extended period, but at some future point, the recent extraordinary expansion in the Aggregate Balance will be unwound, leading to capital outflows.  The IMF agrees that communicating the authorities’ policy actions during this period will be critical in order to avoid any disruptive market movements.  

The IMF considers that the rebalancing of mainland China from investment and exports toward private consumption has important longer-term implications for Hong Kong.  As an important international financial center, Hong Kong has significant potential to provide a range of financial services to the Mainland.  Hong Kong is also well placed to offer various other services—such as tourism and leisure, healthcare and higher education—to the Mainland and to the region more broadly.  The IMF supports the Government’s efforts to continue seeking ways to develop Hong Kong as an offshore renminbi business center.

The IMF mission visited Hong Kong from October 12 to 22 to conduct the Article IV consultation discussions.  

The Staff Report can be obtained from the Web site of the Financial Services and the Treasury Bureau [www.fstb.gov.hk] or the IMF Web site [www.imf.org].