Monetary Authority Chief Executive Joseph Yam welcomes the new sharing arrangement between the Exchange Fund and the fiscal reserves. He says the move makes the reserves' estimated investment income more stable and helps with budgeting.

Financial Secretary Henry Tang said in his Budget speech yesterday that from April 1, the return on the fiscal reserves will be calculated on the basis of the average rate of return of the Exchange Fund's investment portfolio over the past six years.

In his weekly column Viewpoint, Mr Yam said the new arrangement achieves three benefits - greater stability of investment income as a source of government revenue; greater predictability of the revenue stream for budgeting; and, hopefully, a higher investment return on the fiscal reserves.

The greater predictability comes from applying a pre-determined, fixed-fee rate to an estimate of the amount of fiscal reserves placed with the Exchange Fund during the year, he said.

"Any variation between the budget number and the out-turn number should be small and attributable to the extent that the total amount of fiscal reserves placed with the Exchange Fund during the year may be different from the estimate."

Mr Yam said the greater stability will be achieved through the use of the six-year moving average, which obviously is a lot less volatile than the actual year-to-year fluctuations, six years being the best estimate of the duration of an investment cycle of this type of portfolio.

Higher investment return

"The investment return should be higher in the long run because the fiscal reserves will only share in the Exchange Fund's investment portfolio and not the backing portfolio, which has to be invested in very liquid US dollar assets to provide full backing for the Hong Kong dollar Monetary Base, and would therefore normally achieve a somewhat lower investment return over time, although of course there will be variations from year to year."

Mr Yam said the new arrangement has one important implication. The use of the six-year moving average almost inevitably means that, in any particular year, the investment return of the investment portfolio will be higher or lower than the calculated fee rate.

"These differences will be for the account of the Exchange Fund: In years when the investment portfolio achieves a higher rate of return, the amount above the fee rate will be credited to the fund; in years when the actual return is lower than the fee rate, the fund will still pay the calculated fee rate to the Treasury.

"This is, of course, how the new arrangement makes the investment return of the fiscal reserves more stable, and the Financial Secretary's budgeting more predictable."