LegCo Paper No. CB(1) 218/96-97
(These notes have been seen by
the Administration)
Ref : CB1/BC/44/95

Bills Committee on Banking (Amendment) Bill 1996

Minutes of Meeting held on Tuesday, 24 September 1996 at 8:30 am in Conference Room B of the Legislative Council Building

Members present :
    Dr Hon HUANG Chen-ya, MBE (Chairman)
    Hon Ronald ARCULLI, OBE, JP
    Hon Ambrose LAU Hon-chuen, JP
    Hon SIN Chung-kai
Members absent :
    Dr Hon David K P LI, OBE, LLD (Cantab), JP
    Hon Paul CHENG Ming-fun
    Dr Hon LAW Cheung-kwok
    Hon Mrs Elizabeth WONG, CBE, ISO, JP
Member attending:
    Hon NGAN Kam-chuen
Public officers attending :
    Mr Albert K C LAM
    Principal Assistant Secretary for Financial Services
    (Banking & Monetary)
Attendance by invitation :
    Mr David CARSE
    Deputy Chief Executive (Banking),
    Hong Kong Monetary Authority
    Mr Eddie YUE
    Ag. Executive Director (Banking Policy),
    Hong Kong Monetary Authority
Clerk in attendance :
    Mrs Constance LI
    Chief Assistant Secretary (Finance Committee)
Staff in attendance :
    Ms Kitty CHENG
    Assistant Legal Adviser 2
    Mr Matthew LOO
    Senior Assistant Secretary (1)7

Confirmation of minutes of previous meeting

The minutes of the meeting of 18 July 1996 was confirmed subject to the amendment contained in LegCo Paper No. CB(1) 2075/95-96 circulated vide LegCo Paper No. CB(1) 2089/95-96.

Internal discussion

2. Mr SIN Chung-kai declared an interest as an employee of the Hong Kong Bank which was involved in the development of the Mondex scheme.

3. The meeting agreed that the Bills Committee would attend a briefing cum demonstration on the operation of the Mondex system to be held on 1 October 1996 at 9:00 a.m. in the Hong Kong Bank Head Office.

4.Members considered that apart from the Mondex scheme, the Visa International should also be invited to give a briefing to the committee on the operation of its system. In addition, the Consumer Council which had indicated its intention to submit comments on the bill should also be invited to present its views to the committee. The LegCo Secretariat would make the necessary arrangements.VISA International/
Consumer Council

Meeting with the Administration

5. Members noted that the Administration had provided further information papers which had been circulated to members before the meeting. A copy of the London Code of Conduct for principals and broking firms in the wholesale markets prepared by the Bank of England was also tabled at the meeting and circulated to non-attending members after the meeting vide LegCo Paper No. CB(1) 2111/95-96.

Underlying principles of the proposed regulation

6.At the invitation of the Chairman, Mr CARSE briefed members on the proposed framework for the authorization and exemption criteria of stored value cards (SVC). Mr CARSE advised that the basic consideration was to put in place a simple and flexible legislation to cater for the different possibilities in respect of the issue of multi-purpose cards (MPC). The discussion paper prepared by Hong Kong Monetary Authority (HKMA) (LegCo Paper No. 2089/95-96(01)) outlined the basis of discretion to be exercised by HKMA in the authorization or exemption of a SVC scheme. The underlying principle is that the Banking Ordinance deals with the stability of the payment system and the financial system as a whole, and the Administration has to strike a balance between maintaining stability of the payment system and providing flexibility for product innovation and consumer convenience. The main concern of the proposed legislation is with MPC because of their analogy to cash and deposits. As regards the consumer protection issues of single-purpose cards, the Administration considers it more appropriate to address these concerns outside the Banking Ordinance.

Issue of MPC by banks

7.Mr CARSE explained that based on the analogy that MPC was akin to cash and deposits, only licensed banks would be able to issue general purpose MPCs which were unrestricted in terms of the services and goods that they might purchase. As such, the proposed legislation in the Banking (Amendment) Bill 1996 had provided that banks would be deemed to be approved to issue MPC. This acknowledged that banks were already approved to carry on ‘banking business’ including the payment and collection of cheques. While no limit was set on the value to be stored on a MPC, the HKMA would likely require the issuers to report the number of cards issued and the aggregate value, in addition to other requirements such as chip security, risk management and float management. HKMA would discuss the detailed arrangements with the prospective issuers.

8. Mr Ronald ARCULLI commented that as overdraft facilities could be used for the purpose of issuing electronic money, this might have the effect of increasing the amount of money in circulation thus creating additional purchasing power. In response, Mr CARSE advised that the creation of potential spending power had existed for a long time, and since the overdraft facility was not regarded as money until it was used for payment, it was not reflected in the money supply statistics. He considered that the effects of electronic money on money supply was more a theoretical question for the economist to sort out and should not have any direct implication on the bill.

