If you were to ask any representative grouping of the community, say, the Legislative Council, what the monetary base is, I would be surprised if more than ten per cent of the group could come up with the correct answer. Many would be tempted to relate this to the various definitions of the money supply, because that is the term mostly heard in commentaries on money and finance. But they are quite different things. The crucial part of the monetary base and the money supply, however defined, are in fact on the different sides of the balance sheet of the banking system. Put this question to a group of academics and you would probably, on the contrary, get as many definitions as there are people in that group. 15. This confusion is understandable and, at least partly, in the context of Hong Kong, a reflection of the rather peculiar institutional framework for monetary management of the past that is now, one hopes, history, with the ten years of reforms to our monetary system. You may be surprised to hear this. It was not until the end of 1996 that the monetary base for Hong BIS Review 87/1998  -4-  Kong was properly defined. This was when, on the occasion of the introduction of Real Time Gross Settlement for interbank transactions, all licensed banks were required to operate a clearing account with the HKMA instead of with a commercial bank.
Yet we have been, somehow, controlling, or we claimed to have been controlling, the monetary base ever since the linked exchange rate system was established in October 1983. 16. Even assuming that the definition of the monetary base is well understood, there is then the important question of how it should be controlled. Herein lies one of the most interesting subjects in monetary management and that is the choice between discretionary control with people making decisions, and automatic rule-based control with no discretionary decisions involved. Associated with this are considerations concerning, and possibly another choice between, flexibility in management and the credibility of the monetary system. Even the most professionally competent central banker can be wrong. A system that involves discretionary decisions is therefore subject to human errors of judgement that may undermine the credibility of the system, and some would go as far as to argue that this would eventually lead to failure of the system. On the other hand, an entirely rule-based system without any discretion is inflexible and may not serve the best interest of the community, even though short-term interests may sometimes be involved - witness the many calls for lowering interest rates even when the exchange rate is under pressure. 17. Another related conceptual issue that needs to be put across clearly is that the classical currency board system, as structured in the old colonial era, whilst still theoretically sound, has long become impracticable in coping with the complexities of modern finance.