As Conway is lead by Chang to meet the High Lama, he becomes more and more eager to learn the answer to the puzzle he has been trying to work out in his head since arriving at Shangri-La: why were they deliberately brought to the lamasery? As he enters the room of the High Lama, he notices that it is much warmer than the rest of the lamasery, and that it is simply furnished with low tables and chairs. On one of the chairs sits a small, pale, wrinkled figure, motionlessly watching Conway approach. He is a little old man in Chinese dress, and he is obviously emaciated. Yet, he speaks to Conway in flawless English and his voice is soft and soothing.
The two men talk aimlessly while enjoying the tea ceremony. Conway admits to the High Lama that he had lived for some years in China, a fact he had withheld from Chang. They both take great pleasure in the tea even though Conway is so eager to find the answers to his questions. He recognizes the Chinese sensibility in himself to follow the correct etiquette and just take pleasure in the company of the other. However, the High Lama is soon enough ready to begin his story.
He begins by reminding Conway of the Tibetan history that he had been studying in the lamasery. In 1719, four Capuchin friars set out from Pekin to search for any remnants of the Nestorian Christianity first established in Tibet in the Middle Ages. Three died along the way, and the fourth was near death when he stumbled across the pass into the Valley of Blue Moon. He found the people of the valley living prosperously there, and they offered the same hospitality that Conway and his friends enjoy.
The man, named Perrault, was brought back to life and decided to establish a Christian monastery on the spot of an ancient Buddhist lamasery. He had the people of the valley restore the old buildings and offered them a religion different than Buddhism. He was not bigoted, so he had no desire to replace their religion; rather, he just offered them a choice. He also willingly worked alongside them in re-building and adding onto the lamasery. However, after awhile, his desires changed as he fell under the spell of the valley, and he even eventually stopped sending messages to the Bishop of Pekin to avoid placing any of the people in any hazard. He began to study Buddhism himself at the age of 98 and wanted to spend the rest of his life writing a book which argued against the precepts of this religion from the standpoint of Christianity.
In 1789, the word came down into the valley that Perrault was dying. He gathered his friends around him to bid them good-bye, and they then left him alone to face his fate. But he did not die. For many weeks, he lay without moving or speaking, and then he slowly began to recover. He was by this time 108 years old. From his experience with death, he came away with a new vision for his life, and he plunged into rigorous self-discipline. When the last of the old monks died in 1794, he was still living. However, he also became a hermit and veiled in mystery. A rich and fantastic folklore grew up around him that he could do all kinds of impossible things, but most was untrue except for an acquired skill in telepathy. He began to feel that that there was no reason why he shouldn't look toward the future, and so he began to live the kind of life he had always wanted to live. He seemed to be able to learn everything with far greater ease as well.
In 1804, a second stranger arrived at the Valley of Blue Moon, an Austrian named Henschell. When he saw the gold deposits in the valley, he had the idea immediately to enrich himself and return home, but the peacefulness of the valley and the utter freedom from worldly cares made him delay his departure again and again. He finally decided to climb up the mountain to the lamasery and discover for himself the truth about Perrault. The two men immediately became fast friends, and Perrault shared with the younger man the wild dream that had become the only reality he had left in the world (a piece of information the High Lama doesn't reveal to Conway right away).
Henschall took it upon himself to devise the system by which the lamasery
could ever after obtain anything they needed from the outside world. He
brought in treasures of all kinds and thousands of books. The porters
who brought them were never allowed into the valley, and the pass that
led to their existence was always guarded. He then came to the conclusion
that they weren't in any danger from outside armies because of the difficulty
of crossing the pass, but he did come up with an important rule to keep
them safe: any new arrivals would be welcome, but they would not be allowed
to leave to give away their position on the map. As a result, many people
over the next century from many different backgrounds stumbled into the
valley and stayed. Henschell helped Perrault develop his idea that led
to the kind of place the lamasery was to that day. Unfortunately, Henschell
was killed when he was shot by an Englishman in a quarrel over some porters.
The High Lama then shows Conway a sketch of Henschell which shows a young
man, but Henschell would have been over 100 when the sketch was drawn.
From all this, Conway learns not only the rule about coming to the valley
- that you could not then leave - but also the truth about the High Lama.
He is Perrault!
What the reader learns alongside Conway is some very important information about the Valley of Blue Moon: it has always been a hidden place where the people in the valley are prosperous and happy; the present lamasery and its rules are the result of the work of Father Perrault and Henschell who had worked to keep them safe but comfortable; people are allowed, even encouraged, to come into the valley, but they are not allowed to leave to keep them from revealing the valley to the world; and those who live at the lamasery are very old, including Perrault who came to the valley in 1719 and is still there in 1930, making him well over 200 years old. These facts reinforce the idea of the name Shangri-La when it's invoked to this day: it represents mystery and paradise.