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Following is the transcript of the Chief Executive, Mr Tung Chee Hwa's meeting with the Associated Press Board of Directors at Central Government Offices this afternoon (Thursday):

Mr Tung: Mr Newhouse, Mr Boccardi, ladies and gentlemen. First of all let me extend to you a very warm welcome to our city. You have come at a very interesting time when there is so much going on here in Hong Kong, in Asia and around the world.

I thought, probably, the best way and the most efficient way for me to do, is to spend ten minutes or so just explaining to you what is happening here in Hong Kong and then twenty minutes or so to field any questions you might have. Would that be all right.

Mr Boccardi: That would be fair.

Mr Tung: So, if you will excuse me, I will just monologue a little bit. July 1, 1997, China resumed sovereignty over Hong Kong after 156 years. It is a very proud moment in Chinese people's history that this happened.

The concern all around the world, and many of us in Hong Kong, is how well "one country, two systems", can move from a concept into a reality. There were, indeed, a lot of sceptics around. But I am very happy to tell you that over the past fourteen months we see for ourselves how well "one country, two systems" is really working. It is being practised every day. And the Central Government in Beijing is very determined to make sure "one country, two systems" does work and that a high degree of autonomy is here in Hong Kong. And we in Hong Kong, also want to make sure that "one country, two systems" works because it is vital to the future success of Hong Kong.

"One country, two systems", is not something that was invented in Hong Kong or in London. It was a concept developed by Beijing. It was a practical way to achieve a problem which was left there by history.

At the end of the day, the success of "one country, two systems" is in the national interests of the entire country, for China as a whole. So the pursuit of "one country, two systems" with so much determination is something which, if one understands the national interest aspect, would know how important it is for this to succeed. So, some of us never doubted it would work, and it is now working very well. Every day we are taking decisions in Hong Kong, other than foreign affairs and defence. We do things here. The buck stops at my table and this is it.

Where we were concerned, many were concerned around the world, about the successful implementation of "one country, two systems" was actually, as it happens so often in life, not a concern at all. Every day we are dealing with the impact of the Asian financial crisis, what it has done to Hong Kong. And I can tell you, Hong Kong is certainly feeling the very severe impact of the financial turmoil all around us.

We have a situation where we have had two quarters of negative growth. We have stated recently that we believe for the whole year, our GDP growth will be minus four per cent. Next year does not look very good either. And for a territory who is accustomed and so used to, year after year, steady growth, additional wealth created, this is something which just is very difficult to accept. But unfortunately, this is a reality.

Unemployment at July 1, 1997, was hovering around two-odd per cent - I don't quite remember what it is. Now it has more than doubled, it is 4.8 per cent. We expect this figure to continue to rise. What the Asian financial turmoil has done is that - I don't know whether some of you noticed that the Bank of International Settlement had come out with some figures which showed in 1996, even as late as 1996, over US$100 billion of foreign funds came into Asia, excluding China and Japan, just the rest of Asia. And in 1997, the same US$100 billion, plus a bit more, actually left Asia. So, many countries which were the recipients of this money, gladly, year after year, '96, '95, '94, to fuel their economic growth, did not realise that the money, at the press of a button, could leave just like that. This has created a credit crunch in this part of the region which was never known before.

And Hong Kong was also not spared of this because Japanese banks, which traditionally have been very active in the Hong Kong market, had to repatriate to Japan because of Japan's own domestic problems, which we are all aware of. Some of the European banks, which have been very active here, have felt the brunt of the Asian problems, so they have been withdrawing slowly from Hong Kong.

So the Asian financial turmoil which began on July 2, 1997 with the float of the Baht in Thailand, and few people thought very seriously about it because we all thought it was confined to Thailand, has today created a situation in Hong Kong where our liquidity is very tight. Our property market has adjusted for ordinary people about 50 to 55 per cent - it has come down 50 to 55 per cent in about seven months; commercial premises have come down may be in similar amounts. It is a tremendous adjustment process which is now taking place. Unemployment, unfortunately, is going up. Salaries, certainly look like to begin to adjust. It is, in fact, already beginning to adjust. So, we are going through a very painful period of adjustment.

