Hong Kong’s Economy
More than anything, it was Hong Kong’s economic success that turned a desperate refugee population into a stable and civilized society.1 Although the government provided the necessary policy infrastructure, it was companies and workers that stimulated the transformative economic miracle. Sustaining economic growth and competitiveness may not guarantee social stability as it once did, if only because the city has become politicized, but it remains important. The question is how to sustain growth, given the power of globalization, rapid technological change, social change within Hong Kong, and the transformation of the Chinese economy across the border. As in the past, Hong Kong’s future competitiveness will be determined primarily by market forces and the business acumen of private firms. Local firms cannot assume that the products or services they provide today will yield the same degree of profit tomorrow, because other firms will seek to take over the market niche they have dominated. So they will have to innovate in some way or go out of business. Government policy remains secondary but still critical, its aims being to design the policy environment and infrastructure in which Hong Kong firms act, to negotiate with Beijing on new avenues for local growth, and to remove Chinese regulations that are unfriendly to Hong Kong firms. Social and political trends within Hong Kong can both constrain and stimulate competitiveness.
The Hong Kong government is well aware of the need to maintain a competitive economy. Speaking in February 2014, John Tsang, Hong Kong’s finance secretary, offered the government’s view regarding the public concern that Hong Kong was “losing its edge,” and warned, “Our competitors are also striving for excellence, [so] we have to work harder to stay ahead.” But he emphasized that Hong Kong could rely in the future on the factors that had fostered past success: “grasping the opportunities presented by our country’s [that is, China’s] success, … our steadfast commitment to free market principles, and to our firm positioning as a world city.” On the elements of the free market regime, Tsang cited the rule of law, a “level playing field promoting fair competition, an efficient public sector, and a simple and low tax regime.”2 The persistent question, then, is how to turn the aspiration of “grasping opportunities” into reality.
Historical Context
Hong Kong has been an interface between China and the international economy for almost two centuries. It was an entrepôt before World War II and from the 1950s to the 1980s, and when the Chinese economy was closed, it became a production-and-assembly platform for export-oriented companies, both local and international. Once China reopened to the global economy in 1979, Hong Kong companies shifted operations into China (mainly Guangdong Province) and so facilitated the rise of the mainland’s labor-intensive export industries. Yet as the global and Chinese economies have changed, Hong Kong has constantly had to reengineer its interface with both of them to remain competitive.
Hong Kong’s post-1979 relationship with Guangdong illustrates this challenge. Once China adopted its reform and opening up policies, Guangdong’s Pearl River Delta region provided an optimal and cost-effective opportunity for Hong Kong firms facing rising local wage bills. They relocated their assembly and manufacturing operations to the Pearl River Delta while keeping business operations in Hong Kong. Guangdong was “the factory” and Hong Kong was “the shop,” or front office. Before 2003, Guangdong received 30 percent of China’s inbound foreign direct investment, with 90 percent of the province’s foreign direct investment coming from Hong Kong. Hong Kong firms in Guangdong were prominent in “labor-intensive and pollution-heavy” industries such as leather tanning, shoemaking, and textile and garment production. As a result, Hong Kong helped lead an autarchic Chinese economy into the world of globalization. Its companies provided the capital, technology, management skills, and knowledge of markets in advanced economies, knowledge that, when transferred to mainland Chinese enterprises, allowed the Chinese economy to take off. And Hong Kong prospered as a result; it was a symbiotic, mutually beneficial relationship.
Then, in the middle of the 2000s, four things happened that altered this relationship. First, Hong Kong companies faced a changing economic environment in southern China, as labor shortages, rising wages, and new environmental regulations cut into their narrow profit margins.
