It will take time for the money market to return to normal, says HKMA’s Joseph Yam

The impact of the global banking and financial crisis in 2008 was breathtaking in its scope and effect. The countries and regions that have worst hit by the crisis are the major Western economies (critically, the US and Europe), which had the biggest financial and asset price excesses in the run-up to the crisis. The countries that have come off best to date are those that were perceived as more conservative in the past, with responsible economic, monetary and fiscal policies and sound (and sometimes criticised as too limiting as a result) prudential and regulatory regimes. Due mainly to forces of recent circumstances, but also due to tradition, these were mainly in Asia, the Middle East and Africa and even surprisingly perhaps, South America.

The East Asia region generally, and Hong Kong and China specifically, have to date survived the global credit crunch relatively untouched. Whether they can survive the resultant economic downturn that was only gathering momentum at the end of 2008 in a similarly detached manner is more problematic.

Hong Kong’s response to the unfolding credit crunch was – and still is – mostly measured, confident and competent, perhaps reflecting its experience in dealing with the Asian financial crisis of the late 1990s and the economic impact of the SARS and bird flu crises of the early 2000s. Where the crisis did throw up unusual challenges, the Lehman Bros mini-bond holder problem, say, or the rumours swirling around the Bank of East Asia, they were dealt with relatively swiftly.

There was – and is – also good co-ordination between the Government generally and the various responsible regulatory bodies, including, importantly, the Hong Kong Monetary Authority under the hugely experienced Joseph Yam. The Government and the HKMA have responded in concert with global action by cutting interest rates and increasing bank liquidity when needed.

 It has also intervened in the foreign exchange market to support the peg to the US dollar (the LERS or Linked Exchange Rate System) when required. The Government has also shown fiscal flexibility, vowing to support the economy through the budget when required.

“It will take time – and the absence of any further nasty surprises – for the money market to return to normal functioning,” Yam said recently.

Hong Kong’s Chief Executive Donald Tsang Yam-kuen described the Government’s approach as a two-track one. The first involved dealing with daily developments through existing mechanisms led by the Financial Secretary, together with the HKMA, the Securities and Futures Commission and other financial institutions. “This is very robust, very resilient and very effective,” he said.

The second track was to set up a high-power private-public sector task force to look at the SAR’s future development. “We need a task force of this kind to look at the wider implication of this global development to see whether there are further pitfalls for financial centres such as Hong Kong, and particularly opportunities for Hong Kong,” he said.

In his October 2008 policy address, he said Hong Kong could not avoid the crisis impact. “As a small, open economy and a global financial centre, Hong Kong is not immune to the impact of this financial tsunami,” he said. “Some investors in Hong Kong have suffered losses from a derivative product, referred to as mini-bonds, issued by the US investment bank Lehman Brothers, while rumours triggered a fleeting run on a local bank”.

He added that the current global crisis was worse than in 1997.

The SAR’s banking system is one of the most important in the world, although this is due more to Hong Kong’s openness and role as an international banking and financial centre than it is to having giant home- grown banks as “national champions”. Its three key institutions are all foreign – HSBC, Standard Chartered and the Bank of China. Its largest local bank, the Bank of East Asia, is a relative minnow in global terms. Hong Kong’s key role is due to its open system, its three-tier system (licensed banks, restricted license banks and deposit-taking institutions), its US dollar base (through the foreign exchange link to the US dollar) and its light – but firm – regulatory approach. Its deposit and loan base is also strong.

China, having seen the value of a steady and co-operative hand on the global economic tiller during the Asian financial crisis in 1997 and 1998, has once again reacted in a measured and supportive way. Its size, newfound wealth and relative independence in fiscal, monetary and regulatory regimes has helped to quarantine it from the direct effects of the credit crunch, although it did feel some impact at the edges.

In the broader economic sense it, too, has endorsed the co-ordinated global economic actions, reducing interest rates and enhancing liquidity to strengthen the domestic financial system and bolster economic activity. Perhaps most importantly, on November 9 it announced a massive fiscal stimulus package for the domestic economy, with projected spending of four trillion yuan, or US$586 billion, over a two-year period. This injection of funds into the economy is equivalent to a huge 14 percent of its current Gross Domestic Product – 7 percent of GDP a year.

At the epicentre of the storm, America’s handling of the unfolding crisis was a little less surefooted (and more subject to change) than Europe’s or Britain’s, although on both sides of the Atlantic there were mistakes made at the beginning of the process, which had to be reversed later. Indeed, there seemed to be a common factor of denial in the early months of the crisis, an inability or unwillingness to recognise the extent and depth of the developing storm in the financial markets. As a result, there were some big name rescues, takeovers and failures in the US and Britain.

The unfolding credit crunch also had a massive impact on Britain and continental Europe as well. There was some collateral damage elsewhere, but this was relatively minor compared with the substantial carnage in the financial markets of the US and Europe. At the core of the US plan to restore the credit markets to vitality was – and is – a US$700 billion bailout of the banking sector approved by the US Congress. But its purpose has changed over a very short time. Originally, it was to buy so-called “toxic” or bad assets of the troubled banks (essentially mortgage-backed securities), but now its main purpose is to recapitalise the banks and perhaps some other lenders and US$290 billion was earmarked for this. This is essentially a partial and forced nationalisation of the banks, a big step for the Americans.  

In making this change, the US was following the example of Britain and Europe, where it was first realised that the fastest way to improve the banks situation and free up credit, interbank lending and customer lending was to recapitalise the troubled banks by injecting capital and taking equity stakes on certain strict conditions. Some major banks in Britain escaped this fate but others could or did not (RBS, HBOS, Lloyds TSB). The same is true in Europe.

Apart from the British lead, the changes to the American core rescue plan were brought on by the worsening nature of the crisis, especially when the Treasury allowed the failure of the big investment bank Lehman Brothers. In fact, the essential meltdown of the big end of town investment banks on Wall Street forced those left standing to agree to become better regulated deposit-taking banks. There was essentially nowhere else to go but to recapitalise the major commercial banks and a range of others.

Now, it is a matter of dealing with the broader global economic fallout of the crisis.

Ian K Perkin, business consultant and company director, can be contacted by email at perkin888@hotmail.com