Now, it is always very easy, ladies and gentlemen, to blame everything that is happening in Hong Kong on the financial crisis around us. But that is really not quite fair. I mean it has a major impact on us but the truth of the matter is that for many years we have had a very uneven supply of land. Our inflation for many years was close to double digits. Interest rates, because of the currency board system we have, we have followed US interest rates, so our interest rates were very, very low, so we had negative interest rates for many, many years. And all that had created, what we call in Asia, a bubble economy, where the property prices become unrealistically high, where our salaries become very, very high, where we become basically uncompetitive. And so this situation would have needed to be corrected anyway. But what happened is that the Asian financial turmoil actually accelerated the whole process, accelerated it in two ways. First, made it happen - triggered this correction. And secondly, in our view, it is making the correction very sharp, very painful, but hopefully, shorter than it should be.

So, I would say that we cannot blame everything on the turmoil itself. We have our own weaknesses which need to be corrected. These are being corrected. I do not want to give you the impression it is all doom here in Hong Kong. It is not that kind of a way at all, because we do have a very good banking system. If you look at Asia, many of the problems happening in Asia is because their banking is not very healthy. In Hong Kong, the capital adequacy ratio of our banks, of our local banks here, are twice the international requirement of eight per cent. We are all around 16 per cent or so. It is being vigorously supervised by the Monetary Authority of Hong Kong. We try very hard to maintain transparency. We have a tremendous legal framework of common law. The rule of law is a very important part of Hong Kong's success, which we will continue to maintain, and this is part of the one country, two systems, where our two systems - our common law system is being very strong maintained. So all businesses, local or foreign - every person in Hong Kong is treated the same way. They are all equal before the law and the law is very clear, the common law system we have. So these are all very strong fundamentals we have.

And then on top of that, we also have tremendous finance, because one of the things is that years of very conservative financing has left us in a very, very strong financial position; a huge foreign exchange reserve, a huge fiscal reserve without debt. So it is a tremendously strong position.

And then if you look at the corporate world of Hong Kong, the corporate world of Hong Kong, unlike many of the other Asian nations, we are very low-leveraged. Our business people are very conservative here. If you look at their balance sheets you will know their leverage is low. They have plenty of strength to fight the adversity. So we have all these fundamentals here. We are going through an adjustment period which is very painful, but when it is over, we are ready to take off again.

What are we doing about? We are continuing tremendous investment in education, in infrastructure projects, because we recognise that for Hong Kong to survive into the 21st century, the key is really the quality of our people. So our investment in tertiary education, primary education, secondary education - as soon as I came on board I said: This is my priority; nothing else is more important than education. And we will pour money into education to make sure this will continue.

We are investing in information technology like there's nothing else, because we recognise that in a knowledge-based industry, this is a very important part. We aim to take the lead in this, and I think we are leading, almost, in Asia, in information technology - the management, the technology of it and so on. And I will be very happy to answer any specific questions you might have there.

We are continuing to invest in infrastructure - railways, roads; to create more land because our population is increasing, still, quite rapidly. Other communities around this part of the world will have to scale-back their investments because of their financial difficulties, but in our case we are fortunate enough to be able to have huge reserves for us to continue to spend, spend wisely, spend on the things that will make us more competitive, position us better for the future.

Some of you may want to know why we recently intervened in the stock market, because it is very unlike Hong Kong. First, I want to tell you it was not a decision taken easily, nor was it a decision taken lightly, because it was thought through very, very carefully. We don't want to interfere in the market place. We are not there to support the stock market at any particular level. This is not our business. But what we do not want to see is the market being manipulated so that it is no longer free any more. And the stock market, the futures market were being played along with our foreign currency market, and that is something which we feel is very damaging as a free market economy for us in Hong Kong. So we intervened, we made our point. And people ask me: Would you do it again? And my answer is this, that so long as we see the market distortions need to be corrected - because Hong Kong is a very small market and it is easy to create distortions - and if there are such situations again, where we see clear evidence of the link between foreign exchange dealings and stock and futures dealings, and when we see the market being manipulated, then we will have to intervene. The purpose is to restore the free market. It is not something we would like to do. We hope we don't have to do it. And at the same time, we are trying to tighten the rules and regulations to make sure that all people have a fair play in this market.

You are all very well known persons. One of the appeals I would like to make to you is this, that I think the Asian financial turmoil may be very far away from the American shores, but I really think that if this continues in Asia. We have already seen the impact of this contagion: Russia is affected, South America may be affected - and I don't think, in today's world, any nation can live in isolation and say, well, this probably will not come to us. I really think this is an area where American leadership is very, very important, very, very, much missed, and I am sure that America is doing a whole lot of things and I would really like to see America doing a whole lot more, in terms of exerting leadership in this, really, very difficult time.

