Hong Kong's banking system is robust with no fundamental deficiencies in the regulatory and supervisory framework or processes identified, according to a Monetary Authority review report.

The report, by independent consultant David Carse, finds the Hong Kong banking sector widely respects the authority for its professionalism and effectiveness. Outside commentators view it in the top tier of regulators internationally.

It also recommends a number of measures to provide an even sounder foundation to cope with the challenges ahead.

While the global banking system is now facing a new crisis triggered by the problems in the US sub-prime market, Hong Kong's banking system has so far been relatively unscathed. Nevertheless, the report said the authority must absorb the lessons to be learned from it and this will, to some extent, determine its supervisory agenda over the next few years.

Fundamental issue

It noted a more fundamental issue for the authority will be how to manage the growing integration with the banking system on the Mainland. The report suggested the authority must ensure that both the banks and itself understand the nature of the risks brought by the integration, and that there are adequate means in place to control them. Cooperation with the China Banking Regulatory Commission will be a vital factor in this.

The report said more Mainland banks will want to enter the Hong Kong market. While this will help boost Hong Kong's position as an international financial centre, the trend will need to be carefully managed and supervised.

On the supervisory framework, the report said there is a need to streamline the off-site review process, to rationalise the on-site examination process, and to boost macro-prudential surveillance of the banking system. The issue of high staff turnover in the supervision area must also be dealt with.

The report suggested a key priority, in addition to enhancing the capital adequacy framework, will be to revise the liquidity regime, taking into account the guidancethe Basel Committee will issue shortly.

Two-tier banking system

Regarding the banking system's current three-tier structure, the report said it tries to strike a balance between flexibility of entry into the system and protection of small depositors. However, the system is now more complex than it needs to be to achieve this balance, given the decline in the number of restricted-licence banks and deposit-taking firms.

The report therefore recommended that the three-tier structure be reduced to two tiers: banks and other deposit-takers, with restricted-licence banks and deposit-taking firms combined. The other deposit-takers should be allowed to take call, notice and time deposits of $100,000 or more without restriction on maturity.

Welcoming the report, the authority's Chief Executive Joseph Yam said the findings and recommendations will be studied carefully in consultation with relevant parties to see how they can be applied to boost the authority's work in maintaining banking stability.

To view the full report, click here. A public consultation on the report will end on October 31. People can air their comments by emailing banking_review@hkma.gov.hk or writing to 55/F, Two ifc, 8 Finance Street, Central.

Taking into account the views received, the authority will formulate a detailed policy response on how it can best carry out its functions in promoting the general stability and effective working of the banking system.