Issue of MPC by non-banks

9.On the issue of MPC by non-banks, Mr CARSE advised that there would be two main types of entity to apply for authorization, namely the service providers such as transport and telecom companies, and the originators of electronic value such as Mondex (which would perform functions similar to issuers of banknotes). For the first category, the key issue to be addressed was the range of usage of the MPC. While such cards would generally have a ‘core’ use (e.g. payment for transport services), the issuer would wish to add other uses to increase the attraction and convenience of the card to holders. HKMA considered that such ancillary or incidental uses should be allowed in the interest of efficiency and innovation, but in such a way to avoid undue encroachment on the payment system which was currently confined to the licensed banks under the Banking Ordinance. To ensure consistency, MPCs to be issued by non-bank issuers through special purpose vehicles should be limited in terms of the range of uses, and such cards should have a core use related to the business of the owner of the vehicle which issued the card. Subject to HKMA’s approval, ancillary or incidental uses could be allowed if some kind of relationship or synergy could be established between the core use and the ancillary uses, and the latter should not exceed the core use in terms of the aggregate amount of transaction.

Exemption criteria for the issue of MPC

10. Mr CARSE further advised that the proposed legislation also provided for HKMA to declare, by gazette notice, a stored-value card or a class of such cards, not to be stored value cards, hence exempted for the purpose of the Banking Ordinance. Declarations of exemptions would be subsidiary legislation subject to negative vetting procedures of the Legislative Council. In granting exemption to such issuers, the HKMA would require the companies to demonstrate the soundness of the card scheme and the financial soundness of the company at the time of exemption. Moreover, the ancillary or incidental uses of the card should be more limited and directly related to the core use of the card. To limit the risk to card-holders, the maximum amount of value that could be stored on a card should not normally exceed a figure to be specified from time to time (initially set at HK$1,000). The amount was in line with the limit of US$100 in the United States for exemption of stored value cards from regulation. HKMA would also require issuers of exempt cards to provide statistical information on the number of cards issued, the aggregate amount of stored value, the number of transactions, etc. to supplement the money supply statistics and to enable conditions relating to maximum stored value and usage of exempt cards to be policed.

11.Mr CARSE also advised that once exemption was granted, the issuers of the exempt cards would not be subject to the on-going supervision (in particular of their financial conditions) of HKMA as in the case of those SPVs authorized under the Ordinance.

12.Mr Ronald ARCULLI suggested that a simpler system would be to grant exemption to cards below a certain value. In reply, Mr CARSE advised that it could be dangerous to introduce an automatic exemption system solely based on the value of the card, as the risk of bankruptcy existed irrespective of the amount of the value of the card. To introduce an arbitrary ceiling might also stifle development of the MPC as issuers would tend to develop their schemes within the exemption category. He therefore considered it more appropriate to grant exemption according to the principles given in paragraph 10. He added that the exemption conditions could be adjusted to take into account the market development.

Issue of single-purpose cards

13.Mr CARSE advised that single-purpose cards (SPC) would be defined in the legislation as those where the card could be used only to purchase goods and services provided by the issuer. As the bill would only apply to MPC, SPC would be outside the scope of the Banking Ordinance. At the margin, there could be a fine dividing line between the SPC and MPC, for example, a SPC issued by a supermarket chain could be used to purchase a wide range of goods and services. To address that concern, the Administration had at the initial stage of discussion with the committee proposed a Committee Stage Amendment to limit the amount of SPC to not more than $1,000. The purpose was to bring those SPC above the value of $1,000 within the category of MPC, hence subject to the regulatory regime. In effect, the issuer would then either have to be authorized or given a specific exemption by the HKMA. However, the Administration had a second thought on the rationale and desirability of this amendment based on the following considerations:-

  1. SPC was similar to pre-payment for goods and services, and had little to do with the traditional banking supervision concern of protecting the stability of the banking and payment system. MPCs were considered to be more related to this function because they could be used to pay for goods and services provided by third parties, and were therefore akin to banknotes.
  2. There were already many examples of advance payment (e.g. video shops), and the use of smart card was simply a change in the medium of payment rather than the basic concept.
  3. The granting of an exemption to a SPC on the basis of its value could give rise to a moral hazard since card-holders might assume the exempt card had an official seal of approval.