We are going into a period where world trade is now liberalised, but it is being overseen by the World Trade Organisation to assure things are being done properly, to make sure that world trade can flow freely, under a set of known regulations. So we all know what the rule of the game is. Capital flow around the world is very free and it is very important that this is free, but there needs to be some new - our American friend, (inaudible), called it new global financial architecture - and there needs to be something which we can all understand. At this moment the flow is so powerful, it is so devastating, and something, in my view, really needs to be done.

What needs to be done is not to curtail the free flow of capital, but to show people we all understand how it works, where it comes from, and there is a large degree of disclosure and transparency.

Finally, I know that you will be interested in the political development here in Hong Kong. We had our election in May for the first legislature. The legislature has already had a sitting in July, and this legislature will last until the year 2000, then we will have another election. Then in the year of 2004 there will be another election. So, progressively all the 60 seats are elected; some are directly elected, others are indirectly elected. But at each election, the directly elected proportion will increase.

In so far as the Chief Executive is concerned, I was chosen by a committee of 400 people representing all sorts of interests of Hong Kong, be it the chamber of commerce; leaders/representatives of labour unions, various religious groups, business interests, teachers, lawyers, what have you, and they voted me as the Chief Executive. The next election process will be 2002 and there will be an 800 person committee, and each time the Chief Executive will serve for a five-year period.

And then our Basic Law, which is our Constitution, which is a piece of document which was enacted into law by the National People's Congress in China, prescribes, among other things, how our political evolution should develop during the first ten years of the Special Administrative Region. It defines very clearly how it should be done. We will move forward in accordance to this particular document which was concluded, after some four years of discussion between people on the mainland and people in Hong Kong, and we will follow this to the latter, how we need to move forward.

And then beyond the year of 2007, ten years from now, or nine years from now, the Basic Law does say, at that time in Hong Kong, we have to look at the situation and we can move forward based on what we think is the right way to move forward.

Now, our system is not really that well developed yet because I am sure you will understand that the way it is now organised is that, for instance as a government, for some unfortunate reason, we don't have representation in the legislature. So, for instance, if you have now a democratic party president, he may not have the majority in the house or the senate, but he has representatives there. But in my case, I don't, because unfortunately, the Constitution is not developed this way. So there are 60 members, none of them are in any way affiliated with the government or with me. And these are some of the problems we are encountering - the relationship between the legislature and the executive branch - and none of these are very easy to solve. And these are the things we have to work through, we have to feel our way through, because the important thing to remember is that we have just begun this exercise of autonomy on July 1, 1997. So we need to work through all this, to mature under this, and we have ten years' time to get ourselves ready as to how we want to move forward in the future.

I think I have spoken longer than I should. I will be happy to answer any questions you might have.

Mr Boccardi: Mr Chief Executive, I would like to begin, sir, by thanking you for seeing us, and also, if I may, thank you for permitting us to include our spouses in this meeting. As spouses of people in the news business, they are as close to developments in the news as we are and it is very kind of you to let them join us.

We have just come from ten days on the mainland where it might be said, as well, that we visited in an interesting time. And there are so many questions about the financial affairs of Hong Kong, and also political. But I would like to ask you a more general one and perhaps more personal.

Are you surprised to find, a year into your term, that so much more of the focus is economic and relatively less political, or did you think this might happen?

Mr Tung: To tell you very honestly, I did not expect this at all. I knew that we had a bubble economy which needed to be corrected. In fact in my policy speech I dealt with it a great deal as to how we must try to reorganise our housing and land policy to bring about more affordable housing to our people. We spent a great deal of time talking about the need for better education, the importance of looking after the elder people. But one thing we did not expect - and I made a speech in October last year, already three months after Thailand first floated the Baht - and I must say this was totally unexpected from(by) me.

But what I would tell you is this, that I come from a business background and one of the things that we are trained in is that when the danger does arrive, we tend to react very, very quickly to these situations. No, I did not expect this. I wish we had done better.

Mr Boccardi: You are implying, though you did not exactly say so, that even if the administration had not changed, that the economic problems that confront Hong Kong would be substantially the same. Is that accurate, is that how you feel?