Second, competition emerged from indigenous Chinese firms that sought to reap the advantages that Hong Kong firms enjoyed.3
Third, Chinese economic policy changed, with policymakers now preferring “clean, high value-added industries that can compete well in global markets” instead of production and assembly operations. “This new orientation … eliminated most of [Hong Kong firms’] cost advantages in Guangdong, while also cancelling advantages in expertise.” Guangdong began to move to an economy based on advanced manufacturing, innovation, services, and consumption.4 The options of Hong Kong firms were to close down, move operations inland or to Southeast Asia, innovate, or shift into different sectors. According to a Federation of Hong Kong Industries report, the number of Hong Kong–financed factories in Guangdong declined by 40 percent from 2008 to 2013.5
Fourth, and most significant politically, there was a change in the direction of the flow of economic influence between Hong Kong and China. Instead of China’s gaining economic benefits from Hong Kong, China began to provide benefits to Hong Kong. It was Beijing that helped lift Hong Kong out of its economic doldrums after the Asian financial crisis in the late 1990s, in three ways: permitting PRC citizens to go to Hong Kong as tourists, liberalizing trade with the territory in 2003 through the Mainland and Hong Kong Closer Economic Partnership Arrangement, and giving Hong Kong financial institutions the first crack at facilitating the internationalization of China’s currency, the renminbi (RMB). Instead of Hong Kong’s serving as the primary gateway to China, it has become one of China’s gateways to the global economy. There was some fear in the Hong Kong SAR that Shanghai might regain its prewar position as the premier economic gateway into China and relegate Hong Kong to a secondary position.6
Can Hong Kong—the government, companies, employees, and consumers—engineer a new interface between it and China and the international economy? Can it retain the hybrid economic position that has served it well for almost two centuries? Or is it destined to become, as the saying goes, “just another Chinese city”? This chapter explores these questions by assessing Hong Kong’s past economic performance and the debate over the key impediment to future success.
The Statistical and Ratings Picture
If we look at broad statistical measures of economic performance, Hong Kong appears to have little to worry about. According to 2014 estimates in the CIA’s World Factbook, Hong Kong’s gross domestic product (GDP), using purchasing power parity (PPP) methodology, was $414.5 billion, 45th worldwide, with a population just over 7 million people, 103rd worldwide. In 2015, the estimated real growth rate was 2.5 percent, a very respectful rate for a mature economy in which services have long since surpassed manufacturing and agriculture as the principal sector. Services accounted for 93 percent of GDP and manufacturing for the rest. Total trade was $1,023.7 billion, with China as the principal market for both exports (53.9 percent) and imports (47.1 percent). The stock of inbound and outbound direct foreign investment was about equal, $1.65 trillion more or less. Life expectancy at birth is 82.9 years, education expenditures in 2015 were 3.9 percent of GDP, and the total number of years of schooling (primary to tertiary) that a child can expect to receive (“school life expectancy”) is sixteen years.7
But economic performance is about the past. How can one assess Hong Kong’s future, its economic competitiveness? Several organizations have sought to define and measure economic competitiveness. The World Economic Forum (WEF) defines competitiveness as “the set of institutions, policies, and factors that determine the level of productivity of a country.”8 Competitiveness is therefore a means to the end of promoting growth and prosperity. Inherent in the idea of competition is that each economy exists within a global context in which all economies seek relative advantage while each one’s factors for growth are constantly changing. Moreover, in advanced societies there is a general expectation that the benefits of growth should be distributed to all members of society, rather than just those who are better off. The WEF is among the organizations that periodically measure and rank the competitiveness of economies around the world. The International Institute for Management Development (IMD) is another. Each has its own methodology with a mix of objective and more subjective indicators. In all of these, Hong Kong ranks very well.
The WEF has identified twelve “pillars of competitiveness.” Four pillars—“basic requirements”—are grouped together to compose one subindex: legal and administrative institutions, infrastructure, macroeconomic environment, and health and primary education. Six pillars concern enhancement of “efficiency” and form a second subindex: higher education and training; goods market efficiency; labor market efficiency; financial market development; technological readiness; and market size. The final two pillars are innovation and business sophistication and they combine to form a third subindex. In terms of overall index rankings for 2014–15, Hong Kong was ranked seventh worldwide with a score of 5.46 out of a total of 7 (the same rank as for 2013–14, and up two positions from ninth in 2012–13). For both “basic requirements” and “efficiency enhancement” subindices, Hong Kong ranked third in the world with scores of 6.19 and 5.58, respectively. Within these two, it received particularly high marks on infrastructure, financial market development, and efficiency of its goods and labor markets. On the third subindex, made up of innovation and business sophistication, Hong Kong was ranked twenty-third (4.75), still pretty high on a global basis but a drop of four slots since the last report.9
