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How Hong Kong will benefit from China’s rapidly changing economy
Macro Economics – Hong Kong / China December 2012 A very special relationship How Hong Kong will benefit from China’s rapidly changing economy The city’s economic future is becoming ever more closely entwined with China Hong Kong has all the tools required to meet Beijing’s growing needs This is creating opportunities for many areas of business By Donna Kwok Disclosures and Disclaimer This report must be read with the disclosures and analyst certifications in the Disclosure appendix, and with the Disclaimer, which forms part of it Macro Economics – Hong Kong / China abc December 2012 Summary The economic relationship between Hong Kong and mainland China has advanced so much – and taken on so many new dimensions – that it’s time to take another look at the way we assess the city’s future. Hong Kong has long flourished as a gateway to China. What is changing is that the goods, services and currencies that move through this gateway in both directions have become more diverse, mobile and sophisticated. At the same time, the city is providing a controlled environment in which Beijing can test and fine-tune its plans to liberalise its own financial system, including the offshore RMB market and the opening of the capital account. All this will create a range of business opportunities, especially in finance, tourism/retail, trade and property. We estimate: By 2015, half of Hong Kong’s economy will be attributable to mainland China, up from a third today. By 2020 as much as 70% of Hong Kong’s GDP will come from the city’s links with the mainland. For every mainland Chinese who visits Singapore or New York today, there are 20 or more who go to Hong Kong. We expect them to spend USD55bn in Hong Kong in 2015, equivalent to a third of its GDP. China’s swelling domestic demand for imported consumer goods and services will drive Hong Kong’s trade, half of which will likely be settled in RMB in three years. No other city knows China like Hong Kong, which has location, history, speed and adaptability on its side. If this Special Administrative Region of China can keep adjusting to the changes in the mainland’s increasingly complex economy, it will retain its role as an indispensable go-between. This report looks at the areas where Hong Kong can deepen and widen existing channels and open new ones to further develop this extraordinary relationship as China moves rapidly towards becoming the world’s largest economy. 1 firstname.lastname@example.org FIRST LAST 12/15/12 07:05:17 AM Hong Kong Highpower Macro Economics – Hong Kong / China abc December 2012 Contents A very special relationship 3 Servicing China 24 Deep roots 3 From exports to imports 24 Three China trends which are changing the relationship 4 Services are the future 25 Hong Kong is also evolving 5 Time to adapt 26 Big numbers, big frictions? 7 Tailor-made 26 Key numbers 8 A helping policy hand 27 Marking Hong Kong’s card 9 Of bricks, mortar and bubbles 28 Why mainland property buyers are here to stay 28 A financial incubator 10 Testing ground 10 How to control bubbles 30 First-mover advantage 10 As safe as houses 31 What’s next? 14 Disclosure appendix 35 And don’t forget the power of the middle class 15 Disclaimer 36 The tourist dollar 18 The destination of choice 18 Ticket to growth 18 More expected 19 Big spenders 20 Come rain or shine 20 Three years from now 21 From value to volume 22 Mainland import tax would not cut off mainland visitor inflows 23 Front cover design by Izumi Devalier 2 email@example.com FIRST LAST 12/15/12 07:05:17 AM Hong Kong Highpower Macro Economics – Hong Kong / China abc December 2012 A very special relationship Hong Kong’s economic links with China are becoming ever closer As a gateway, the city has location, history, speed and adaptability on its side It is now also an incubator for the internationalisation of the RMB and the liberalisation of China’s capital account Deep roots Why Hong Kong? Today, Hong Kong’s connections with the mainland Location, history, speed and adaptability have run much deeper than just trade, retail sales and always been Hong Kong’s strong suits. property. Overlapping infrastructure networks and Geographically, the city sits in the middle of the the exchange of human capital run alongside joint- Pearl River Delta, which, excluding Hong Kong development blueprints for the Pearl River Delta and Macau, has accounted for a tenth of China’s region and exchange rate reforms. Year by year, the total GDP since 1993. Hong Kong is also right at city’s economy is becoming ever more intertwined the heart of Asia’s financial world and recently with the mainland. overtook the US at the top of the World Economic Forum’s Financial Development Report (2011), This close dance started more than 30 years ago. which ranks countries by their financial stability Although China started to open up in 1978, the and business environment. first two decades of economic integration with Hong Kong were dominated by the production of The rule of law is another cornerstone of Hong tennis shoes, electronics and other cheap Kong’s success, as is Beijing’s understanding of manufactured goods. The signing of the Closer the city’s financial markets and open, Economic Partnership Arrangement (CEPA) in international business mindset. For China’s 2003 took this integration a crucial step further, regulators this makes it the best-controlled opening a channel for the more active exchange of environment in which to test and fine-tune people, skills and services. Hong Kong quickly liberalisation plans before introducing them on a became a gateway for a lot more than just trade. wider scale. The same year saw the launch of personal RMB For foreign investors buying into listed mainland business services. Indeed, for the last two decades entities, Hong Kong remains the most efficient this city of 7.1 million has been home to a number market in which to assess the fair value and risk of important pilot schemes that have helped to of investing in China. We expect this to hold true drive financial liberalisation in China. for many years, at least until China’s financial landscape is largely liberalised and clear of most current market distortions. 3 firstname.lastname@example.org FIRST LAST 12/15/12 07:05:17 AM Hong Kong Highpower Macro Economics – Hong Kong / China abc December 2012 Although a number of mainland companies today We also believe Hong Kong is better placed than trade in more than one international exchange, either Shanghai or Singapore when it comes to over 85% of their offshore trading volumes still playing the China card. While Shanghai is making takes place in Hong Kong (based on estimates progress toward becoming a global financial centre, from our Greater China equity strategists1). it may take some years for it to build the same level Indeed, the bulk of Hong Kong’s equity market of experience, pool of globally competitive talent capitalisation today consists of mainland and depth of market infrastructure that Hong Kong companies or companies with considerable already possesses. Singapore, meanwhile, lacks the business exposure to China. geographical proximity, cultural links and policy access to China that Hong Kong enjoys. Hong Kong has more than three decades of experience of working with the mainland market, Three China trends which are and also the closest cultural and linguistic alignment changing the relationship with China of any Asian nation. Compared to 1. Shifting demographics and a fast- mainland cities, it has a significantly greater depth changing labour market of expertise and experience in bridging the East- China’s demographic dividend is starting to run West financial and diplomatic divide. out. According to projections by the United Nations Finally, Hong Kong has a proven track record of Population Division, China’s workforce will start resilience. Many doubted that the 1997 handover contracting from around 2017. Not only that, but by from the British would go smoothly and thought 2025 the proportion of people aged 65 years and Hong Kong’s significance to China’s economic over in China will jump from 10% to 16%. development would diminish in the years that This has long-term implications for China’s growth followed. But the change of sovereignty and consumption patterns. As the dependency ratio proceeded without incident even though it rises, the IMF forecasts that age-related spending coincided with the Asian Financial Crisis, which will rise by 4.1 % of GDP in China in the next 18 saw property prices nosedive. years (see Ageing Asia: The challenges of a Since 1997 the city has prospered as a Special demographic shift, 16 October 2012). Administrative Region (SAR) of China through an From a growth perspective, China should be able arrangement known as “one country, two systems” to offset the impact of this ageing trend by under which Beijing guarantees Hong Kong a high accelerating the process of urbanisation and degree of autonomy over its own affairs, except for shifting jobless and underemployed workers to defence and foreign policy, for 50 years. urban areas where they are most needed. Hong Kong has also bounced back from the There is still considerable room for labour Severe Acute Respiratory Syndrome (SARS) productivity to improve. It is often forgotten that epidemic of 2002-03 and the recent global 80% of the country’s remarkable growth between financial crisis, averaging an annual growth rate 1978 and 2004 was driven by rising productivity of 6-7% throughout this period barring 2009, rather than expansion of its labour force (see when it contracted by 2.5%. China Inside Out: Slowdown more cyclical than structural, 28 August 2012). ______________________________________ 1 They estimate that 65% of total daily turnover in mainland listed equity takes place onshore in the Shanghai and Shenzhen stock exchanges. 