The HKMA concluded therefore that SPC should not be brought within the Banking Ordinance and proposed to address the consumer protection concerns of SPC in the context of advance payments in general. As consumer protection issues were under the jurisdiction of the Trade and Industry Branch, Dr HUANG Chen-ya advised that the Administration should provide an information paper to address this concern.Admin

The Mondex Scheme

14.The committee noted that for the Mondex scheme, a two-tier system was being proposed in that there would be an originator of the Mondex value which could be purchased by banks participating in the scheme. Dr HUANG Chen-ya asked whether it would be possible to have a simpler arrangement so that the originator and the issuer of Mondex value could become one entity for the purpose of regulation, as in the case of issuing of banknotes. In response, Mr CARSE advised that the two-tier system was a result of market initiative and the proposed legislation was to bring both the originator and the issuers within the regulatory regime. Mr CARSE advised that for the local Mondex scheme, the originator of the Mondex value would initially be assumed by the Hong Kong Bank but would subsequently be taken up by a special purpose vehicle to be established for the purpose. Unless the proposed legislation was put in place, the special purpose vehicle would not be subject to the Banking Ordinance and the HKMA could not impose conditions on its management such as risk management. It would be undesirable to rely on in the long-term HKMA’s influence over banks for indirect control over the management of such schemes.

Security of electronic money

15.As regards the BIS report (LegCo Paper No. CB(1) 2089/95-96(03)) on the security of the electronic money schemes, Mr CARSE said that the report noted that many sophisticated security measures had been developed to guard against forgery or fraudulent uses of cards. It concluded that it was important to have an integrated risk management approach to security, including an independent security assessment. This coincided with the intention of HKMA to require the issuer of the MPC card schemes to commission a consultancy report in respect of the security of their MPC schemes.

Proposed regulatory framework for money brokers

(LegCo Paper No. CB(1) 2089/95-96(02))

16.Mr CARSE briefed members on the circumstances leading to the proposed legislation. Since 1991, the Hong Kong Association of Banks (HKAB) had been pressing the Administration to introduce a legal framework to regulate money brokers by HKMA. The Administration was then of the view that the industry should more appropriately be self-regulated. Subsequently, the Foreign Exchange and Money Market Practices Committee was set up in 1992, comprising representatives from the Hong Kong Foreign Exchange and Deposits Brokers Association (HKFEDBA) and HKAB, to enhance the orderly development of the local foreign exchange and money market. A Code of Conduct was issued to money brokers, but since it did not have any statutory backing, these self-regulatory associations could be exposed to legal liabilities if they publicly reprimanded a broker for misconduct. Moreover, these organisations had only limited powers to investigate alleged misconduct, making it difficult for them to take disciplinary measures against malpractice. Given the small number of money brokers, it was also difficult to find an independent and qualified person to arbitrate on disputes or hear complaints of malpractice. In the light of the above, the HKFEDBA and HKAB requested HKMA to assume the authority to regulate money brokers. Mr CARSE emphasized that HKMA had not sought to expand its regulatory net, but had acceded to an industry request which was conducive to maintaining Hong Kong’s status as an international financial centre. A copy of the correspondence between the Administration and HKFEDBA and HKAB had been provided to the committee for information.

17.Mr SIN Chung-kai remarked that while he would not disagree with the proposed regulation, he would like to have more information on the nature and seriousness of the complaints of abuses or malpractices. In reply, Mr CARSE advised that it would not be appropriate to mention specific cases as this might prejudice the persons or companies concerned. However, he advised that there were concerns about churning, i.e. creating unnecessary transactions for the purpose of giving commission to the broker, through possible collusion between the dealer and the broker. There were also situations giving rise to conflict of interest whereby the broker firm also owned a foreign exchange company, or assumed the role of a principal rather than an agent. Other concerns included excessive entertainment by brokers to acquire business, unauthorized disclosure of the principal’s information to a third party, mistakes (inadvertent or deliberate) in quotations and transactions, and unfair or improper practices by brokers to get business.

18.Dr HUANG Chen-ya commented that the Legislative Council Brief prepared by the Administration gave the impression that money brokers only played a passive role in the transactions, but a different picture was given in the Administration’s subsequent papers that problems could arise in the brokers’ handling and execution of orders. In response, Mr CARSE refuted any suggestion that the committee had been misled. He said that money brokers mainly acted as name-passers in most transactions, and it was only in the Eurobond Market that they might technically need to take positions. Such transactions were however all made on a matched principal basis, hence the risk to the broker was very minimal. Brokers therefore did not pose significant systemic risks. However, this did not mean that the industry was free of malpractices, such as those described above. As the industry Association felt unable to enforce disciplinary action against such malpractices, they had therefore proposed the HKMA to assume the regulatory role.

19. The meeting agreed that representatives of the industry Association (the HKFEDBA) should be invited to present their views to the committee.HKFEDBA

Date of next meeting

20.Three further meetings were scheduled for 15 and 22 October and 1 November at 8:30 a.m. in Conference Room B of the Legislative Council Building.

LegCo Secretariat

29 October 1996

Last Updated on 15 December 1998