The IMD assessment is based on four major factors—economic performance, government efficiency, business efficiency, and infrastructure—and a variety of subordinate issues within each factor. Overall in 2014, Hong Kong ranked fourth worldwide, after the United States, Switzerland, and Singapore, which was a modest drop from first in 2011 and 2012, and third in 2013. Its ranking within each of the four factors:
Despite strong economic performance data and competitiveness scores, Hong Kong is not performing as well as it might. Singapore provides an interesting comparison case because it has similar social and demographic characteristics as Hong Kong, and experienced rapid economic growth during the same time period. Its land mass is 63 percent of Hong Kong’s and its population is 78 percent of the territory’s. But Singapore’s GDP (PPP) is over 10 percent higher than Hong Kong’s at $445.2 billion. Singapore’s real growth rate is 2.9 percent and its GDP per capita (PPP) was 47 percent higher ($81,300 versus $55,200).11
The WEF identified competitiveness problems related to Hong Kong’s innovation and business sophistication. Comparing Hong Kong with other economies, the WEF warned that it “must improve on higher education (22nd) and innovation (26th, down three places in a year). In the latter category, the quality of research institutions (32nd, down one) and the limited availability of scientists and engineers (36th, down four) remain the two key issues to be addressed.” The WEF also reported other problems: inefficient government bureaucracy, inflation, and policy instability.12 Although the IMD placed Hong Kong in first place on technological infrastructure, it ranked worse than twentieth on all the other major indicators: basic infrastructure, scientific infrastructure, health and environment, and restrictive labor regulations.13 Thus, the WEF and IMD agree in some areas (education and science) but not in others (basic infrastructure), no doubt reflecting differences in definition, methodology, and reliability of measurement. On the areas where the two diverge, the differences are modest for the factors measured objectively but far more likely on those that rely on subjective assessments. For example, the WEF uses questionnaires from local informants to compile some of its indicators, but the modest number of surveys returned likely skews the resulting factor values.14
Thus, Hong Kong faces challenges and limitations but also offers opportunities and advantages. Several issues remain the subject of ongoing debate: Which sectors can contribute to future growth? What are the advantages and risks of dependence on the Chinese economy? What is the proper level and allocation of government resources? How can the need for human capital be met? What can be done to reduce the high inequality of income and wealth, and increase access to education, employment, and housing?
Enduring Assets
There is general consensus in Hong Kong that two sources of its long-term competitiveness must be preserved at all costs. The first is the primacy of rule of law and independence of the judiciary—on this there is no dissent, for obvious reasons: a strong legal framework protects property rights of all kinds, provides due process of law and an authoritative resolution of disputes, and ensures business confidence. Hong Kong’s strong rule of law is what leads mainland firms preparing initial public offerings to do them in Hong Kong rather than through their domestic system. Rule of law requires strong institutions to deter any attempts to bribe judges, and Hong Kong has those institutions.
The second element of economic success is fiscal prudence. Here the consensus is not as broad as with the rule of law, mainly because of differences in opinion on how much prudence is necessary. The danger of uncontrolled deficit spending is widely understood, but disagreements remain over the allocation of the government’s fiscal resources, and the Hong Kong SAR government has been criticized for sacrificing public welfare to ensure balanced budgets. Article 107 of the Basic Law states that the Hong Kong government should “strive to achieve a fiscal balance, avoid deficits and keep the budget commensurate with the growth rate of its gross domestic product.”15 In line with that mandate, the unwritten rule is that the government’s operating and capital budgets should constitute no more than 20 percent of GDP. For 2013–14, the total spent was $56 billion, around 19 percent of GDP.16 The operating budget made up 78.1 percent of total expenditures and 21.9 percent was for capital costs.17 Operating revenues are composed of direct taxes on individuals and companies (51.6 percent of the total), indirect taxes of which stamp duties are the largest (29.3 percent), and other revenues, of which investment income is most important (19.0 percent).18 Total revenue for the 2013–14 fiscal year was $45.8 billion.
The rates for direct taxes are relatively low. After generous deductions and adjustments are taken as appropriate, the following tax rates apply:
In fiscal year 2013–14, 84 percent of revenues for the capital budget came from land premiums paid to the government by lessors of land when they sign the lease. For operating expenditures in the same year, 50.7 percent was spent on direct expenditures of the government departments; 33.4 percent on education, health, social welfare, and similar categories; and the remainder on one-time expenses such as tax rebates. The capital budget was $12.4 billion.