4 email@example.com FIRST LAST 12/15/12 07:05:17 AM Hong Kong Highpower Macro Economics – Hong Kong / China abc December 2012 China’s dwindling demographic dividend and the 2. Financial reforms accelerated pace of urbanisation have four If China’s economic and social stability is to be implications for the Hong Kong SAR: maintained critical imbalances must be addressed. As urbanisation progresses, China’s demand for They include the: 1) widening wealth gap; 2) workplace innovation to enhance efficiency and disproportionate allocation of bank loans to state- improve urban living standards will grow. The backed entities instead of small and medium-sized average worker’s propensity to consume should enterprises (SMEs, which also provide the bulk of also increase as more people move from rural jobs and GDP growth); 3) absence of sustainable areas into the cities. long-term financing tools for infrastructure projects; 4) lack of a social welfare safety net. Positive wage growth in China is here to stay, which will strengthen the purchasing power of This means financial reforms must be the average mainland worker for years to accelerated. As we argued earlier, there are clear come, along with their ability to travel. Total signs that the incoming new leadership will make additions to the workforce may be smaller, but speeding up reform top of their policy agenda (see workers’ share of new wealth creation should China’s Big Bang: New leaders ready to be higher. This, on balance, should strengthen revolutionize the financial system, November 2012). the purchasing power of households, including We expect China’s interest rates to be liberalised, those supporting non-working dependent the onshore bond market to double in size, and the children and elderly family members. RMB to be made fully convertible by 2017. Mainland demand for healthcare and other old China’s progress towards these goals will inevitably age-related services and products will rise. create significant near and long-term growth opportunities for Hong Kong. Only 30% of China’s working population has pension coverage (compared to an average of 3. From trade to finance 92% in Western Europe)2. With a minimal China’s ability to connect its trade to the rest of social welfare safety net, China’s state and the world has been instrumental in driving the private pension systems will need to be country’s economic development. Hong Kong, the dramatically expanded and upgraded in the gateway to the Pearl River Delta trading hub, has coming years. long played a major role in this process. In all four of these areas the Hong Kong business Now, as China starts to develop its financial sector, community arguably possesses some of the world’s Hong Kong is again acting as a bridge. It is an leading expertise, and should benefit accordingly. increasingly attractive destination for mainland This is provided that it does the necessary investors, provides a controlled environment for homework to understand the intricacies of each testing pilot RMB currency/financial liberalisation opportunity and tailors its services to fit different schemes and is also helping China’s companies areas of China’s demand. expand overseas. Hong Kong is also evolving It’s not only China that is in transition. Since the ______________________________________ 1980s Hong Kong’s trade flows have undergone a 2 Source: ILO. For further discussion, see Fred Neumann and Julia Wang’s Ageing Asia: The challenges of a demographic shift, 16 October 2012. dramatic change. First, there was the move from 5 firstname.lastname@example.org FIRST LAST 12/15/12 07:05:17 AM Hong Kong Highpower Macro Economics – Hong Kong / China abc December 2012 basic to advanced merchandise manufacturing. China’s RMB trade settlement scheme was This was followed by the relocation of launched in Hong Kong in 2009; the city manufacturing facilities from the SAR to Pearl dominates RMB trade settlement volumes. River delta towns across the border. Next came the The first offshore RMB product platform was move away from tangible to non-tangible exports created in the SAR in 2010. – 22% of Hong Kong’s exports now consist of services, up from 16% in 1997. The first RMB Qualified Foreign Institutional Investor (R-QFII) quotas were allocated to Today, almost a third of services related to clients of Hong Kong-based mainland shipments managed by Hong Kong traders do not brokerages in 2012. even pass through SAR customs3; 45% of this offshore trade service relates to China. Traders Next on this list is likely to be Hong Kong’s launch either buy goods outside Hong Kong for export of the first offshore RMB metals contract. The elsewhere, or they arrange purchases/sales on groundwork was laid when the Hong Kong Stock behalf of buyers/sellers based outside Hong Kong Exchange (HKEx) acquired the London Metals without taking ownership of the goods involved. Exchange (LME) earlier this year. The rise of the RMB is another important factor. This broadens Hong Kong’s role from that of a Three years ago Hong Kong was used as the main pure equity and financing-centre to one that will testing ground for trade transactions using the eventually support global commodity financial RMB. The programme has subsequently been offerings. It also opens up a new training ground expanded globally and today accounts for around where mainland traders can learn much-needed 10% of China’s merchandise trade and well over a global commodity pricing and risk hedging skills. third of Hong Kong’s. It’s the latest example of As China’s currency moves down the road how China continues to make extensive use of the towards full convertibility, the use of the RMB as SAR as a financial incubator: a global trade settlement currency should reach The first mainland companies listed in Hong critical mass by 2015. By this time we estimate Kong in 1993 (the start of the H-share market); that a third of China’s total merchandise trade will major mainland banks listed in 2005-06. be settled in RMB. This process will go hand-in- hand with the gradual globalisation of China’s It was the first offshore centre to develop financial markets. personal RMB services (2004). Hong Kong still has the world’s most efficient and secure offshore RMB settlement platform and payment system. The first offshore RMB bond (commonly known as dim sum bonds) was issued in the SAR in 2007. ______________________________________ 3 http://www.censtatd.gov.hk/press_release/press_releases_on _statistics/index.jsp?sID=2892&sSUBID=20112&displayMode=D 6 email@example.com FIRST LAST 12/15/12 07:05:17 AM Hong Kong Highpower Macro Economics – Hong Kong / China abc December 2012 Chart 1. Monthly average RMB trade settlement volumes in residential property do not take longer Hong Kong have continued to rise despite the slowdown in global trade flows since 2Q12 than expected. 800 RMB bn 669 684 693 669 602 To an extent, reputational risk is already an issue. 600 For example, a robust set of credit metrics4 (which has been repeatedly tested over the years) suggests 400 321 that the Hong Kong sovereign should have the 214 239 185 190 highest possible credit rating. However, it doesn’t. 200 134 57 Our sovereign credit analyst thinks this is largely 0 because the SAR’s rating is being capped by the 2H10 1H11 2H11 1Q12 2Q12 3Q12 Monthly average value: RMB trades settled in HK economy’s growing ties with China (see Asia’s Outstanding CNH liquidity in HK (period end)* Bond Markets – The View, November 2012). Source: CEIC, HKMA, HSBC. . * RMB liquidity includes RMB deposits; RMB certificates of deposit; and EMTN and CNH bonds issued by local banks with maturity of one year or less. Having said that, we do not expect the city’s strict bank credit risk management system (one of the Big numbers, big frictions? most reputed in the world) to be relaxed any time There will, of course, be risks and challenges as soon, especially with loose global liquidity this story unfolds, including: conditions set to persist through 2015 (see FOMC Impact: New chapter for Fed policy, China’s strong economic growth might be 12 December 2012). unexpectedly derailed. But this is a good example of how growing ties with Hong Kong could become too complacent the mainland can work both ways. While some see about its global competitive standing. Hong Kong’s unique policy access to and closer The number of mainland visitors could become integration with China as an opportunity, others too great and exert excessive strain on may see it as a risk. Greater access means greater resources (e.g., hospitals and schools). exposure, but that comes with the territory if Hong Kong is to gain a better understanding of how best The SAR faces reputational risk as a result of to respond to a rapidly changing mainland market. closer integration with China (e.g., ease of doing business). In the long run, we believe greater policy access to China will remain more of an opportunity than To avoid this, Hong Kong will have to: risk for Hong Kong, provided the SAR Ensure a high quality and quantity of government works actively, and pre-emptively, innovation in key service sectors. with mainland authorities to ease cross-border barriers at the correct pace (e.g., the recent Adapt regulatory and tax frameworks to postponement of Shenzhen’s plan to allow non- maintain a first-mover advantage and keep permanent residents to apply for multi-entry ahead of regional competitors. permits to Hong Kong under the Individual Invest to maintain a very competitive skilled Visitor Scheme). workforce. ______________________________________ Make pre-emptive investments to prevent 4 Hong Kong’s net external credit position was 282.5% of GDP at end- 2011compared to a median net creditor position of 21.2% of GDP for resource shortages. For example, making AAA countries over the past year, according to Fitch data. Moreover, it has been running a current account surplus since 1998. certain that measures to increase the supply of 7 firstname.lastname@example.org FIRST LAST 12/15/12 07:05:17 AM Hong Kong Highpower Macro Economics – Hong Kong / China abc December 2012 For China, it’s also an opportunity to absorb Key numbers international best practices already instilled in the For Hong Kong to make the most of these SAR’s economic fibre. Beijing is not seeking to opportunities, it will have to tailor more of its export its macro imbalances (e.g., in its banking services for mainland consumers and businesses. system) to Hong Kong. It is seeking to import the As its economy becomes ever more closely SAR’s globally competitive standards into its entwined with China, we forecast huge increases own system. in tourist visits, RMB business, trade services and We think the greatest challenge for Hong Kong logistics. The key statistics are summarised in the during this journey will be to maintain the quality table on page 7, while the rest of this report of economic growth and ensure that social friction focuses on four areas where we see the richest is kept to a minimum. The benefits of this evolving potential – finance, tourism and retail, trade and relationship with China must be distributed to a asset markets (property). broader cross-section of society than many believe is happening at the moment. This will require policy support to address any unexpected or unintended side effects of deepening economic integration, as well as other existing challenges such as dealing with a widening wealth gap and an aging population. The Hong Kong public has already expressed concern about rising pressure on hospitals and schools and the impact rising retail rents is having on small businesses. This report tries to quantify how Hong Kong SAR can optimise the benefits of this unique relationship as China moves closer towards full currency convertibility and capital account liberalisation. The end point of this journey may arrive once the mainland establishes the same level of experience, pool of globally competitive talent and depth of market infrastructure that Hong Kong currently possesses, but that appears to be some years away. What comes after that will require a separate discussion as it may be a very different journey. 