rate target against which bets can be laid, the pressures that build up can be quite formidable. even when the exchange rate is freely floating, and therefore theoretically free of any precise exchange rate target, when sentiment is one - sided, which is often the case in financial markets, exchange rate overshooting can be quite common. 18. largely against the background of financial crises in the 1990s, in which the choice of exchange rate regime has been a prominent issue, there has been a clear trend in thinking on what constitutes an effective and credible choice. this choice boils down to two options, in what is now commonly referred to as the two corner solutions : either an exchange rate target that is perceived to be impregnable or a regime that does not involve any exchange rate target, as in a free float. neither solution is, admittedly, immune to crisis, particularly in the case of open and liquid markets. and the precondition has to be that any exchange rate regime, if it is to be credible, is built upon sensible economic policies, strong institutions and robust market infrastructures. 19. clearly, no exchange rate regime can be perfect, and no simple regime can suit all. the present trend is towards floating regimes, though these seem to work best for the larger economies, whose foreign exchange markets are big enough to absorb voluminous capital flows, and for the smaller economies where controls and restrictions are practised. for hong kong, we have in our linked exchange rate system the most extreme case of an exchange rate target that is perceived to be impregnable – and has been proved to be impregnable under the most adverse of conditions. the link, in combination with sound fundamentals and well managed banks, has helped us through the recent crisis : not without hardship, it must be acknowledged, but with considerably less damage and uncertainty than we would have experienced had it not been in place. the tight discipline it exerts on our economy is helping to propel improvements in productivity, an important element in our current robust recovery. indeed, the evidence to date suggests that hong kong experienced one of the fastest rebounds in productivity growth in the region. labour productivity, measured in terms of gdp per person employed, registered the strongest gains of 10 % in the post - crisis period, well above other asian economies, whose gains were in the range of 5 to 8 %. because the exchange rate link suits an externally oriented, entrepot economy, it will continue to serve hong

for short - term gains. there is also the temptation, for some, to engage in manipulative behaviour, amplifying volatility and vulnerability to financial instability. 13. i do not want to give the impression that the size of a financial market can substitute for sound macroeconomic policies as a guard against volatile capital flows. indeed, i take it for granted that the authorities in the region are committed to prudent monetary, exchange - rate, and fiscal policies. but i am convinced that expanding the effective size of asian financial markets through greater integration across jurisdictions, can increase the ability of our economies to absorb the volatility of international capital, as effectively as the us and european markets. it is therefore heartening to observe that several official initiatives towards greater financial linkages in the region are bearing fruit, notably the chiang mai and the asian bond fund initiatives. i note that my colleague julia leung will describe the latter in some detail in the afternoon session. 14. having made the economic case for increased financial integration allow me to spend a few moments outlining some practical steps that may be taken to achieve it. first, it is necessary to establish linkages between jurisdictions across the whole spectrum of financial infrastructure – the trading, payment, clearing, settlement and custodian systems for money and for financial instruments. this would facilitate the movement of savings between jurisdictions and make cross - border transactions more efficient. in this age these linkages are neither difficult nor costly to establish as the technology, in the form of electronic messaging platforms of acceptable security, is already available and in international use. 15. the second element concerns the relaxation of non - supervisory restrictions, where they exist, against access by foreign financial intermediaries to the domestic financial markets. the size of financial intermediaries, measured for example in terms of capital, is often a barrier to market access ; but, as we know, size is not necessarily a good indicator of quality. capital adequacy, assessed objectively by reference to risk, provides a better safeguard. greater competition, wherever it comes from, also enhances efficiency, although allowances should be made for the weaker domestic institutions to enable them to cope and find viable long - term solutions, in the interest of financial stability. 16. the third element concerns the harmonisation of standards in the financial system. a degree of harmonisation, at least the adoption of minimum acceptable international standards, is essential for improving investor confidence and enriching the flow of capital within