Some in Hong Kong would say that the problem with the Hong Kong government’s fiscal management has been not deficits but recurring surpluses. These critics point out that financial authorities have underestimated revenues and overestimated expenditures since the mid-2000s. For example, Financial Secretary John Tsang’s original estimate for the 2013–14 fiscal year was for a deficit of $632 million. In February 2014 he revised that to a surplus of $1.546 billion, but the final accounts revealed a surplus of $2.706 billion!20 Some of the overestimation was understandable: a few expenditures did not occur as budgeted and revenues were sometimes higher than expected. Although the actual surplus was only around 5 percent of the total budget, the consistent lowballing of the surplus suggested a methodological bias, making Tsang the object of criticism and ridicule from politicians and the media. By 2015, the reserve fund, where operating surpluses are stored, was approximately $14.175 billion, not a small nest egg.21 Tsang returned some of the surplus to taxpayers and businesses as an ad hoc payment, not by increasing recurrent expenditures. This windfall did not stop the ridicule.22
One reason for Tsang’s fiscal conservatism was his belief that expenditures would soon balloon as Hong Kong’s population aged. To better understand the problem—or to create a rationale for continuing to restrict government expenditures?—in the first half of 2013 he set up a Working Group on Long-Term Fiscal Planning whose members were all experts in public finance. The Working Group released its report in March 2014. Assuming that tax policy and tax rates would remain the same, the report estimated that government revenue would grow 4.5 percent for the next twenty to thirty years. It set out three different scenarios for expenditures in combined spending on education, social welfare, and health care. The scenarios were: continuing to spend at the current level; increasing spending by 1 to 2 percent per year; and increasing spending by an annual rate of 3 percent. Taking into account demographic and price factors, greater spending in the three categories would create permanent budget deficits after fifteen years under the first scenario, after eight to ten years under the second scenario, and after seven years under the third.23 The Working Group recommended that the government “implement a combination of measures, including containing expenditure growth, preserving the revenue base and saving for future generations, to cope with the fiscal challenges ahead.”24 In his response to the report, Tsang recommended better tax-collection enforcement and increasing the fees the government charged for some of its services. Also, he called for greater cost control of government expenditures, but had no enthusiasm for increasing direct taxes. His only hint of flexibility was a proposal to consider using some of the accumulated surpluses for a “future fund,” but these would be used to cover infrastructure projects should the budget go into deficit. Using the surpluses for the needs of the aging population was never actually mentioned.25
Capitalizing on China’s Growth
Hong Kong has little choice but to ride the wave of Chinese economic growth. Its proximity to the mainland and small size of population and economic output make this inevitable. Historically, its opportunity has lain in the gap between the two economies, which varies depending on the economic sector, stage of development, and skill sets. The most telling measure of these differences is per capita GDP, which in 2013 was $6,747 for China in exchange rate terms and $37,777 for Hong Kong.26 Because Hong Kong possesses skills and resources that China has lacked, it can export those northward to the benefit of both economies. This is what Hong Kong companies did in the field of consumer-goods manufacturing after 1979.
The China–Hong Kong development gap and the economic complementarity it facilitates mean that Hong Kong SAR’s firms must think in terms of which sectors have the greatest potential to contribute to China’s growth that Chinese firms cannot provide themselves. This is a moving target, of course, because the Chinese economy is changing significantly. The evolution of the Guangdong economy, which some analysts regard as “emerging as a globally important innovation zone and consumer market,” is only a foretaste of a much broader shift.27 The central reform goal of the current Chinese leadership is to simultaneously reduce the very high rate of investment and achieve higher levels of domestic consumption. The first tranche of reforms was announced at the third plenary session of the Chinese Communist Party’s Eighteenth Party Congress in 2014, and included measures to stimulate innovation and productivity growth, rein in wasteful investment, and raise household income and consumption.28
In 2002, the Hong Kong government identified four “key industries” as the ones that had the greatest potential for future growth. The four key industries are financial services, tourism, trading and logistics, and professional and producer services. All four are part of Hong Kong’s interface with the mainland economy. They have been “the driving force of Hong Kong’s economic growth, providing impetus to growth of other sectors and creating employment.” In 2013 they contributed 57.8 percent of GDP in terms of value added and employed 47.3 percent of the workforce, with trade and logistics leading both metrics.
