The crucial part of the monetary base influencing this rise and fall is the aggregate balance that banks maintain in  3  BIS Review 35/1999  their clearing accounts held with the currency board: it is extremely small, and, at the time, made the monetary system susceptible to speculative attack. 12. In their attempts to destabilise the Hong Kong dollar in late 1997 and early 1998, speculators found that, although breaking the link was impossible, driving up interest rates by putting pressure on the Hong Kong dollar was not so difficult a matter. Late in the summer of 1998 they developed their strategy into a pre-concerted, heavily leveraged cross-market assault, which sought to play off the currency board system against the stock and futures markets: according to this strategy, extreme conditions created by a large-scale dumping of Hong Kong dollars would cause the stock market to plummet to a level that would allow them to make large profits from the futures contracts they had taken out. 13. We prevented them from reaping these profits – and in fact caused many of them to incur a loss – by investing a small part of Hong Kong’s official reserves in Hang Seng Index constituent stocks and futures contracts in sufficient quantities to ensure that the strategy failed. We followed this up with technical changes to the currency board system to make it less susceptible to manipulation.
In Adam Smith’s conception, it is the ‘invisible hand’ of the free market that organises the seemingly chaotic and self-interested activities of human beings into a beneficent and productive social order. For Milton Friedman, ‘the organisation of the bulk of economic activity through private enterprise operating in a free market’ is ‘a necessary condition for political freedom.’ 15. In its daily operation, a free market serves three main purposes. It manages resource allocation by supplying answers for buyers and sellers to the basic economic questions of what, how, and for whom goods and services are to be produced. It provides price discovery by channelling competition and adjusting prices to reflect changes in supply and demand for different commodities. And specifically in terms of money, it arranges financial intermediation by matching the needs of ultimate lenders – or those in possession of surplus loanable funds – with those of ultimate borrowers – or those in need of liquid funds: interest rates, which are determined by the supply and demand of liquidity in the loanable fund market, play a crucial role in this process. BIS Review 35/1999  4  16. The philosophers are agreed that, in general, the less a government has to do with these various functions, the more efficiently the market can do its job: centralised, directive authorities, or ‘big government’, are anathema to true economic freedom; governments should, at most, play a minimal, instrumental role in fostering the conditions in which each individual has the freedom to make his or her own economic choices.