I should of course start by re-iterating the firm HKSARG policy of keeping our exchange rate to the US dollar within the range of 7.75 to 7.85 through the linked exchange rate system, characterised by currency board arrangements that require our monetary base, and any changes in it, to be 100% backed by US dollars. With the weakening US dollar and the strengthening renminbi; with the local inflation rate, excluding the temporary effects of tax relief, edging higher; with an “asset bubble” on the lips of many commentators; with the exchange rate hitting the strong side Convertibility Undertaking late last month, requiring our passive and un-sterilised foreign exchange intervention, injecting quite a lot of Hong Kong dollar liquidity into the inter-bank market; and with current US monetary policy possibly becoming inappropriate for Hong Kong; questions have understandably been raised on the appropriateness of the system. Let me provide answers to these questions. First, the appropriateness of the linked exchange rate system should be judged by its ability to deliver monetary and financial stability in Hong Kong through economic cycles, and should not be judged by the short-term cyclical conditions of the economy relative to that of the US economy. The linked exchange rate system has served Hong Kong extremely well since its establishment.
Remember that the portfolios selected for the review amount to 58% of the risk-weighted assets of the 128 institutions, i.e. some € trillion, which will involve reviewing in detail an average of 1,250 credit records per bank. In Spain, we calculate that the review will affect assets valued at € billion, and will require the analysis of more than 21,000 loan records. The second part of the assessment will consist of the stress test. The aim of this exercise is to analyse the ability of banks to maintain appropriate solvency levels in two different scenarios: a baseline or more likely scenario, and another alternative, highly adverse scenario, with less likelihood of occurrence. The stress test is being developed in collaboration with the European Banking Authority (EBA). The methodology of the exercise is currently at the review stage following the finalisation some days back of the public consultation process. The final version of the methodology and details of the macroeconomic scenarios are expected to be published towards the end of this month. The implementation and quality control stages of the stress test will commence from next month, meaning there will be some overlap with the asset review exercise. The outcome of the comprehensive assessment will be made known in late October, and will include both the results of the asset quality analysis and of the stress test.