In 2009, then chief executive Donald Tsang pinpointed six additional “selected emerging industries” as having “advantages for further development.” These six are food and product safety, cultural and creative industries, medical services, education services, environmental industries, and innovation and technology. Clearly, the watchword here is diversity. Testing and certification services target the mainland, where food and product safety has been a serious problem. Cultural and creative industries and medical services address the needs of the Hong Kong SAR’s aging middle-class society. Education services and environmental industries are needed both in Hong Kong and on the mainland. Innovation and technology is likely stimulated by the demands of a globalizing economy and China’s own modernization. In 2013, these six sectors provided 9.1 percent of GDP in value added and accounted for 12.1 percent of employment, with culture and creative industries in the lead.29
Of the four leading industries, the continuing potential for financial services is most obvious. Hong Kong firms manage initial public offerings for mainland companies that wish to go public in an established international financial center. Hong Kong firms also are skilled at mergers and acquisitions and wealth management for PRC residents with substantial assets. The Hong Kong SAR government expressed hope that the territory’s financial services industry could serve as the bond-issuing center for Beijing’s regional infrastructure investment initiatives, such as the Asian Infrastructure Investment Bank.30 In addition, any economic activity that is grounded in Hong Kong’s superior legal system, such as legal and arbitration services, will benefit as long as China’s own legal system remains procedurally unpredictable and subject to political interference.31
The most important finance-related task to which Hong Kong can contribute is the internationalization of the renminbi (RMB)—a point not lost on Chinese economic officials. This gives Hong Kong financial firms a huge advantage. Internationalization refers to “the use [of the RMB] in denominating and settling cross-border trade and financial transactions, that is, its use as an international medium of exchange.”32 Working to achieve this status for the RMB is PRC government policy, and it is a very complex task with many different aspects. It is closely linked to the larger objective of removing controls over capital markets and ultimately making the RMB a reserve currency. Sensibly, Beijing has decided to tackle internationalizing the RMB step by step and to use Hong Kong as its primary testing ground for identifying problems and working out solutions at each stage. In an August 2011 speech in Hong Kong, then Vice-Premier (now Premier) Li Keqiang said, “The Central Government will actively support the growth of the RMB market in Hong Kong, expand RMB circulation channels between Hong Kong and the Mainland, and support the innovation and development of offshore RMB financial products in Hong Kong.”33 William H. Overholt, an expert on Asian politics and economics, observes: “A key reason for the extraordinary rise in the scale and sophistication of China’s mainland capital markets has been its encouragement and high regard for Hong Kong’s financial expertise, which China uses to an extraordinary extent.”34 And Beijing still has a long way to go on internationalization. Although the RMB ranks fifth among currencies used to settle international trade and financial transactions, it is less than 3 percent of the total. In global foreign exchange markets, the RMB’s share of global turnover is less than 2 percent.35
Turning to the other three industries of high potential growth (tourism, trading and logistics, and professional and producer services), hotels (tourism) and high-end retail stores (trading) service over 50 million people a year—the great majority from the mainland—who visit the territory. The precondition is that the territory is stable enough for tourists to want to come and for Beijing to signal that it approves. Trade and logistics firms have established excellence in inventory management, regional distribution, and global supply-chain management. For example, Hong Kong leads the world in international air cargo throughput volume. Hong Kong firms capitalize on the Hong Kong SAR’s sound legal system (professional and producer services) to provide services to mainland clients in mediation and arbitration, trust administration, and intellectual property trading.
Among the six emerging industries that were first recommended in 2009 by then Chief Executive Donald Tsang Yam-kuen, medical services appears best to meet expectations. Yue Chim Richard Wong, a Hong Kong University economist and newspaper columnist, predicts that domestic spending on health care as a share of GDP will likely double by 2041, from 5.12 percent in 2011 to 10.3 percent in 2041 (finance peaked in 2007, at 12.9 percent). Demography is the main driver here. The elderly’s share of the population will double between 2011 and 2031, from 12.2 percent to 24.4 percent, and the elderly consume three times as much health-care services as the working-age population.36 So the opportunities for new job creation could be very significant, particularly for small and medium-sized industries.
