rate is also affected by movements in price levels in other economies, which lie beyond the home central bank's influence. in sum, the central bank cannot, except perhaps for the short term, dictate the real exchange rate. equilibrium of the real rate the second misconception about the real exchange rate is that a weak rate ( if it could somehow be arranged ) would necessarily be a good thing, because of the benefit which an improvement in competitiveness, thus measured, would bring to the economy. history tells a rather different story. successful economies have typically experienced appreciating exchange rates during periods of their most rapid development ; and the wealthiest economies tend to be those which appear to be the most expensive in terms of overall price comparisons. it is not so much the real exchange rate which determines prosperity, as it is the fundamental characteristics of the economy, such as underlying productivity, which determine the real exchange rate. an economy which can successfully sell high value - added goods and services on world markets and as a result enjoy at the same time relatively cheap imports is better off than one which balances its accounts by selling a higher quantity of cheaper output and buying a lower quantity of dearer imports. there remains a question of whether there might nevertheless be advantage in a short burst of competitive advantage - as might be delivered by an engineered depreciation before the inflationary feedback negated the competitive gains - not just as a means of boosting the economy in the short term but also hopefully as a means of building a better foundation for longer - term growth. experience suggests, however, that this sort of procedure is a bit like a drug to which the patient too readily becomes addicted. if people come to expect continuing doses of devaluation, then inflation and inflationary expectations may harden and, perhaps more significantly, businesses are spared the discipline of searching for greater efficiency or the incentive to move up - market. the dosage of the drug may be increased as dependency rises, but eventually a fairly severe anti - dote of austerity may need to be administered to break the growing addiction. it may reasonably be argued, however, that, even if the underlying path of the real exchange rate is determined essentially by structural forces within the economy, monetary policy should be utilised so in fact it is necessary to take into account all one's trading partners and thus arrive at the real trade - weighted or " effective " exchange rate - the reer. for ease of exposition, however, only the

arrangement should be permanent, or in what circumstances a change would be contemplated. i said then simply that the peg was for the time being the most appropriate monetary anchor for hong kong. i would give very much the same answer today. our peg is not a fixed rate that is supported by or dependent on discretionary intervention. it is a rulebased currency board system which imposes a particular discipline of adjustment through interest rate channels and domestic prices. it enjoys widespread support from international observers both in official circles and more widely. this is not just people being nice to us and choosing not to say anything which might rock the boat, although there may be one or two of them. rather it reflects an appreciation of the unique features of a currency board structure and the benefits which it has brought over 18 years, as well as an appreciation of the distinctive characteristics of the hong kong economy. the main distinctive characteristics to which i allude are the following : the flexibility in costs and prices, as discussed earlier ; the extreme openness of the economy in terms of both trade and capital flows ; the constitutional commitment, through the basic law, to support the free movement of capital and not to operate exchange controls ; and the soundness of the banking sector. taken together, these factors help explain why a peg may be feasible and sensible for hong kong while it might not be so for others. this does not mean that hong kong would be incapable of operating or continuing to prosper under an alternative regime. indeed, we possess the necessary infrastructure to conduct discretionary monetary policy ( although that was not the case back in 1983 ), and i am confident that my colleagues would be quite capable of meeting the challenge of any new, more activist regime. however, although there may be moments when one thinks " if only we had a floating rate, things wouldn't be so bad right now ", one cannot chop and change between regimes to suit short - term expedience. we acknowledge that no system is perfect, but i have suggested that much criticism of the peg may be exaggerated, or even unfounded. we would need to be well satisfied that an alternative would be unequivocally superior, before ditching something which has been the cornerstone of internal financial stability and external confidence for over 18 years.