Mr Tung: Let me put it this way. Our cost was very, very high. I mean if you have an office here in¡@Hong Kong, you know how expensive Hong Kong has become. So I had known that the correction would have to come. But what the Asian financial turmoil has done is it accelerated that process. Not only has it accelerated it, the credit crunch that accompanied the Asian financial turmoil has made the correction so fast, so steep at some point. Even though our banking system continued to be very good, we were concerned that if the very steep fall of our property prices would continue, how would that impact our banking system. So these were the things that were brought about by the financial turmoil. In other words, we were concerned that we would not be able to manage our own soft-landing because of what is happening around us.

Mr Boccardi: And it would have been pretty much the same situation if Hong Kong had not reverted to Chinese rule?

Mr Tung: I would think so, because my financial team is exactly the same team as before.

Mr Boccardi: How much of the old team is there?

Mr Tung: They are all there. I am the only new guy.

Mr Boccardi: Somehow I doubt that would apply to your political advisers. You said, in reference to the intervention in the market, very clearly, that your purpose was to protect the market and to restore its threatened freedom. But you did not say whether you thought you had been successful.

Mr Tung: I would think we have achieved our initial objective. But we have to recognise that, firstly, the adjustment which we are going through is not going to be a temporary adjustment. Secondly, that the financial turmoil is continuing around us. Thirdly, there will be these hedge funds which will continue to make inroads into our market places. We have to recognise all these things will continue to happen. And as I said before, that we will have to do the best we can and continue to be very watchful. We will tighten our regulations as it is necessary, and we will see how it goes.

Mr Boccardi: And you would do it again if you had to?

Mr Tung: I would think so if there is a need. If we see there is a need to do it, we would have to do it. But always the purpose is to protect the integrity of our currency board system, the purpose is to make sure there is not a total distortion in our stock market.

Mr Boccardi: Let me ask you one more question based on what you said, before some of our directors raise questions. Is there anything specific that you would like to see the United States do? You spoke about a need for stronger United States leadership in the area of international finance. Is there something that you said here thinking that you wish they would do that they don't do?

Mr Tung: Well, Mr Rubin is meeting Mr Miyazawa, I think, on Friday, in San Francisco. And we are all holding our breath because a recovery in Japan, a credible plan from Japan, is really very important to this part of the world. Obviously, we are delighted recently that the Japanese yen had started to get a bit stronger, and that is helpful, and that it is really important for Japan to move. When Mr Clinton was here, I impressed upon him how important it is for America to persuade Japan, because America has really the ability to do so.

And the other is that many of us all have criticisms about what IMF has done, IMF has not done, but really, on the whole, I think they are doing a very important job and they really deserve the support all around the world, and I hope the Congress and Senate will continue to support the IMF as they really should.

Mr Hladky (Iowa): Sir, you have given us a very complete briefing on economics, on banking, on politics, infrastructure. One area you did not mention is personal freedom. Hong Kong has a reputation for being unique and with traditions much different from mainland China. Before a year ago, when the country became one, there was strong concern that people would lose their individualism or their personal freedoms here in Hong Kong. I would be very interested in your thoughts on that.

Mr Tung: Well, I think if you walk around town and talk to anybody, you will find out that freedom of any kind has not been affected one way or the other, in any way or form, because, as I said earlier on, that the success of "one country, two systems" is very important to Hong Kong, to the People's Republic of China, and one of it is the preservation of our lifestyle. So this is a very important part of success in Hong Kong and we will continue to preserve that.

Hardly a day goes by without eight or 10 cartoons or news articles making a joke of me in the newspapers. This is part of Hong Kong and this is also the strength of Hong Kong, and people will judge for themselves how well we are and what we are doing. And we are very proud of what we are doing. I don't have the statistics with me but the number of demonstrations every day on the streets has not decreased. I think it has increased. None of them or very few of them are political issues, they are really livelihood issues: unemployment, unhappiness about unemployment; some are unhappy because the stock market or the property market has fallen too much, etc. I mean we continue to have the freedom.

Mr Boccardi: Does anybody in Beijing ask you why you let them say things like that about you?

Mr Tung: Not at all. I think what we have to understand is that there are different cultures. We have our own culture in China and that China is also at the stage of economic development which is very different from Hong Kong or from the United States of America.