Hong Kong clearly understands that its economic relationship with the mainland is not static. This creates opportunities for new beneficial integration, and three initiatives from late 2014 and spring 2015 exemplify this dynamic. The first was the beginning of the Shanghai–Hong Kong Stock connect, which removed some obstacles facing investors in each of the two cities from trading stocks of the other economy. It was also a step to removing China’s capital controls.37 The second was an agreement between the Central People’s Government and the Hong Kong SAR government, signed in December 2014, which liberalized firms’ access to Guangdong Province’s service sector, hitherto closed to Hong Kong.38 The third initiative, announced in late May 2015, was an arrangement whereby mutual funds in each jurisdiction could be traded across the border.39
Meanwhile, Chinese firms are moving up the value chain—producing goods and services that are more demanding in terms of the technology and management skills required—as a result of business opportunity and government policy, and this, too, impacts Hong Kong’s economic policy decisions. For instance, the opportunity that Hong Kong saw in promoting local testing and certification services disappeared more quickly than expected. When Chief Executive Donald Tsang proposed in 2009 that Hong Kong could benefit by marketing these services to mainland entities, Chinese consumers had lost confidence in the quality of numerous domestically produced items such as milk powder. By 2014, however, Chinese product standards were rapidly improving, at least for exported products.40 This promising opportunity disappeared, and Hong Kong officials now barely mention it.41 In fact, China has established a good record of gradually rectifying its weaknesses and capturing hitherto unavailable comparative advantage. Sectors once marked by complementarity have become competitive, forcing Hong Kong firms to adjust.42 The very size of the Chinese economy and the scale of certain types of available resources only compound this problem for Hong Kong. Consequently, both the Hong Kong government and local firms must be nimble if they are to stay ahead of the competitive curve.
Even as Hong Kong adjusts its interface with the Chinese economy, it must also sustain its position as an international business hub, and in this it has recognized assets: the rule of law, high-quality infrastructure and international and domestic transport networks, and good financial infrastructure and services for business support.
The Hong Kong SAR government’s strategy to preserve efficiency and enhance competitiveness includes “improving the efficiency in the flow of people, goods, capital and information, but also … enhancing the quality of our living environment and our position as an international hub.” In practice this strategy has been translated into a large infrastructure program.43 Some in Hong Kong have argued against over-reliance on services to ensure future growth. Nostalgic for the time before 1979 when the territory was one of the world’s light manufacturing centers and seeing a niche for advanced manufacturing, they have called for an “industrial renaissance.” What is now needed, writes the European economist Ken Davies, “is a move to state-of-the-art, high productivity, high-value-added, high-tech industries such as information technology and communications, biotechnology, robotics, 3D printing, or nanotechnology. Policymakers need to focus on providing an environment conducive to research and collaboration between academia and business.”44 The C. Y. Leung administration has been on the same wave length, enthusiastically promoting the expansion of the innovation and technology sector. In Leung’s January 2014 policy address, he said that the sector could be a driver of growth and employment and enhance quality of life, and pledged that the government would continue to create an environment favorable for the growth of the industry. He specifically advocated enhancements in the government’s innovation and technology fund to support applied R&D and the revival of a bureau-level unit in the government focused on supporting the sector.45
This is a worthwhile aspiration, but the difficulty comes in creating a proper business environment. Fostering a good research environment is certainly one element, but it is not the only one, and each factor of production to reach this goal is currently unfavorable:
More generally, Hong Kong’s playing catch-up in this competitive environment risks wasting resources in order to gain entry into niches where others are already entrenched. Alan Ka-lun Lung, a director of the Asia Pacific Intellectual Capital Centre, based in Hong Kong, cautions, “We would be wise not to try to duplicate what the mainland and the rest of the world are already doing. Rather, we should focus on our niche—international connections, the last 10 per cent of research and development [the most difficult part], commercialization and the Closer Economic Partnership Arrangement with mainland China.”49
The Role of Government
A more fundamental issue than the potential of specific economic sectors is the role that government should play in facilitating economic growth. There is broad agreement on some government steps, such as adjusting policies to enhance opportunities and remove obstacles for local firms. The finance secretary’s annual budget speech usually includes mention of substantive yet fairly technical policy initiatives and incentives to help the four pillar industries continue their growth. No doubt many of these steps are recommended by the affected firms themselves.
Economists are likely to question the idea of picking winners and losers by government fiat. Facilitating the emergence of new sectors, particularly by quickly removing regulatory obstacles and easing the decline of sectors that are no longer competitive, is a proper role for government, but only if the market ultimately determines which sectors are truly competitive. Some Hong Kong experts question whether the government, even if it can both accurately pick future winners and successful start-ups, will then support them until they are established.50 And, in a system like Hong Kong’s, where the structure of political power creates privileged influence for certain established sectors, is there a danger of crowding out sectors that have true market potential but have limited access to government facilitation?
