Hong Kong will play a new role in the nation’s development in the next 15 years, particularly under CEPA, as the city helps to bring the mainland’s financial markets in line with international standards.
Victor Fung, Chairman of Hong Kong-based Li & Fung Group
Yukon Huang, Senior Associate at the Carnegie Endowment for International Peace and a former World Bank country director for China
Guy Stear, Head of Research - Asia Pacific, Societe Generale Corporate & Investment Banking
Q1:Since its handover in 1997, Hong Kong has been governed according to the policy of “One Country, Two Systems”. How do you see this policy affecting Hong Kong’s economy now and into the future? Prior to the handover, did you make a prediction about how the Hong Kong economy would fare after June 30, 1997? If so, how does that prediction compare to what has happened over the past 15 years?
Victor Fung:Hong Kong’s economy has benefitted enormously from its special ties with the mainland, particularly under CEPA (Closer Economic Partnership Arrangement). CEPA, which is equivalent to a free trade agreement between two customs territories under the WTO, has given Hong Kong companies a framework under which to grow into the mainland, and to play an even greater role in linking up mainland sectors with international counterparts.
Since the mainland’s economic opening in 1978, Hong Kong has provided foreign investors a gateway into the mainland; subsequently under CEPA, Hong Kong companies also emerged as significant players in the burgeoning mainland market. As such, they helped accelerate the mainland’s economic progress, while making Hong Kong’s economy stronger and more integrated with the nation’s development under the “One Country, Two systems” principle.
Yukon Huang:After the handover, East Asia was hit by the Asian financial crisis and then by SARS and the dot com bubble. All of these resulted in Hong Kong experiencing many years of stagnation, depressed property prices and employment problems. Many thought that Hong Kong’s future was bleak and that after the handover, it would suffer given the lower operating costs in places like Shenzhen. Shanghai was seen as eventually taking over as the major financial center for China. This bleak assessment was proven wrong, and instead the city has flourished.
The key advantages that Hong Kong has in providing financial and trade services have continued to grow and the operating lower costs on the mainland have not weakened those advantages. Why has this been the case? Two factors account for this. First the regional production sharing network has prospered using the mainland as the base for final assembly. But since most of the high value components come from outside of China, Hong Kong is well placed to manage the distribution network although the production end is based largely in Guangdong and the greater Shanghai region. Second, Hong Kong has retained its role as the dominant regional financial center.
Guy Stear:We did not make a prediction about how the economy would fare in 1997, but Hong Kong has blossomed as a financial center since the handover. The “One Country, Two Systems” idea has allowed Hong Kong to have a very efficient securities business with internationally trusted regulation. So it has been important in reinforcing the confidence of international investors.
Q2:Hong Kong plays the dual role of stand-alone financial hub and intermediary through which foreign investment to the Chinese mainland is channeled. Will this continue to be the case in the coming years? Please explain.
Victor Fung:Hong Kong’s role in the nation’s economy has always changed with the times, and we are already seeing this with regard to the financial services industry. In the past Hong Kong did play the role of channeling foreign investment to the mainland. But the picture is changing and with it, Hong Kong’s role.
Increasingly with the growth of Chinese investment abroad and the internationalization of the yuan, Hong Kong’s role is expanding to facilitate outbound mainland investments. At the same time, Hong Kong is playing a significant role in the channeling of private equity to mainland enterprises, based on Hong Kong’s strong legal and financial governance framework.
It is very hard to predict what will emerge in the coming decades, but I would think that Hong Kong’s companies will continue to adapt to the needs as they emerge, whether in the financial services or other sectors.
Yukon Huang:It (Hong Kong) will maintain this role as long as financial markets and institutions in the mainland are still underdeveloped. China’s exchange rate is still controlled and restrictions on capital movements are tightly regulated. Major financial centers need regulated but free movement of capital and exchange rates. And based on these criteria, Shanghai is unable to compete with Hong Kong in the foreseeable future.
Guy Stear:As China pushes for more trade denominated in yuan, it will also have to open up its domestic capital markets. We’ve seen several changes to this effect in the past two years. So while Hong Kong may remain the premier gateway to the Chinese mainland, it will increasingly compete with on-shore financial centers. In addition, it may compete with Taipei and Singapore in the region as the mainland market becomes more global.
Q3:What challenges do Hong Kong face in maintaining, and perhaps improving, its status as a highly active player in the world’s economy?
Victor Fung:The global economic environment continues to be very challenging, so certainly Hong Kong’s companies must stay very alert, flexible and adaptive. This is even more the case today, as global supply chains undergo change at a very fast pace. Consumption is growing very rapidly in Asia, due to rising levels of income as well as policy measures to boost domestic demand. Hong Kong has been very good at managing the region’s supply chains for export to the OECD economies. We now have to become equally as skilled at supplying demand in Asia. This will be a huge challenge, but also one with ample rewards for those companies that can master the task.
In addition the multilateral trading system continues to encounter a number of threats and challenges, not only from protectionism and other barriers to trade, but also because of the growing number of preferential agreements and bilateral trade agreements. As a small open economy, Hong Kong has benefited enormously from the open, rules-based trading system under the WTO. So the more this system comes under threat, the more we will be concerned. Hong Kong must continue to speak out for an open trading environment, and support continued trade liberalization under the WTO.
Yukon Huang:China is gradually reforming its financial system and trying to internationalize the yuan. Thus someday, the mainland’s financial markets will be more in line with international standards. Does this mean that Hong Kong’s advantages will disappear? The answer is not necessarily. Given its concentration of high value financial and commercial skills, it can continue to play a major role much as New York and London do for the United States and Europe. Because of its years in building the necessary institutions including its legal system, this gives Hong Kong the advantage of being the frontrunner and history has shown that it is hard for others to catch up.
Guy Stear:Hong Kong’s relatively large population, quality of education, and openness to English-speaking foreign professionals have together allowed it to become a global financial center. These advantages persist and should continue to allow the city to play a critical role globally. In this time zone, it faces competition from Singapore, but Asia is a big place and I don’t see this as a winner takes all competition. Indeed this friendly competition probably benefits both cities.