8 email@example.com FIRST LAST 12/15/12 07:05:17 AM Hong Kong Highpower Macro Economics – Hong Kong / China abc December 2012 Marking Hong Kong’s card Why the SAR will continue to prosper from its relationship with the mainland 1) By 2015, half of Hong Kong’s economy will be attributable to mainland China, up from a third today. By 2020 as much as 70% of Hong Kong’s GDP will come from the city’s links with China.5 2) Around 10% of deposits in Hong Kong’s banking system are now denominated in RMB. By the end of 2015, we think this will rise to 30%.6 3) Ten of the world’s top 20 global IPOs last year were in Hong Kong; half of the issuers were domiciled in China.7 4) For every mainland Chinese who visits Singapore or New York, 20 or more go to Hong Kong. We expect them to spend USD55bn in the SAR in 2015.8 5) Six out of every 10 visitors to Hong Kong today are from China. By 2015, this should be eight.9 6) In 2011 shopping by mainland visitors amounted to a quarter of total retail purchases in Hong Kong and was equivalent to 5% of the city's GDP.10 7) Globally, Hong Kong ranks tenth in international tourism receipts. In per capita terms, it ranks second.11 8) By 2015, mainland travellers will be making over 134m trips overseas, which would mean 50m mainland visitors heading to Hong Kong.12 9) If spending by sectors dealing with tourists is included, we estimate that mainland visitors will be spending the equivalent of 34% of the city’s GDP in three years’ time.13 10) Merchandise trade settled in RMB has grown from around 2% of China’s total trade in mid-2010 to about 10% today. Of that, Hong Kong handles about 90%, up from 60% in mid-2010 and 80% in mid-2011.14 11) Half of Hong Kong’s total merchandise trade will be settled in RMB by 2015.15 12) By 2020, it’s likely that China will account for around three quarters of both Hong Kong’s goods and services exports.16 13) Mainland buyers account for around 30% of the luxury property market and 10-20% of the mass residential market.17 ______________________________________ 5 Source: HSBC estimates. 6 Source: HSBC estimates. 7 Source: Dealogic, Thompson Financial, Ernest & Young “Global IPO trends 2012”. 8 Source: HSBC estimates. 9 Source: HSBC estimates. 10 Source: CEIC. 11 Source: UNWTO (as of June 2012), IMF, WB, HSBC estimates. 12 Source: HSBC estimates. 13 Source: HSBC estimates. 14 Source: HSBC estimates. 15 Source: HSBC estimates. 16 Source: HSBC estimates. 17 Source: Centaline. 9 firstname.lastname@example.org FIRST LAST 12/15/12 07:05:17 AM Hong Kong Highpower Macro Economics – Hong Kong / China abc December 2012 A financial incubator Hong Kong provides a controlled environment as Beijing encourages its companies, investors and currency to expand overseas Independent regulatory and legal frameworks are key assets… …but the SAR’s global competitive edge is the greatest asset that must be preserved Testing ground the free cross-border transfer of funds in and out of China for capital account items. Hong Kong has many attributes that make it the perfect place to launch, test and fine-tune China’s Chart 2. Competitive advantage: Hong Kong as top destination for new company registrations financial reforms. Aside from location, it also offers No. of new companies (12mma) independent regulatory and legal systems, but it is 9,000 the city’s global standing in financial markets which 6,000 really seals the deal. The SAR is variously described as the world’s freest economy18; most 3,000 developed financial system and capital market19; 0 second easiest place in which to conduct business20; -3,000 and third top financial centre21. Apr-07 Oct-07 Apr-08 Oct-08 Apr-09 Oct-09 Apr-10 Oct-10 Apr-11 Oct-11 Apr-12 Oct-12 For China’s currency and capital to exit its borders, HK SK SG TW there must be offshore destinations. And that’s Source: CEIC, HSBC where Hong Kong comes in. Opportunities here lie on two fronts, internationalisation of the RMB and First-mover advantage serving China’s emerging middle class. Trade The internationalisation of the RMB and The offshore RMB story started in 2007 when liberalisation of the capital account top the new personal RMB banking services were first offered Chinese leadership’s financial reform priorities. The in Hong Kong. But it wasn’t until Beijing first equates to the lifting of restrictions on the endorsed the RMB as an official cross-border international use, transfer and exchange of the trade settlement currency that the currency. The second to the lifting of restrictions on ______________________________________ internationalisation process truly took off (see The 18 Heritage Foundation’s Economic Freedom Index 2012 19 World Economic Forum Index’s Financial Development Index 2012 rise of the redback: A guide to renminbi 20 World Bank Index 2013 (published October 2012) 21 Qatar Financial Centre Authority’s Global Financial Centres Index 2012 internationalisation, November 2010). 10 email@example.com FIRST LAST 12/15/12 07:05:17 AM Hong Kong Highpower Macro Economics – Hong Kong / China abc December 2012 Chart 3. RMB internationalisation: A three-stage process Trading Investment Reserve Currency Currency Currency • Kicked off in June 2009 • Hong Kong’s offshore RMB • More symbolic than material products platform CNH FX market • Potential lies in emerging, • Minimum criteria: full RMB was launched July 2010 not developed markets convertibility (by 2017) • Other side of the coin to trade • Around 10% of China’s trade • Initial progress: some foreign settlement already settled in the RMB, up central banks have made from 2% in 3Q10 • RMB product variety significantly small RMB bond purchases expanded to include dim sum • Critical mass expected by • To be a true global reserve bonds, investment funds, equity 2015, when 1/3 of China’s trade currency, RMB must be products, exchange traded-funds, (USD 2trn) should be settled in accepted across world: and currency derivatives the RMB 1) for investment, financing, • RMB investment outflows just as and payment purposes • Initially driven more by important as inflows for the 2) as a reserve, intervention import than export demand onshore-offshore circulation of and anchor currency but imbalance has lessened China’s currency Source: CEIC, HSBC The global rise of China’s currency is best RMB liquidity22 is critical for nurturing transaction understood in three stages – its rise as a global trade turnover in a young CNH market (the offshore RMB settlement currency, followed by its acceptance as a is generally known as the CNH). The bigger the pool leading investment currency and then its emergence of CNH liquidity the more viable the market as a reserve currency (see Offshore RMB: What’s becomes for institutional investors (see A new look next? Four trends to watch, February 2011). The at CNH liquidity: Just turned two and growing up first two stages go hand-in-hand as neither can reach fast, August 2012). critical mass without the other (see chart above). Chart 4. Hong Kong’s RMB liquidity growth has slowed but the level remains over six times higher than mid-2010 Merchandise trade settled in RMB has grown 800 RMB bn from around 2% of China’s total trade in mid- 700 2010 to around 10% today. Of that, Hong Kong 600 500 handles about 90%, up from 60% in mid-2010 and 400 80% in mid-2011. With RMB trade settlement 300 being a major source of RMB deposit growth, 200 Hong Kong’s pool of offshore RMB deposits is 100 by far the largest in the world. 0 8-10 2-11 4-11 6-11 8-11 2-12 4-12 6-12 8-12 10-10 12-10 10-11 12-11 10-12 Liquidity and transactions Offshore RMB CDs* Hong Kong: RMB demand deposits Hong Kong: RMB time deposits As of end October, RMB bank deposits in Hong Source: Bloomberg, CEIC, HSBC. * RMB liquidity includes RMB deposits; RMB certificates of Kong stood at RMB555bn, more than six times deposits; and EMTN and CNH bonds issued by local banks with maturity of 1-year or less. the level in mid-2010. This has enabled the city’s financial institutions and the Hong Kong Monetary Authority (HKMA) to establish a ______________________________________ 22 Proliferation of short term higher yielding RMB assets as Hong Kong’s thriving offshore RMB market. CNH market matured since 2010 has led to an expansion of our definition of RMB liquidity, to include: RMB deposits; RMB certificates of deposits; and EMTN and CNH bonds issued by local banks with maturity of 1-year or less. 11 firstname.lastname@example.org FIRST LAST 12/15/12 07:05:17 AM Hong Kong Highpower Macro Economics – Hong Kong / China abc December 2012 Chart 5. Uptake of cross-border RMB trade settlement took 6. We expect Hong Kong’s offshore RMB liquidity to top off with the launch of the offshore RMB products platform in RMB2.6trn by end 2015 Hong Kong 800 RMB bn 700 3,000 RMB bn 35% RMB bn Offshore RMB lquidity 600 2,500 growth weighed down by 30% 600 500 sluggish global trade flows 25% 2,000 and tight onshore liquidity 400 conditions in China 20% 400 1,500 300 15% 200 1,000 200 10% 100 500 5% 0 0 0 0% 12-093-10 6-10 9-1012-103-11 6-11 9-1112-113-12 6-12 9-12 2009 2010 2011 2012f 2013f 2014f 2015f RMB settlement: Merchandise trade (Lhs) RMB CDs and deposits (Lhs) RMB settlement: Service Trade and Other Current Account (Lhs) RMB deposits as % of total deposits in HK (Rhs) RMB deposits in Hong Kong (Rhs) Source: CEIC, HSBC. NB: RMB trade settlement data for merchandise versus Source: HKMA, CEIC, HSBC estimates services and current account items only available from 2011 onwards. The healthy development of CNH business looks As China’s growth momentum strengthens and set to continue in the SAR. At over RMB680bn, monetary conditions return to their long-term trend, total RMB liquidity remains at sufficient levels to we expect CNH liquidity growth to strengthen again. accommodate healthy CNH transaction turnover in We also expect the pool of offshore RMB liquidity Hong Kong (see chart 4). And despite stalling in Hong Kong to top RMB 2.6trn by the end of global and regional trade, offshore RMB trade 2015. By then, we expect the RMB to account for settlement is still growing strong (see chart 5). about 30% of Hong Kong’s total deposits by the end of 2015, up from today’s 9% (see chart 6). RMB deposit growth has slowed over the past year, in part because of slower mainland growth and As offshore use of the RMB picks up pace our tighter onshore liquidity conditions in China. But credit strategist expects gross issuance of dim sum other structural, not cyclical, factors also bonds to total RMB280-360bn in 2013, up from contributed to this slowdown, including: RMB263 year-to-date in 2012 (see Offshore RMB bonds: Dim Sum Tracker: A very good year, The moderation of RMB appreciation 13 December). expectations since late 2011. This has helped to rectify the severe imbalance between RMB outflows and inflows (slanted heavily towards Chart 7. CNH 2013 issuance forecast: RMB280-360bn outflows from China throughout 2010-11). The expansion and/or opening up of new channels for RMB inflows back to China (e.g., RMB QFII), plus the streamlining of these channels by regulators (e.g., RMB FDI). The reallocation of RMB funds away from deposit accounts towards higher yielding CNH investment products, especially bonds and certificates of deposits. Source: Bloomberg, HSBC We take this gradual structural shift as a good sign, as it indicates the market is maturing. 