I, myself, lived in the United States of America all through the 60's and I understand what happened in the United States of America in the 60's. And the important thing for us is not to judge other people by our own standard of today, because we all need to move forward - giving our own set of history, background, culture and priorities because we are all very different. And because of the fact that I have lived in America long, I see both sides of the issues. My point is always that each community, each society, must find their own way forward - what is in the best interest of that particular community - and we should not apply our own standard of today to judge other people, because every one of us has gone through this sort of thing, this sort of process.

Mr Ridder (Knight Ridder Newspapers): There are at least three important factors in the unemployment problem here, as I see it. One, you have moved manufacturing jobs to the mainland. You have got the problem of soft Asian economies, which you can't do anything about. But the one thing you can do something about is the peg - pegging your dollar to the American dollar, which is causing your dollar to be artificially high, which is making it more difficult to sell your goods in other countries. Are you seriously thinking about eliminating the peg so that Hong Kong can be more competitive in the rest of the world?

Mr Tung: This is a very good question but let me answer you this way. We have no plans whatsoever to de-link our currency to the United States dollar. Our link with the United States dollar is very different from, for instance, when the European currencies were all in a band, because our is a truly true link. We have three note-issuing banks here in Hong Kong. Our Hong Kong Monetary Authority does not issue notes. So if you look at the Hong Kong dollar notes you have in your pocket, they are issued by HongKong & Shanghai Bank, Standard Chartered Bank, and the Bank of China. And for every $7.80 of notes they issue, they deposit with the Hong Kong Government US$1, hard. So, today, if all of us in Hong Kong return all the notes to Hong Kong Government - Hong Kong dollars - we will be able to give back US$1 to everybody.

So the question is that you have coverage one-to-one. Well, it is not one-to-one it is more than two-to-one, it is more than three-to-one, it is more than four-to-one, because we have a huge foreign exchange reserve in the order of, until recently, $90-odd billion.

So the point I want to make is that we do have the means.

And secondly, that we are uncompetitive but how would it be better to achieve the competitiveness? And we felt that to adjust the asset prices is in the long term interests of the whole community as a whole. So asset price is being adjusted tremendously downward. I think nowhere you will see - I mean it has taken Japan a long time to adjust their asset prices. It seems, for us, in seven months we have taken a 50 per cent drop. So we felt this was a good way for us to move forward to improve our competitiveness.

And thirdly is that, what if you de-link? The danger is that if you do this, there is a herd instinct. People would want to change their Hong Kong dollars into US dollars, and the interest rate then will shoot up even higher, which does not bring us anything. And our economy is now hugely a service economy, not a manufacturing economy any more. So we felt what is important is to improve our competitiveness by bringing down the asset prices, adjusting the cost that way is a more effective way. So we have the need to keep the link and we have the means to keep the link, and we will keep the link - we are not going to change - it is in our fundamental interests to do so.

Mr Quarles (California): Prior to Hong Kong's return to China's rule, many, many people from here moved, specifically to the United States and to Canada. I was wondering if you had a message for them now that you have been running the government now for over a year?

Mr Tung: Well, they are sending me messages because the truth of the matter is that one of our major problems in Hong Kong is that our population is growing too fast. In 1997, our population grew by 190,000 people which is three per cent of our population. Of these, 54,000 are legal migrants from China, reuniting with the family - fathers, mothers, sons and daughters and so on - which hithertofore, until sometime in the 90's this was accelerated and continuing, 54,000 a year. And then natural birth and death - don't quote me to it - maybe around 50,000 or so. But about 90,000 to 100,000 are actually people who have come to Hong Kong.

Many, many of them are what we call returnees. Those people who left us, they are now coming back to Hong Kong, to work in Hong Kong. They see the opportunities of China's growing economic activities. So that is the message they are sending me and it is very interesting. If you look at the employment statistics, our unemployment is rising, the economy has shrunk, the number of people employed at end of December 1997 was about 3.2 million people, at end of June was about 3.2 million people, too. Our economy is not creating new jobs because it is shrinking. But why is unemployment rising? It is because the population is increasing very fast and this is another problem which we really have to deal with.

Mr Boccardi: Mr Newhouse would like to give you a small token of our visit.

Mr Tung: Thank you very much indeed. Thank you very much indeed for the opportunity of talking to you. I am sorry the time does not seem to be long enough but I hope you have a very happy stay in Hong Kong. And come back to see us again.

End/Thursday, September 3, 1998

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