background of the arrangement for the conversion of rmb conducted by participating ais through the clearing bank in shanghai : first, rmb funds flowed into hong kong through trade payments or other channels will become rmb deposits in hong kong, and these rmb funds can be used, deployed or exchanged freely into other currencies in the market in accordance with the applicable laws and regulations in hong kong. this is the main premise of developing an rmb offshore market in hong kong. in other words, the exchange rate and interest rate of rmb are to be determined by the supply and demand of rmb funds in the hong kong market. as the offshore and onshore markets are segregated, it is not unusual that the pricing may be different between the two markets. secondly, we should look at the actual supply and demand of rmb funds in the hong kong market this year. at the end of november, the total amount of rmb deposits in hong kong reached rmb 280 billion. this means that hong kong has accumulated a substantial pool of rmb funds which can meet the market ’ s daily demand. regarding cross - border trade settlement, in the first 11 months this year, payments from the mainland to hong kong amounted to rmb 180 billion while payments from hong kong to the mainland amounted to rmb 50 billion, resulting in a net inflow of rmb 130 billion to hong kong. these rmb funds remain in hong kong and constitute a main source of supply in the local rmb market. of the rmb 50 billion paid from hong kong to mainland enterprises, only about rmb 10 billion was obtained by conversion in shanghai through the clearing bank. in november alone, the payment from hong kong to the mainland under the trade settlement scheme reached rmb 22 billion. however, as the arrangement for conducting rmb conversions in shanghai was suspended, enterprises in hong kong could only purchase rmb funds from the hong kong market. given the abundant supply of rmb funds in the local market, the pricing of rmb funds in the hong kong offshore market and that in shanghai were quite close to each other, with the differential between the two staying within 300 pips for most of the time in recent weeks. this shows that the offshore pool of rmb funds in hong kong is serving the function of supplying rmb funds to meet the demand from local enterprises, such that there is no need to rely heavily on the onshore conversion window in shanghai for trade settlement. in other words, the conversion window

in shanghai serves a supplementary rather than the main source of rmb funds for trade settlement purpose. in order to further promote the steady development of the rmb market in hong kong, the following refinement measures will take effect from january next year : participating ais can square their positions with the clearing bank when there is a shortfall of rmb arising from conversions with customers for cross - border trade settlement transactions. in other words, participating ais should first utilise the rmb trade proceeds purchased from their customers to satisfy requests for rmb conversions for trade settlement transactions before purchasing rmb through the clearing bank in shanghai. participating ais can only purchase rmb through the clearing bank in shanghai for their customers in relation to trade transactions due for payments to the mainland within three months. the hkma and the pboc estimate that the demand for rmb conversion in shanghai would be within rmb 4 billion in the first quarter of 2011. the volume of conversion will be assessed and appropriately adjusted after the first quarter taking into consideration the actual circumstances. in order to maintain a steady supply of rmb, the hkma will, as a standing arrangement, provide rmb funds of rmb 20 billion through its currency swap arrangement with the pboc, for cross - border rmb trade settlements. given the restrictions in the convertibility of rmb, participating ais are required to limit their rmb net open positions ( whether net long or net short ) to 10 % of their rmb assets or liabilities. participating ais ’ credit risk exposure to the clearing bank in their letter to the hkma in november, the hong kong association of banks raised the issue of credit limit against the background of an increasing amount of rmb deposits being placed by participating ais with the clearing bank as the rmb business in hong kong continued to expand and deepen. the hkma and the pboc have held discussions about this issue, and it is considered that the issue could in principle be resolved by the participating ais establishing custodian accounts with the clearing bank. this means that the rmb funds will be placed with the pboc shenzhen branch through the clearing bank as a custodian to overcome the issue of credit limit. we will further discuss with the pboc, the clearing bank and participating ais on the details of such an arrangement including the related legal documents and operational procedures. it is hoped that the arrangement can be implemented soon early next year. conclusion i believe