12 email@example.com FIRST LAST 12/15/12 07:05:17 AM Hong Kong Highpower Macro Economics – Hong Kong / China abc December 2012 Chart 8. Hong Kong’s first-mover advantage in RMB trade Chart 10. … has translated into a first-mover advantage in settlement… processing offshore RMB transactions 800 RMB trade settlement, RMB bn % Share of offshore RMB global payments, via SWIFT (by value ) (% denotes proportion of trade settled in Hong Kong) Taiwan 0.5 600 90% Singapore 3.9 400 90% UK 4.0 200 China 5.1 62% 0 Hong Kong 79.6 3Q10 3Q11 3Q12 Settled via Rest of World Settled via Hong Kong 0 10 20 30 40 50 60 70 80 Source: CEIC, HSCB Source: SWIFT (Society for Worldwide Interbank Financial Telecommunications), HSCB. Swift data is collated from 10,118 financial institutions in 210 countries (August 2012). The birth of the CNH product platform offered Hong Kong’s CNH business. Frequent dialogue Hong Kong’s financial and trade service providers a with the Bank of China (HK), which is the city’s rare opportunity to develop brand new services and RMB clearing bank, and institutions such as HKEx products from scratch. Even better, this platform and local banks has ensured that regulation has been depends less on a global economic recovery than clear and coherent in a fast-moving environment. product innovations. By opening up attractive Hong Kong’s CNH market structure is held up by avenues for offshore RMB capital, offshore traders three core pillars: 1) a strong regulatory framework; have become a lot more willing to use the RMB for 2) a RMB real time gross settlement (RTGS) system trade settlement, reinforcing Hong Kong’s position offered by the HKMA and Hong Kong Interbank as the global centre of CNH liquidity. Clearing Ltd (HKICL), which allows almost 200 Product infrastructure Hong Kong and overseas participants to clear their Products need a strong market framework to create cross-border RMB transactions; and 3) a RMB confidence among buyers and sellers, which is clearing bank model that provides a bridge for where the SAR’s now tried and tested CNH transactions between China’s central bank, the regulatory and transactional infrastructure comes in. People’s Bank of China (PBoC), and banks that participate in Hong Kong’s CNH market, and Chart 9. Hong Kong’s RMB clearing bank model clearly differentiates between sovereign and Other Individual or corporate accounts banks/ commercial counterparty risk (see chart 9). customers Other Hong Kong People’s Bank This market structure reinforces Hong Kong’s HK RMB RTGS clearing bank of China (CNAPS banks/ customers Participant bank (BOC HK) system*) dominance in both the global market for RMB trade settlement flows (90%, see chart 8) and Other banks/ offshore RMB transactions within SWIFT’s customers international institutional payment orders network Source: SWIFT, HSBC. * China National Advanced Payment System can be seen as an “in- country RMB clearing system, which currently processes cross-border payments but with (80%, see chart 10). limitations (e.g. local language requirements). Beijing plans to develop a new International Payment System referred as China International Payment System (CIPS) by 2014. The period between mid-2010 and the end of 2011 In the space of two years, the HKMA has created an was one of rapid growth for Hong Kong’s CNH excellent financial regulatory infrastructure for market that included a number of growing pains and 13 firstname.lastname@example.org FIRST LAST 12/15/12 07:05:17 AM Hong Kong Highpower Macro Economics – Hong Kong / China abc December 2012 regulatory fine-tuning23. In contrast, 2012 has been Table 1 summarises developments over the last more stable and a number of moves have been taken year. Those with the greatest CNH business to loosen regulations, including: potential for Hong Kong are highlighted in bold. January 2012: allowing local banks to use Table 1. RMB internationalisation: last 12 months RMB assets in statutory liquidity ratio Date Event calculations, subject to certain conditions24. October 2011 A standardisation of the RMB remittance process for funds raised offshore as FDI back into China May 2012: allowing local banks to determine December 2011 Launch of a new RMB QFII (RQFII) programme for mainland brokerages based in Hong Kong their own RMB net open position (NOP) limit January 2012 Establishment of an offshore RMB interbank benchmark rate in Hong Kong with rate in consultation with the HKMA, rather than contributions from local CNH participant banks; imposing a standard NOP on the critical for developing credible and well founded interest rate fixings to support CNH lending and whole market25. product innovations. February 2012 Introduction of physical exchange-traded June 2012: introducing a RMB liquidity funds (ETFs) linked to China’s A-share markets in Hong Kong, giving investors facility to help local banks deal with short- access to China’s securities markets via the R-QFII programme term liquidity tightness (triggered by February 2012 First issuance of an offshore RMB bond by a unexpected external capital market Chinese non-financial corporate in Hong Kong April 2012 A doubling of the daily trading band for the developments). onshore USD/CNY spot exchange rate to 1% above or below the PBoC’s reference rate June 2012: extending the Hong Kong RMB April 2012 QFII quota expanded from USD30bn to USD80bn, giving foreign investors access to RTGS’ operating hours to 11.30pm local time China’s onshore markets. R-QFII quota also increased from USD20bn to USD70bn from 6.30pm to accommodate demand from April 2012 PBoC announced plans to develop an independent Europe and North and South America. international payment system (China International Payment System, or CIPS) to process cross-border What’s next? May 2012 RMB clearance by 2014. The NDRC, an important economic planning body, launches of an offshore RMB bond To retain their first-mover advantage, Hong Kong issuance framework for onshore non-financial institutions institutions must stay at the forefront of CNH May 2012 Official approval for 10 China corporates in innovation. As the RMB approaches full Guangdong take out direct offshore RMB loans June 2012 China’s interest rates liberalisation process moves convertibility (see China’s Big Bang: New leaders forward, with onshore banks allowed to deviate for ready to revolutionise financial system, November the first time from the benchmark deposit rate by 10% 2012), opportunities will be created around the: July 2012 The State Council approves the development of Qianhai in Shenzhen as a pilot zone for 1) deepening and liberation of China’s onshore more innovative cross-border RMB business capital markets; 2) relaxing of restrictions on with Hong Kong August 2012 China and Taiwan sign a memorandum of China’s exchange rate; and 3) loosening of understanding on cross-Strait currency clearing; each designates a bank to provide local currency restrictions on cross-border capital flows. clearing/settlement services September 2012 Creation of a deliverable RMB futures exchange in Hong Kong October 2012 The Bank of Taiwan is given official preliminary ______________________________________ approval as the TWD clearing bank in China. 23 For instance: 1) overcoming the issue of counterparty risk for Hong October 2012 Launch of RMB-denominated ETFs in China Kong’s RMB participant banks in dealing with the clearing bank (Bank of tracking Hong Kong stocks, allowing mainland China Hong Kong), due to the latter’s dual status as a commercial bank, by investors the first (albeit indirect) channel to creating a judiciary account arrangement; 2) the temporary suspension of a trade in Hong Kong equity and better diversify RMB conversion facility window in December 2010, which the clearing bank their portfolios. used to offer for RMB trade settlement transaction. 24 This encouraged banks to hold more RMB-linked assets such as bonds Source: HSBC, various onshore and offshore media sources and short-term loans. 25 This enabled banks to better manage their FX risk, allowing greater opportunities for CNH liquidity to grow. 14 email@example.com FIRST LAST 12/15/12 07:05:17 AM Hong Kong Highpower Macro Economics – Hong Kong / China abc December 2012 And don’t forget the power of USD8.2trn from USD1.7trn during this period. A the middle class recent report by Capgemini and RBC Wealth Management counted over 560,000 high net worth The second area of financial opportunity for Hong individuals (HNWI)29 in China today, with Kong lies in serving the growing needs of China’s USD1m or more at their disposal for investing. emerging middle class. This group is accumulating Mainland millionaires are Asia-ex-Japan’s largest wealth fast. At 333m and rising, they are hungry group of HNWIs by this measure, with 25% of the for opportunities to diversify their wealth region’s HNWI wealth (USD2.7trn in 2011). internationally. They want to be ready to respond to the anticipated easing of restrictions on outbound Chart 12. China accounts for 40% of Asia-Pacific ex Japan’s high net worth individuals private investment, in order to boost the rates of 1,500 Person (000) return on their savings. Backed by a long-term annual GDP growth rate of 1,000 at least 7-8%26 and government policy27 biased towards faster income growth, China’s disposable 500 income growth is likely to accelerate for many 41% 39% 40% years. This, in turn, should propel China’s longer- 37% 40% term ambitions to have an economy that is driven 0 2007 2008 2009 2010 2011 by domestic demand. China South Korea India Singapore Taiwan Hong Kong Others Chart 11. Though far behind other developed economies, Source: Capgemini Lorenz Curve Analysis (2012), HSBC China’s middle class is catching up fast 350 Person, mn % 30 Another recent report from the Industrial Bank 300 25 Private Banking and Hurun Report30 puts China’s 250 20 number of HNWIs (earning over RMB6m or just 200 15 over USD0.9m) even higher. In a sample of 29 150 Chinese cities, they identified almost 2.8m people 10 100 with assets of over RMB6m31, the majority of 50 5 whom are concentrated in Eastern China. 0 0 2005 2006 2007 2008 2009 2010 2011 As China continues to lower its capital account Urban middle class (Lhs) % of population (Rhs) barriers, demand for asset management services will Source: CEIC, HSBC. NB: Middle class defined as households with an annual income between RMB 60,000 to $500,000 (NBS definition, 2005). increase significantly. This means new business opportunities for foreign bank services and wealth Besides the middle class, the number of millionaire management providers, operating not only inside households in China is also expected to more than but also outside of China. double from 1.2m in 2011 to 2.5m by 202028, with While investors tend to see Singapore as the best the total wealth held by this group rising to place to access Southeast Asian investment ______________________________________ 26 See China Inside Out: Slowdown more cyclical than structural, August opportunities, Hong Kong is typically seen as the 2012. 27 Current 12th Five-Year Plan calls for urban disposable income and rural best centre to tap investment openings in China. average net income to grow by 7% per annum in 2011-2015. Chinese ______________________________________ Communist Party's 18th Congress set target of doubling China’s per capita 29 “2012 Asia-Pacific Wealth Report”, September 2012. income by 2020. 30 "The Chinese Luxury Consumer White Paper, March 2012". 28 “The next decade in global wealth among millionaire households” May 31 29% of whom had assets worth RMB 6-10m, 45% with RMB 10-15m, 2011, Deloitte Center for Financial Services. 