Hong Kong Economic Situations Stephen Yan-Leung Cheung Prof. (Chair) of Finance City University of Hong Kong

Content 1.Hong Kong Economy 2.How can we position ourselves? 3.Opportunities in China Market 4.Uncertainties

Government Deficit (I) Year ($billion) ($billion) ($billion) ($billion) ($billion) Operating revenue Operating expenditure Operating surplus/ (deficit)(46.6)(39.9)(29.4)(18.6)(5.2) Capital revenue Capital spending (including payments from the Capital Investment Fund) Capital financing surplus/ (deficit)(15.5)4.5(1.4) Government bond issuance - Proceeds - Interest expense Capital financing surplus/ (deficit) after bond issuance (2.4)

Government Deficit (II) Year ($billion) ($billion) ($billion) ($billion) ($billion) Consolidated surplus/ (deficit) before bond issuance - as a percentage of GDP (62.1) 4.9% (35.4) 2.7% (30.8) 2.2% (2.2) 0.2% % Consolidated surplus/ (deficit) after bond issuance - as a percentage of GDP (42.6) 3.4% (36.4) 2.7% (31.8) 2.3% (3.2) 0.2% % Fiscal reserves after bond issuance - as number of months of Government expenditure Public expenditure - as a percentage of GDP % % % % % Source: The Budget

Observations (I) Operating revenue cannot cover operating expenditure Operating deficit will last until 2008/09 Consolidated deficit will last until 2007/08

Observations (II) The consolidated surplus/ (deficit) is boosted by the 20 billion bond issue Interestingly, Mr. Tang’s speech did not mention about the payment Issuing bond is a source of financing not income

Operating Expenditure Forecast (in $billion) Source: The Budget Target Forecast

Operating Revenue Forecast (in $billion) Source: The Budget Target Forecast

Surplus/Deficit Forecast (in $billion) Source: The Budget

Observations (III) Operating expenditure drops from 218 billion in 03/04 to 200 billion in 08/09 → 8% decrease Operating revenue increases from 155 billion in 03/04 to 200 billion in 08/09 → 29% increase Question is how to boost up government revenue

Facts Hong Kong has a narrow tax-base No room to increase direct tax rate –Salary tax –Profit tax Depend too much on direct tax –40:60 (indirect tax: direct tax) Only 40% working population pay salary tax For those who pay the standard tax rate (less than 1%) are responsible for more than 20% of the salary tax revenue Government becomes serious on GST

Economic Situation Hong Kong GDP in Q3 increased to 7.2% Close to the GDP in 2000 Q1, which was 13.6% (IT bubble) The total exports in Q increased around 13% Tourism, individual travel scheme CEPA

Property Market Recovery Recovery in 2003 Q4 and 2004 Q1 Number of transactions increased by 22% in the first half of 2004 over the second half of 2003 Average property price dropped slightly recently but prices went up by 26% relatively to mid-2003 Affordability ratio improves substantially

Number and Value of Property Transactions

Prices for Residential Property

Affordability Index

Tourism Number of tourists arriving at Hong Kong increased –substantially from China, and –from other destinations Number of tourists arriving at Hong Kong in June 2004 exceeded the pre-SARS level In July 2004, number of tourists reached 1.99 million

Visitor Arrivals

Visitor Arrivals by Sources

Consumption Private consumption expenditure had an average growth of 7% in real term in Q The volume of total retail sales increased by 6.8% in Dec 2004 Reflection of strong rebound of local consumers and tourists

Private Consumption Expenditure

Hong Kong’s Price Movement

Market Forecast Hong Kong’s Economic Growth Forecast (%) Government7.5 BOC HK7.6 HSBC7.8 DBS7.5 Merrill Lynch8.0 Citibank6.5 INC7.5 Sources: Census and Statistics Department, Reuters, and BOCHK Research

Hong Kong Economic Situation (I) Two Problems 1.Deflation –A period of 5 years & 8 months –CPI increased by 0.2% in Dec 04 but fell by 0.5% in Jan 05 –Declined in prices were recorded in Jan 2005 for housing (-3.1% in the Composite CPI), durable goods (-2.0% in the Composite CPI), miscellaneous services which cover package tours (-1.6% in the Composite CPI), and transport (-0.1% in the Composite CPI)

Hong Kong Economic Situation (II) 2.Unemployment Unemployment rate at 6.4% in Nov 04 - Jan 05 Structural problem Possible to drop to 5 - 6% The age group of has high unemployment rate How to improve the education level of population? How?

Changes Economic Role of China Sources of Growth

Implications for Development Policy Innovations are needed How Hong Kong will cultivate creatively within our economy

Ingredients Human Capital Investment

Ingredients Human Capital ( 才 ) Investment ( 財 )

Human Capital 1.Education Creative abilities Student participation Questioning Debate 2.Import talented people

Research and Development Role of Government Role of private sector Role of universities Participation of intellectual property rights Incentives –Tax incentives –Competition China → Win-win situation

Uncertainties Oil price –US$50/barrel –US economic figures good/bad? –US interest rate increase

China Economy Macro-economic adjustment started to work? –Fixed asset investment slowed –2004 Q1-3 GDP increased 9.5% –Inflation is 1.9% in Jan of 2005 Prices of food items increased by 4.0% Prices of non-food items increased by 0.8% China economy further down may affect the external trade of Hong Kong

Ways Forward More integration with Pan-PDR Comparative advantages –Cost will never be an advantage –Quality of service –International network Human resources –Impact –Internal protection Do not be too ambition –be focused

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