No repeat of Exchange Fund transfer planned in next 5 years, Paul Chan says

Hong Kong does not plan to make another transfer from its Exchange Fund in the next five years, the finance chief has said, citing a new medium-range forecast that explains why the rare move will not be repeated. Financial Secretary Paul Chan Mo-po elaborated on his plan on Saturday, after his budget announcement that he would withdraw HK$150 billion (US$19.2 billion) from the government’s main investment arm and de facto sovereign wealth fund sparked concerns about the city’s financial stability. “In the entire medium-range forecast, apart from the HK$150 billion transfer over the two years just mentioned, there are actually no other transfers projected,” Chan told a radio programme. “I will not make this a normal practice.” His assurances follow Wednesday’s budget announcement that the government would withdraw HK$75 billion annually for two years from the Exchange Fund’s investment income to top up the Capital Works Reserve Fund. The move, justified by the Exchange Fund’s record-high investment income of HK$330 billion last year, aims to support the Northern Metropolis and other infrastructure projects. Chan argued that with the fund’s total assets exceeding HK$4.1 trillion, the transfer represented only about half of last year’s investment gains and would not undermine the city’s financial stability or its ability to defend the currency peg. “We took into account the large size of the Exchange Fund,” he said, emphasising that the funds were being reallocated from financial investments to infrastructure projects that would eventually generate tax and economic returns. But the unprecedented move has raised eyebrows among financial conservatives. Experts have cautioned that making such withdrawals a regular practice could undermine the city’s long-held reputation for financial prudence. Addressing the financing of the Northern Metropolis, Chan disclosed a shift in the government’s bond issuance strategy. While the administration had traditionally favoured short-term debt to take advantage of lower interest rates, it would now increase the proportion of longer-term bonds, he said. He also said that going forward, the government would explore issuing a greater proportion of long-term bonds to better align cash flow with infrastructure investments in the megaproject. He noted that infrastructure projects had long gestation periods before generating revenue, making long-term debt a more prudent way to align assets and liabilities. The government forecast its level of debt-to-gross domestic product would rise from the current 14.4 per cent to about 19.9 per cent over the next five years, a level Chan insisted remained “relatively low” by international standards. Chan also outlined a more hands-on government role in driving private sector development within the metropolis. Moving beyond the traditional “highest bidder wins” land sale model, authorities would actively partner with private developers holding land banks and with technology enterprises seeking to establish footholds in the city, he said. “We encourage developers who have land to come to the government if they have looked for tech enterprises or advanced manufacturing firms,” Chan said. He added that the government was prepared to facilitate land tenders or even co-invest in projects to speed up development. The approach marks a significant departure from the government’s traditional laissez-faire stance towards land development. It is also considered a signal of a more interventionist industrial policy as the city strives to catch up in terms of innovation. Donald Low, professor of practice in public policy at the Hong Kong University of Science and Technology, said that while tapping financial reserves to fund infrastructure projects was a common and cost-effective strategy globally, it carried the risk of eroding financial discipline by bypassing market scrutiny. “Unlike borrowing from the market, drawing from reserves doesn’t naturally impose any discipline on the government,” he said. “With borrowing, the market serves as a disciplining mechanism. With drawing from reserves, there’s no disciplining mechanism other than the government itself.” Low also expressed concerns about the government’s future financial discipline. “The main concern with these drawdowns is that, over time, the government may become less disciplined and more reliant on its reserves as a cheap source of financing,” he added. “Who decides whether the project that is to be financed from reserves is something that generates a positive return over the long term?” Low argued that Chan’s personal assurances were insufficient without institutional safeguards, noting Hong Kong lacked the formal constraints of other jurisdictions that prevented excessive drawdowns by future administrations. “There’s no formal rule that limits or constrains how much the government of the day can draw from reserves accumulated over many years,” he said. “Singapore, for instance, has a ‘two-key’ rule that requires the government to obtain both parliamentary and presidential approvals for any drawdown from past reserves.”