15% with RMB 50-100m and 11% with assets worth over 100m. 15 firstname.lastname@example.org FIRST LAST 12/15/12 07:05:17 AM Hong Kong Highpower Macro Economics – Hong Kong / China abc December 2012 More importantly, onshore mainland HNWIs also world’s top equity IPO launch pad over 2009- prefer to use Hong Kong as a springboard for 11. Last year, the SAR raised USD36bn of investing overseas, for both cultural and business IPO capital compared to New York’s reasons32. The challenge for Hong Kong is to nurture USD31bn. Hong Kong has been ranked and retain this “preference”. among the top five IPO centres since 200138. We think Hong Kong is better positioned than other Chart 13. Hong Kong: Market of choice for mainland assets* cities to be China’s major offshore wealth North America, management centre, for five reasons: Europe and other 1 As the top listing destination for Chinese regions 25% companies, it is the preferred offshore investment market for mainland investors seeking exposure to their “home-grown Hong Kong Rest of 60% corporate champions” in a free-market Asia Pacific 15% setting. Ten of the world’s top 20 global IPOs last year took place in Hong Kong, with half the issuers domiciled in China33.. As of the Source: SFC Fund Management Activities Survey 2011 (July 2012), HSBC. * Mainland assets managed in Hong Kong in 2011. end of 2011, almost half of the 1,326 companies listed on HKEx were linked to 3 Hong Kong is good at investing “other people’s China; 13% were H-shares, 8% red chip money”. The city’s attraction to mainland stocks, and 28% non-H-share mainland investors is enhanced by its experience in private enterprises34. servicing regional and global investors. Some 2 Hong Kong is one of the most active fund 60-70% of the city’s fund management raising hubs in the world, with exceptionally business last year was managed on behalf of deep capital markets. For example, it is: one of non-local investors. Of this, mainland assets the top fund management centres in Asia with accounted for USD8bn, around 60% of which a combined fund management business of was invested in Hong Kong. USD1.16trn at the end of 2011, compared to 4 The SAR’s unique economic and policy links Singapore’s USD1.03trn35; the leading hub for to China enhance cross-border financial hedge funds investing in Asia36 ; the largest regulation. As the CNH market has proved, hub for QFII and QDII managers37; and the co-ordination between Hong Kong and ______________________________________ Beijing allows financial regulations to be 32 Capgemini and RCB Wealth Management (“2012 Asia-Pacific Wealth implemented efficiently and swiftly, priceless Report”, September 2012) 33 Source: Dealogic, Thompson Financial, Ernest & Young “Global IPO in a fast-changing market environment. trends 2012”. 34 Source: HKEx. Note: H-share companies are companies incorporated in Mainland China and whose listings in Hong Kong are approved by the 5 Hong Kong is strong on the basics. As a China Securities Regulatory Commission. Red chip companies in contrast are enterprises incorporated outside China but are controlled by Mainland mature and established financial centre, Hong Government entities. Non H-share Mainland private enterprises are those incorporated outside China but controlled by Mainland individuals. Kong has a deep pool of expertise, a simple, 35 Source: HKMA ("Fund Management Activities Survey 2011), July 2012 and MAS ("2011 Singapore Asset Management Industry Survey") June 2012. transparent taxation system39, and a robust 36 By value of hedge fund assets hosted (USD 38.9b) and the number of start-up hedge funds launched in 2011. Source: AsiaHedge. ______________________________________ 37 As of the end of October 2012, there were 159, 21 and 105 approved 38 Source: Hong Kong Stock Exchange (HKEx). investment funds accumulated under the QFII, RMB QFII and QDII schemes 39 For instance, no withholding tax on income distribution, VAT or capital respectively. Source: CEIC. gains tax. 16 email@example.com FIRST LAST 12/15/12 07:05:17 AM Hong Kong Highpower Macro Economics – Hong Kong / China abc December 2012 Chart 14. 71% of China’s overseas investment sits in Hong Kong Chart 15. Two-thirds of China’s FDI came via Hong Kong in 2011 % of total accumulated ODI (2011 annual invested value, USD bn) 70 % of total annual FDI (2011 annual utilized value, USD bn) 70 45 77 60 60 36 50 50 2006 2011 2006 2011 40 40 30 30 20 11 20 10 8 3 3 3 2 1 0 1 1 3 1 0 1 1 10 7 6 6 0 3 3 1 AUS CAN Asia Europe Kazkh Macao RUS Africa FR GER Luxmbg S.Africa HK SG US UK 0 V&C HK Taiwan Japan SG USA Korea GER Source: CEIC, HSBC. V&C = Virgin and Cayman Islands. Source: CEIC, HSBC. and internationally competitive regulatory and The scheme is expected to be launched in a matter legal infrastructure. Decades of experience of months, although the amount involved is still have helped the city to minimise bureaucratic unclear. Foreign hedge funds may be given only red tape, making it attractive to investors and gradual access to the QDLP in order to give the companies seeking to raise funds. local equivalents time to develop sufficient know- how to compete on equal terms. That said, it is To put the size of this opportunity in context, clear that Beijing is keen to tap into the extensive China is already the world’s sixth largest exporter of global reach offered by foreign hedge funds. capital (2011: USD75bn). And, despite the y-t-d decline in FDI inflows, China became the world’s It is likely that the bulk of QDLP flows will be top FDI destination in the first half of this year40 routed through Hong Kong. Over 70% of China’s (USD59bn, compared to USD61bn in 1H11, and outward direct investment sits in Hong Kong, USD116bn for the whole of 2011). which was also the source of two thirds of foreign direct investment entering China last year. As barriers to investment outflows from China continue to be eased, we expect mainland assets to account for an increasingly significant portion of Hong Kong’s fund management business. It’s a golden opportunity for the SAR to bolster the 15% share of GDP and 6% of jobs that its financial sector already provides. Many significant initiatives are already under way, including the proposed Qualified Domestic Limited Partner (QDLP) scheme which will eventually permit foreign hedge fund managers to raise RMB capital from mainland investors and then exchange these funds into foreign currency to invest offshore on their behalf. ______________________________________ 40 “Global Investment Trends Monitor No. 10” 23 October 2012, UNCTAD. 17 firstname.lastname@example.org FIRST LAST 12/15/12 07:05:17 AM Hong Kong Highpower Macro Economics – Hong Kong / China abc December 2012 The tourist dollar Hong Kong is the hottest offshore tourist destination for Chinese holidaymakers Tourism accounts for 15% of Hong Kong’s GDP and 13% of jobs 28m visitors from China arrived in the SAR last year; we expect this to top 50m by 2015 The destination of choice capital controls are loosened. With income growth and spending set to take off on the mainland, Hong Mainland tourism is the hand that keeps on Kong should remain first in line for Chinese giving. Hong Kong receives 26 times more overseas investment and spending for at least mainland visitors than Singapore and 20 times another decade. Besides wealth management (as more than the US. Ever since the introduction of already discussed), tourism, retail, food, and the Individual Visitor Scheme (IVS) in 2003 it has accommodation services should benefit too. been the destination of choice for outbound mainland visitors looking to spend their money Ticket to growth overseas – be it for shopping, property buying, Tourism makes a direct contribution of 7% to both eating, or entertainment. Hong Kong’s economy and job market (2011). The Many of these visitors are also likely to be looking World Travel & Tourism Council estimates that if for new ways to invest their savings, especially as the indirect contribution is included (e.g., aircraft Chart 16. Resident departures projected to rise steeply in China (number of departures shown in chart) Source: CEIC, HSBC; NB: no data readily available for India 18 email@example.com FIRST LAST 12/15/12 07:05:17 AM Hong Kong Highpower Macro Economics – Hong Kong / China abc December 2012 Chart 17. Mainland tourists have always spent the bulk of their budget on shopping (2011 vs. 2003) 80 % 70 70 US tourists Mainland tourists 60 53 50 40 30 18 16 20 13 8 9 10 4 2 4 0.5 0.4 0 Shop Hotel Meal Entz Tour Misc Shop Hotel Meal Entz T our Misc % of US v isitor spending % of Mainland v isitor spending * Black and red columns denote breakdow n in 2011, grey columns in 2003. Source: CEIC, HSBC. NB. Data refers to overnight visitors only. purchases, hotel construction, or IT purchases made Kong ranks tenth in international tourism receipts by sectors dealing with tourists), then the total (see table 2). If you calculate Hong Kong’s tourism contribution to growth and jobs is even higher, at receipts on a per capita basis, it is ranked second 15% and 13%, respectively. (chart 18). While tourism’s contribution to the SAR’s GDP is Chart 18. On a per capita basis, Hong Kong’s ranks second in the world not as high as the finance industry (15%), it employs Tourism recepits per citizen(USD) similar numbers of people and more than the 4,000 >50,000 3,895 professional services sector, including legal, 3,500 accounting and engineering. 3,000 2,500 2,000 1,402 In Asia, Hong Kong’s travel and tourism sector 1,500 1,299 accounts for the fourth-highest share of GDP, behind 1,000 852 709 573 474 373 500 36 Macau, Thailand and Malaysia, and the second- 0 highest share of jobs (after Macau). Globally, Hong Macao France Italy Germany Hong Kong Australia Spain China UK US Source: UNWTO (as of June 2012), IMF, WB, HSBC Table 2. International tourism receipts Local _______ USD ________ currencies Million More expected Billion Change % Change % Popu- Rank 2010 2011* 10/09 11*/10 10/09 11*/10 lation** Of the more than 70m mainland travellers who left Total 927 1,030 8.2 7.7 - - China in 2011, 40% headed for Hong Kong; most 1. US 103.5 116.3 9.9 12.3 9.9 12.3 312 went shopping. The China Tourism Academy 2. Spain 52.5 59.9 -1.2 14.0 3.9 8.6 46 3. France 46.6 53.8 -6.0 15.6 -1.1 10.1 63 (CTA), a government think tank, expects almost 4. China^ 45.8 48.5 15.5 5.8 15.5 5.8 1,347 78m overseas trips to be made by mainland nationals 5. Italy 38.8 43.0 -3.6 10.9 1.4 5.6 61 6. Germany 34.7 38.8 0.1 12.0 5.3 6.7 82 this year. By the end of September, 25m had already 7. UK 32.4 35.9 7.5 10.9 8.4 6.9 63 8. Australia 29.8 31.4 17.4 5.5 -0.2 -6.2 22 been made to Hong Kong41. 9. Macao, China 27.8 .. 53.2 .. 53.5 .. 0.6 10. HK, China 22.2 27.7 35.5 24.7 35.6 25.0 7 ______________________________________ 41 Compared to 28m for the whole of 2011 and 22m in 2010. Source: UNWTO (as of June 2012), IMF, WB, HSBC. *provisional data. ** 2011 data except for Macao, for which 2010 applies. ^ only USD, not local currency data has been used for China. 