The same question applies to public agencies that have had a monopoly on the provision of certain public services and may limit market entry by private entities. The Hong Kong health-care system is a good example of a service provided by the public sector; it was modeled on the British system that was in place pre-reversion. As an aging population makes increasing demands for services, there is great potential for private-sector growth, but realizing this potential and the growth of business and employment that it would bring requires a “rezoning” of public-private roles and responsibilities.51
Another question concerns the Hong Kong SAR government’s decision-making process. The Heritage Foundation has consistently placed Hong Kong at the top of its economic freedom ranking, but still saw fit to include this note of caution in its 2015 assessment: “Although Hong Kong maintains the features of an economically free society, economic decision-making has become somewhat more bureaucratic and politicized.”52 A significant example is the Legislative Council, where members of the Pan-Democratic opposition have engaged in filibusters to impede government action. For example, they filibustered to prevent the Leung administration’s initiative to restore the government unit responsible for innovation and technology to bureau status. The tech industry supported it, as did the LegCo member for its functional constituency (who happened to be a Pan-Democrat). But more radical Pan-Democratic members opposed it for being a waste of money.53
The government’s fiscal policy provokes additional questions. As noted, it returns some of the revenue surplus to the community in the form of one-off payments, but the benefit of these “sweeteners” has not been spread equally. A 2014 analysis by the Research Office of the LegCo Secretariat’s Information Service Division found that the groups that benefitted most were relatively well-off owners of private housing units and those who paid the salaries tax. Together the two groups received 62.2 percent of the payments. Low-income groups received 3.9 percent and those who were otherwise disadvantaged got 7.6 percent. As one journalist commented: “This is obscene not only because the underserving got the most public subsidies, but that Tsang’s pseudo-financial prudence wasted our surpluses that could have been used [on] schools, hospitals, universities, healthcare services and retirement funds.”54 Commentary from the other side of the issue would probably argue that the surplus should be eliminated by reducing tax rates.
Growth and Equity
Hong Kong is not alone when it comes to the politics of inequality (see discussion of inequality in chapter 4). Misdistribution and its political ramifications plague other developed societies, including the United States. The question to be answered: Is inequality an unavoidable consequence of the policies that advanced economies must follow to remain competitive in a globalized world where technology is rapidly changing? The answer from the conservative side of the spectrum is that facilitating growth is a government’s top priority and that the benefits of growth will soon “trickle down” to society at large. The argument on the progressive side is that sustained growth is impossible without a better distribution of benefits. The latter view reflects not only a normative desire for equity but a pragmatic conviction about what works.
Progressives’ main line of argument is that a highly unequal society cannot generate the mass demand that ensures full employment growth. The Brookings Institution economist Kemal Dervis has written, “So, if the dynamics fueling income concentration cannot be reversed, the super-rich save a large fraction of their income, luxury goods cannot fuel sufficient demand, lower-income groups can no longer borrow, fiscal and monetary policies have reached their limits, and unemployment cannot be exported, an economy may become stuck.… The broad trend toward larger income shares at the top is global, and the difficulties that it may create for macroeconomic policy [particularly weak mass demand] should no longer be ignored.”55 David Madland of the Center for American Progress goes beyond the issue of demand creation: “A strong middle class is a key factor in encouraging other national and societal conditions that lead to growth. It is a prerequisite for robust entrepreneurship and innovation, a source of trust that greases social interactions and reduces transaction costs, a bastion of civic engagement that produces better governance, and a promoter of education and other long-term investments.”56 A study undertaken by three economists for the IMF, based on a sophisticated methodology, concluded: “Extreme caution about [equality-promoting] redistribution—and thus inaction [by government]—is unlikely to be appropriate in many cases. On average, across countries and over time, the things that governments have typically done to redistribute do not seem to have led to bad growth outcomes, unless they were extreme. And the resulting narrowing of inequality helped support faster and more durable growth, apart from ethical, political, or broader social considerations.”57
If this viewpoint is even half right, it suggests that current government policy on the distribution of growth benefits is generating two counterproductive effects. Inequality is causing the economy to perform below its growth potential and also fostering political instability that is helping to transform society in significant ways. Hong Kong’s concentration of economic and political power has created consequences that are contrary, it would seem, to the interests of the very people it was designed to benefit.