19 firstname.lastname@example.org FIRST LAST 12/15/12 07:05:17 AM Hong Kong Highpower Macro Economics – Hong Kong / China abc December 2012 Chart 19. Mainland visitors to Hong Kong have been the most Chart 20. Mainland visitors are one of the biggest spending resilient during the recent economic downturn tourist groups in Hong Kong 50 %yoy, 3mma %yoy, 3mma 50 USD, per capita % 40 40 1,200 80 1,000 70 30 30 60 800 50 20 20 600 40 10 10 30 400 0 0 20 200 10 -10 -10 0 0 ME CN AUS US EU SG -20 -20 Shopping expenditure (Lhs) Sep-07 Sep-08 Sep-09 Sep-10 Sep-11 Sep-12 Other expenditure (Lhs) Mainland visitors All other visitors US visitors % total expenditure on retail spending (Rhs) Source: CEIC, HSBC Source: CEIC, HSBC By 2015, we estimate that total departures could Travel Market, October 2012 and European Travel almost double to 134m, which would mean 50m Commission, Autumn 2012). mainland visitors heading to Hong Kong (see For example, almost 60% of the average Chinese Frederic Neumann and Tushar Arora’s Chart of the traveller’s budget is spent on shopping in Paris Week: See you at the beach, August 2011). and Taiwan, but in Hong Kong this rises to over Chinese holidaymakers accounted for 67% of total 70% (see chart 20). visitors to Hong Kong in 2011 (up from 29% in Hong Kong’s status as China’s offshore shopping 2000). The percentage of visitors from the US and destination is not new. As early as 2003, the Europe has fallen from 19% in 2000 to just 7%. average Chinese visitor to the SAR was already Despite China’s slowdown in recent quarters, an spending nearly 70% of their budget on shopping. average of 3.9m mainland travellers visited Hong In 2011, Chinese visitors spent almost USD19bn in Kong every month so far this year, up 16.3% over Hong Kong, equivalent to 7-8% of the city’s GDP; the same period in 2011. of this USD13bn went on shopping. This was more Big spenders than three times the amount they spent on retail therapy in the city five years earlier, and 10 times Tourists from China were the third highest spenders the amount a decade ago. globally last year, splurging USD73bn, not far behind the Germans (USD84bn) and the Americans Come rain or shine (USD79bn). However, their budgets increased the Mainland visitors are a resilient lot. They continue most, jumping 32% y-o-y (source: World Tourism to travel during times of economic distress (chart Organization UNWTO, May 2012). Bearing in mind 19) and also spend more in absolute terms in Hong that their per capita spending is still only 20% of Kong than visitors from other countries (chart 20). how much the average Russian spends on holiday, there is clearly more room for mainland They are not yet the biggest individual spenders, holidaymakers’ budgets to grow. but they are getting there. For example, the average Middle Eastern visitor spends more (HKD8,450 or About a third of their spending on travel goes on USD1,083) than the average mainland visitor shopping, although the percentage varies according (HKD8,220 or USD1,054). But when the total to the destination (source: Euromonitor and World number of visitors is taken into account – over 28m 20 email@example.com FIRST LAST 12/15/12 07:05:17 AM Hong Kong Highpower Macro Economics – Hong Kong / China abc December 2012 Chart 21. Hong Kong’s retail sales and real GDP growth rates Chart 22. Hong Kong forecasts: GDP and retail sales (value) are closely aligned 15 %yoy %yoy 30 25 %yoy 25 10 20 20 15 15 5 10 10 5 0 0 5 -5 -5 0 -10 -10 -15 -5 Mar-00 Mar-03 Mar-06 Mar-09 Mar-12 2006 2007 2008 2009 2010 2011 Real GDP (Lhs) Retail sales vol (Rhs) Real GDP Retail sales (value) Retail sales value (Rhs) Source: CEIC, HSCB Source: CEIC, HSCB from China and less than 200,000 from the Middle the SAR should expect to receive over 53m East last year – it’s clear who offers the greater mainland travellers who could spend USD55bn. support to Hong Kong’s economy. Based on the latest per capita budget breakdown for Shopping by mainland visitors represented a quarter mainland visitors (2011), at least USD38bn of the of retail purchases in Hong Kong in 2011, projected USD55bn should flow to Hong Kong equivalent to 5% of GDP. They flock to Hong Kong retailers. There’s plenty to go around and hotels to avoid domestic import duties, VAT and (USD7bn), food and beverage (USD5bn), consumption taxes on staples and luxury brands. entertainment and cross-boundary passenger Our consumer brands and retail team estimates that transport should all benefit too. more than 50% of handbags and watches sold in If we are right about the USD55bn in mainland Hong Kong are purchased by visitors from China42. tourist dollars by 2015, it would represent around Three years from now 15% of Hong Kong’s GDP. If you add on spending by sectors dealing with tourists, we estimate that Some 70m international trips were made by mainland holidaymakers will be spending the mainland residents last year. Based on our equivalent of 34% of the city’s GDP. estimates, this will nearly double to 134m by 2015 and almost triple to 208m by 2020 (see chart 16). These projections have significant implications for growth because retail sales are an excellent proxy Assuming that the average mainland traveller spends for Hong Kong’s real GDP growth (see chart 21) USD1,054 per trip (last year’s figure43), we expect and tourism-related activities support 15-20% of total annual global spending by Chinese overseas jobs in the economy. travellers to grow from USD73bn last year to USD139bn by 2015. We expect China’s consumption growth to strengthen through 2020. The resilience of income By then, if around 40% of them head first to Hong and private spending growth that we have seen in Kong – as they have done for the last decade – then China since 2010 should continue, underpinned by Beijing’s determination that growth should be driven ______________________________________ 42 See Luxury red bull: A sequel - Chinese shoppers: more excitement, extra by domestic consumers rather than investment. headaches, September 2012. 43 World Tourism Organization estimates that China’s 2011 total tourism expenditure amounted to USD72.6bn. 21 firstname.lastname@example.org FIRST LAST 12/15/12 07:05:17 AM Hong Kong Highpower Macro Economics – Hong Kong / China abc December 2012 As China’s outgoing president Hu Jintao stated at Chart 23. A rising proportion of mainland visitors to Hong Kong are opting not to stay the night the opening of the Chinese Communist Party’s 18th 24 ppl (mn)* ppl (mn)* 24 Congress, the aim is to double the country’s per 20 20 capita income by 2020. Doubling the current nominal level of USD4,94044 (versus USD48,450 in 16 16 the US) should not be a problem. Indeed, we expect 12 12 China’s real income per capita to rise almost seven- 8 8 fold by 2050 (see Consumer in 2050: The rise of the 4 May 2012 4 EM middle class, October 2012). 0 0 From value to volume 2007 2008 2009 2010 2011 2012 Mainland visitors: overnight While we expect mainland travellers to support the Mainland visitors: same-day Mainland visitors: Individual Visitor Scheme Hong Kong economy for many years to come, these Source: CEIC, HKMA, HSBC. *12-month rolling sum. visitors are already to starting to change their habits. For example, visits are becoming more frequent and As chart 23 shows, growth in the number of same- shorter and purchases are moving away from luxury day visitors is closely correlated to that of goods to more routine items. mainlanders entering the SAR via the Individual In a recent report on Chinese shoppers, HSBC’s Visitor Scheme (IVS). head of consumer brands and retail research, Erwan Mainland travellers used to only be able to visit Rambourg, said Hong Kong is slowly evolving into Hong Kong either on a business visa or in a volume rather than value driven destination (see organised tour groups. With the launch of the IVS Luxury red bull: A sequel, September 2012). This in July 2003, they were allowed to travel to the trend emerged in May 2011, when for the first time SAR on an individual basis, triggering a huge on an annualised basis Hong Kong received more surge in numbers. The scheme, originally same-day than overnight visitors from China. We launched in 10 mainland cities, has been think this trend is here to stay for reasons related to expanded multiple times since 2003 and now policy and a shortage of hotel accommodation. covers 49. Although a recent attempt to loosen visa procedures for non-residents in a further six Chinese cities close to Hong Kong has been delayed, we see further relaxation of travel policy as inevitable. This, in turn, should encourage increasingly numbers of mainland travellers to visit Hong Kong. At the same time, a shortage of hotel rooms is pushing up room prices and will likely lead to a long-term rise in same day rather than overnight travel. Hong Kong’s hotel occupancy rate of ______________________________________ around 90% is amongst the highest in Asia, well 44 World Bank GNI per capita (Atlas method, current USD), 2011. ahead of 50% in Bangkok, 80% in Taipei and below 80% in Seoul. With property prices at a 22 email@example.com FIRST LAST 12/15/12 07:05:17 AM Hong Kong Highpower Macro Economics – Hong Kong / China abc December 2012 record high and land in downtown locations scarce, Mainland import tax would not hotel capacity is unlikely to be expanded fast cut off mainland visitor inflows enough to accommodate the growing influx of Lowering or eliminating certain types of mainland visitors in the next few years. consumption tax has been discussed for some time, As travel restrictions are further relaxed and but no significant changes have been made. While transport costs fall, the income entry point for the China’s ascension to the WTO saw tariffs on average mainland traveller to Hong Kong should imported luxury goods fall from 2005, they are gradually come down. There are signs that this still in low double-digits. trend is already starting to change the spending With Beijing’s renewed focus on boosting habits of the average mainland visitor. domestic demand, it’s likely some progress will be Luxury goods such as watches and jewellery are made in the coming years. But we don’t think this still very popular with the wealthy, but lower-end will significantly reduce Hong Kong’s appeal as a goods such as baby milk powder and cosmetics shopping centre for the following reasons: tend to dominate the shopping lists of mass market 1 Price differences: Even if a tax cut of shoppers as a wider variety of non-mainland between 10% and 30% were proposed, Hong branded goods is available. In recent months, Kong would still be considerably cheaper. For China’s economic slowdown probably made the example, high-end cosmetics sold in China big spenders more reluctant to open their wallets, are 60-70% more expensive than in Hong but the growing attraction of the shopping centres Kong. If import taxes were reduced, as has closer to the mainland border (e.g., Sheung Shui or been proposed, shoppers would still have to Shatin) suggest that a new retail landscape is pay two other taxes – VAT of around 17% emerging. Popping into Hong Kong to buy basic and consumption tax of up to 30% for luxury goods is likely to become the norm. The good news fashion items. is that higher transaction volumes of lower margin products (e.g. supermarket sales) tend to generate 2 Better choice: The range of goods on sale is more jobs than lower volumes of higher margin far wider in Hong Kong than in China, where luxury goods. certain products (e.g., cosmetics) have to undergo complicated registration processes. Same-day travel makes a lot of sense. Most tourist attractions (e.g., Disneyland and Ocean Park) take 3 Shopping experience: Even if luxury only a day and the money saved on a hotel room spending by mainland tourists were to decline, means more money to spend elsewhere. We think their total number would likely still rise the increase in visitor inflows from China will in substantially in the coming years because of future be driven more by same-day (volume) than the differentiated shopping experience in overnight (value) visits. Hong Kong. Higher visitor inflows inevitably put more pressure 4 Possible price hikes: Lowering consumption on Hong Kong’s capacity. This is already evident in taxes in China is no guarantee that mainland transport (e.g., MTR and taxis) and health (e.g., retailers would not simply increase prices. hospitals) systems. This is a challenge that will Foreign luxury brands would probably raise require effective policy responses and continuous their prices to maintain an exclusive image. upgrading of urban infrastructure for years to come. 23 firstname.lastname@example.org FIRST LAST 12/15/12 07:05:17 AM Hong Kong Highpower Macro Economics – Hong Kong / China abc December 2012 Servicing China Hong Kong’s future as a trade hub lies in services, not goods This change will be driven by China’s growing appetite for imports The SAR’s logistics service industry is set to grow by double-digits through 2017 From exports to imports assembly products at 27% and ordinary end use products 58%. Some 20% of Hong Kong’s GDP and 15% of its jobs are products of the import and export business. This means that irrespective of when the global If related logistics and professional business services trade cycle recovers to pre-2007 levels, China’s are included, the numbers become even higher. swelling domestic demand should keep the SAR’s trade logistics service providers busy for years to Hong Kong’s position as a prime Asian trading hub come. It also means that Hong Kong’s logistics has always relied on China’s status as a net exporter service industry is likely to continue to expand for of goods to the West. But this is changing and we at least another 5-10 years. expect it will increasingly be driven by China’s transition to becoming a net importer, which could The big difference is that as China’s per capita happen in the next 10 years. income rises and financial reforms pick up pace, mainland customers will want more than trade- Fifteen years ago, imports for “processing and related services. They will require an increasing assembly” accounted for 52% of China’s imports, array of other services to go with a growing range and ordinary “end use” products for 27%. By last of imported goods. The experience of other year, this ratio had reversed, with processing and Chart 24. China’s imports are no longer only for assembly Chart 25. Strong correlation between the US’ per capita processing income growth and its services consumption share of GDP USD bn, 3mma, sa 30,000 USD (current prices) % 48 100 90 25,000 80 43 70 20,000 60 50 15,000 38 40 10,000 China in 2020 30 33 20 5,000 China in 2010 10 0 28 0 1967 1977 1987 1997 2007 96 98 00 02 04 06 08 10 12 US Per capita income (Lhs) Ordinary imports Processing imports US Services consumption % of GDP (Rhs) Source: CEIC, HSBC Source: CEIC, U.S. Census Bureau, HSBC 24 email@example.com FIRST LAST 12/15/12 07:05:17 AM Hong Kong Highpower Macro Economics – Hong Kong / China abc December 2012 Chart 26. Hong Kong’s goods exports exposure is weighted disproportionately to China, but its services exports are more evenly spread between the US, China, and the rest of Asia % of total merchandise ex ports % of total serv ices ex ports 60 30 27 52 50 25 21 40 20 16 30 15 12 20 14 10 6 8 11 10 7 4 5 3 2 0 0 CN US Asia* W.EU^ JP Germany UK CN US Asia* W.EU^ JP UK 1995-1998 1999-2003 2004-2008 2009-2011 1995-1998 1999-2003 2004-2008 2009-2010 Source: CEIC, HSBC. * Asia excluding China and Japan. ^ Western Europe excluding the UK. NB: services export data not available for Asia and Western Europe before 1999. developed economies like the US (chart 25) Services are the future suggests that consumption of services will Gross exports amount to 230% of Hong Kong’s increase in line with rising income levels. GDP (2011: 180% goods and 50% services), so any China’s services consumption equates to around shock to global trade flows would hurt the 14-15% of GDP today. This compares to 33% in economy. However, it is often forgotten that over the US in 1975, when US per capita income was at three quarters of its merchandise shipments are not a similar level (around USD5,000). We expect the produced within the SAR. This means that net share of services consumption in China’s GDP to exports as a share of GDP is arguably a better rise alongside per capita income growth. Moreover, measure of Hong Kong’s true exposure to trade. compared to the US, the pace of increase will likely And on this basis, it is clear the SAR has been be steeper thanks to a lower starting base. gradually shifting away from goods towards China accounts for over half of Hong Kong’s services since the late 1990s. merchandise exports but only around a quarter of The city has a net trade deficit for goods, equating its services exports. By 2020, it’s likely that China to 23% of GDP; for services, it has a net trade will be responsible for around three quarters of surplus of around 27% of GDP (2011). At the both Hong Kong’s goods and services exports. same time, the contribution of net goods exports Chart 27. Hong Kong’s trade exposure shifting away from Chart 28. Breakdown of Hong Kong’s services exports goods to services 30 % of GDP % of total 100 20 25 33 32 30 80 10 60 32 27 0 31 31 40 22 22 -10 22 21 20 20 15 16 21 -20 0 -30 1995-1998 1999-2003 2004-2008 2009-2011 3Q98 3Q00 3Q02 3Q04 3Q06 3Q08 3Q10 3Q12 Trav el FIB* Transport Trade Net merchandise exports Net services exports Source: CEIC, HSBC Source: CEIC, HSBC. *Financial, insurance and business services. 25 firstname.lastname@example.org FIRST LAST 12/15/12 07:05:17 AM Hong Kong Highpower Macro Economics – Hong Kong / China abc December 2012 to real GDP growth has turned increasingly Table 3. Hong Kong ranks No 3 as a global container port (2011) negative, in contrast to the 1980s when Hong _____ Million TEUs ______ Kong used to produce over 60% of goods that it Rank Port, Country 2010 volume 2011 volume exported, compared to 2% today. 1. Shanghai, China 29.1 31.7 2. Singapore, Singapore 28.4 29.9 Hong Kong’s strength in services exports 3. Hong Kong, China 23.7 24.4 4. Shenzhen, China 22.5 22.6 currently lies in trade, accounting for 29% of total 5. Busan, South Korea 14.2 16.2 6. Ningbo-Zhoushan, China 13.1 14.7 services exports last year. Transportation is the 7. Guangzhou, China 12.6 14.3 second most important, making up 27% of all 8. Qingdao, China 12.1 13.0 9. Jebel Ali, Dubai, UAE 11.6 13.0 services sold to foreigners last year. Travel 10. Rotterdam, Netherlands 11.1 11.9 services came third (23%) followed by financial, Source: World Shipping Council insurance and business services, which make up the remaining 21% today (see chart 28). As its port business matures, Hong Kong needs to reduce its reliance on trade and target sectors where Time to adapt China lacks the skills, infrastructure and experience. Hong Kong’s success as a services exporter still This will involve developing services exports in relies heavily on trade, but this is changing. The areas such as education, business advisory, financial international container port market has become risk and compliance, IT infrastructure and increasingly crowded and the SAR is no longer the international legal and fiduciary expertise. top provider of trade processing services to China. Tailor-made Hong Kong lost its No 2 place in global port Each year, around 15m rural labourers are expected rankings to Shanghai in 2007, which has since to flow into China’s urban areas46. At the same overtaken Singapore to become No 1. Since then time private enterprise should find it easier to grow Hong Kong has faced increasingly fierce and the growing middle class will become richer competition from rival mainland cities in southern and more sophisticated. This means demand for China, a region from which 70% of its container Hong Kong’s expertise – everything from business traffic comes. logistics to wealth management to legal services, to At ports like Shenzhen most container traffic marketing and urban planning – is set to boom. consists of direct shipments, but 60% of Hong The key to tapping into China as a services export Kong’s throughput is transhipments, which means market is being able to adapt to the country’s it is counted twice. According to the Hong Kong customs, practices and consumer attitudes. Hong Container Terminal Operators Association, if only Kong service providers are already starting to take direct shipments are counted, the SAR lost its No 3 advantage of these opportunities. global ranking to Shenzhen several years ago45. Education is a good example. Helped by the government adjusting immigration policy to make it easier for mainlanders who graduate in Hong Kong to get jobs, education providers have been busy marketing their services in China. Hong ______________________________________ 46 Assuming China’s urbanization ratio reaches 70% within two decades, as ______________________________________ per projections from the Development Research Center of the State Council 45 Source: South China Morning Post, 26 November 2012. (Financial Research Institute). 26 email@example.com FIRST LAST 12/15/12 07:05:17 AM Hong Kong Highpower Macro Economics – Hong Kong / China abc December 2012 Kong universities are integrated into the mainland Numerous supplementary agreements have been admissions and have started to establish joint signed since, further liberalising cross-border ventures with Chinese universities to offer Hong economic activity. The most recent development Kong-accredited degrees inside mainland was the September 2012 launch of the Qianhai campuses47. As a result, over 90% of Hong Shenzhen-Hong Kong Modern Service Industry Co- Kong’s non-local student population today comes operation Zone. This is intended to strengthen from China48. collaboration between Hong Kong, Shenzhen and the Pearl River Delta in helping high-end service A helping policy hand industries to enter mainland markets, and increase In 2003, China and Hong Kong signed their first the international use of the RMB. free trade agreement, otherwise known as the Hong Kong is the only significant offshore market Closer Economic Partnership Agreement (CEPA). with such favoured access to China’s onshore This helped to lower or eliminate barriers to the markets. This makes all the more important for free flow of goods, services, and both human and Hong Kong’s service providers to make the most financial capital between the two sides. of this advantage. We are confident they will. The agreement offered three things: 1) tariff free treatment of a wide range of merchandise; 2) preferential treatment for Hong Kong service providers entering China’s markets (including mutual recognition of professional qualifications); and 3) facilitation of trade and investment cross- border initiatives. ______________________________________ 47 For instance, a recent venture by the Hong Kong Baptist University and Beijing Normal University offering a liberal arts bachelor’s degree in English at a campus in Zhuhai. 48 For more discussion, see "Exporting higher education services: An engine of growth for Hong Kong?" by Glenn Shive. Hong Kong Journal, Spring 2010. 27 firstname.lastname@example.org FIRST LAST 12/15/12 07:05:17 AM Hong Kong Highpower Macro Economics – Hong Kong / China abc December 2012 Of bricks, mortar and bubbles The influence of mainland buyers on Hong Kong’s real estate market is long term This is because of income growth, demographics and supply- demand imbalance Price stability in the housing market is important for home-owners as well as the SAR’s overall economic well-being Why mainland property 40% compared to the previous week49. Weekly buyers are here to stay transaction volumes revived slightly in the two weeks thereafter, before falling again to a near- Mainland buyers have been exerting increasing one year low level. influence on Hong Kong’s residential property market. They now account for 30% of the luxury Meanwhile, a recent survey conducted by market and 10-20% mass residential market Midland Holdings showed that 62% of 229 (source: Centaline), leading to concerns that they respondents from China plan to hold off property are helping to create a property bubble. purchases in Hong Kong for the next six months, another 35% remain in “wait and see” mode, and In October, the Hong Kong government around 3% appear to have written off buying responded by introducing a Buyer’s Stamp Duty property in the SAR altogether. (BSD) of 15% for all residential purchases by non-Hong Kong permanent residents or We need to see more data over a longer period to companies (see Hong Kong Real Estate: A step-up assess the near to medium term outlook for the in housing policies, 29 October). At the same city’s property market. For example, a month after time, it raised the rates and extended the period the introduction of the SSD, secondary property covered by the Special Stamp Duty (SSD) transactions were still up. For the next 12 months introduced in November 2010. they drifted down but prices stayed resilient and then rose again throughout the following year. The latest measures came into effect on 27 October but the data has been too volatile for any Whatever happens in the next 12 months or so, we clear trend to emerge. For example, in the first think the influence of mainland buyers is here to week, secondary flat sale transactions dropped by ______________________________________ 49 In a survey of 50 selected housing estates monitored by local estate agency Ricacorp Properties. 28 email@example.com FIRST LAST 12/15/12 07:05:17 AM Hong Kong Highpower Macro Economics – Hong Kong / China abc December 2012 Chart 29. Hong Kong’s property supply is expected to fall short Chart 30. Despite record high property price levels, Hong Kong’s of demand for at least another few years banking system is structurally sounder than before 40,000 8% 12 % Tightening of maximum 225 units) % % loan to value ratio 200 35,000 7% 10 for mortgages 175 30,000 6% 8 150 25,000 5% 125 6 100 20,000 4% 4 Global Financial Crisis 75 15,000 3% 50 2 10,000 2% 25 5,000 1% 0 0 01-Mar-97 01-Mar-00 01-Mar-03 01-Mar-06 01-Mar-09 01-Mar-12 0 0% 1990 1993 1996 1999 2002 2005 2008 2011 Residential mortgaga: delinquency ratio* (Lhs) Doubtful, substandard or loss, as % of total loans (Lhs) Supply Take-up Vacancy Residential property pric e index (1999=100) (Rhs) Source: CEIC, HSBC property research estimates Source: CEIC, HSBC. * > than 3 months stay for reasons of income growth, demographics Ultimately, more housing is needed to address the and supply-demand imbalance (see chart 29). imbalance between supply and demand. This is something that the government has started to In our view, mainland income levels will continue address but it will likely take another 3-4 years to grow at double-digit rates for at least another before the new supply of housing has any impact. decade, partly because of supportive government measures and China’s changing labour market In the longer term, although Hong Kong’s supply dynamics. As restrictions on mainlanders’ population growth is expected to decline, the ability to travel to and invest in Hong Kong are absolute size of the total population will still likely further relaxed their investment in Hong Kong expand through 2040. This, along with the property should increase. additional demand from mainland migrants, should support the long-term property market outlook. Regarding demographics, of the 270,000 plus mainland mothers who have given birth in Hong Meanwhile, despite record high property prices, the Kong since 2000, 50-60% are planning to send banking system shows no signs of strain. For their children back to Hong Kong before the age example, the residential mortgage delinquency ratio of 20 (source: Hong Kong Census and Statistics has been at a record low for the last two years, Department). As more than 60% of the fathers of around 0.01%, compared to its previous peak of over these children work as managers/administrators 1.4% in 2001 (see chart 30). and professionals, it is possible that the return of The vulnerability of owners to unexpected price their Hong Kong born offspring will result in fluctuations has been reduced since the government more (mass market) residential home purchases. tightened the mortgage loan-to-value ratio in 200950. We think property prices will continue to be This has given home-owners a greater buffer against supported by loose liquidity conditions and low the risk of negative equity, as they had to put down mortgage rates, which will likely remain at least more equity up front, and enabled banks to better through 2014 thanks to accommodative US Fed manage the credit risk associated with their policies. Limited supply, at least until 2015, should also help. ______________________________________ 50 From 70% to 50% for homes worth more than HKD10m, to 60% for homes worth HKD7-10mm and to 70% for homes worth less than HKD7m. 29 firstname.lastname@example.org FIRST LAST 12/15/12 07:05:17 AM Hong Kong Highpower Macro Economics – Hong Kong / China abc December 2012 mortgage portfolios. Over half of all households in dominant drivers at play. Where asset prices are Hong Kong are owner-occupiers51. concerned, multiple rounds of aggressive monetary easing in the West, as well as in Japan, Housing affordability (see chart 31) also remains have increased liquidity in emerging Asian close to, or more favourable than its long term trend, markets. This has fanned asset prices, not only in thanks to an ultra-low interest rate environment. Hong Kong but across the rest of emerging Asia, Chart 31. Housing affordability remains close to or more including Taiwan, Singapore, China and Korea. favourable than the long-term average 120 % % 120 For the last few years, frothy property markets 100 and rising inflation rates have been just as less affordable 80 70 prevalent in other parts of Asia, where there is 60 greater exchange rate flexibility. 40 20 For example, in Singapore, where a floating 20 exchange rate system is in place, inflation 0 -30 averaged 4.7% during the first 10 months of this Oct-94 Oct-97 Oct-00 Oct-03 Oct-06 Oct-09 Oct-12 year, above the 4.2% recorded in Hong Kong Household Affordability Ratio (Private) Household Affordability Ratio (Overall) during the same period. Both economies saw Source: CEIC, HSBC. * dotted lines denote long-term historical averages. private residential property prices grow at a double digit pace throughout 2010 and 2011, both How to control bubbles have imposed stamp duties on purchases by The peg is not the issue foreigners in the last 12 months, but both are still seeing property prices persist at record high Unlike other central banks in the region that can levels. As of the end of 3Q12, residential prices in lower or raise interest rates to control inflation, Singapore were 14.7% above their last peak in 2Q the HKMA’s hands are tied by the SAR’s 1996, and in Hong Kong they were 11.8% above currency board system (or linked exchange rate their last peak in 2Q 1997. system, LERS) which acts as a de facto peg of the HKD to the USD. Besides excessively loose global monetary conditions, other drivers have stoked asset and However, while exchange rate flexibility is often consumer price inflation in Asia. In Hong Kong, viewed as a defence against overheating, it’s not the strong growth, higher wages and food prices have only means of achieving macroeconomic balance. fanned CPI inflation just as much as rising Fiscal consolidation can also be used to temper property rental costs. Demographics, land and demand and curtail demand side inflationary housing supply, and household income, pressures. This also allows governments to stock up meanwhile, have all contributed to the steady on fiscal ammunition that can be used later to deal increase in demand for property. with any shocks (see A fiscal dilemma: Save it or spend it?, 24 February 2012). Is the peg still relevant? The argument that the peg is the top driver of With the RMB accounting for almost a tenth of asset and consumer price inflation in Hong Kong bank deposits, some may wonder if the HKD peg to is flawed, in so far as that there are other more the USD is still relevant. We think it is. Of course, ______________________________________ it ties Hong Kong’s monetary policy to that of the 51 Source: HK Censtatd. 52% of domestic households were owner- occupiers at the end of 3Q12, down from 53% at the end of 2011 and 2010. US. But, as the International Monetary Fund stated 30 email@example.com FIRST LAST 12/15/12 07:05:17 AM Hong Kong Highpower Macro Economics – Hong Kong / China abc December 2012 after its consultation in June 2012: “The Linked housing unit supplies to the property market (as Exchange Rate System is simple, credible, already initiated by the government). Third, it can transparent, is widely understood, and merits take measures to diversify Hong Kong’s food continued support”. sources and enhance productivity to alleviate inflationary risks. From a legal perspective, any review of the SAR’s current monetary system would need a review of the Finally, the Hong Kong economy can always Basic Law (Articles 111 and 113), Hong Kong’s depend on its tried and tested resilience in coping mini-constitution, which assigns the HKD as legal without monetary policy flexibility, as tender and the government as guardian of the city’s demonstrated over 1998-2004 when the SAR exchange rate stability, at least through 2047 (after endured almost six years of continuous deflation which the Basic Law will no longer be in force). after the Asian financial crisis. This structural adjustment was all the more painful as the city was From a practical perspective, there is simply no struggling to revive growth in a tight liquidity better alternative. For one, a basket comprising environment for most of this period (thanks to US currencies from Hong Kong’s biggest trading Fed policies), alongside neighbours who were able partners would not necessarily offer more to devalue their currencies in support of trade. monetary policy control, given the exceptionally low level of global, not just US, interest rates. For Ultimately, inflation can be considered as “pay- another, the RMB is not yet fully convertible, back” for healthy economic growth. To an extent, making it an inappropriate candidate for legal it provides some form of counter-balance to an tender in a system that is not legally allowed to economy in danger of going into overdrive. establish capital controls. Article 112 of the Basic Inflation is rarely an issue when growth and law states: “No foreign exchange control policies household demand is weak, for lack of demand- shall be applied … (and that) The Government… side price pressures. shall safeguard the free flow of capital within, into As safe as houses and out of the Region”. The stability of the housing market is important We continue to expect the HKMA to maintain the not only for home-owners, but also for Hong integrity of its currency system. After all, if it ain’t Kong’s overall economic well-being. That is broke, why fix it? (see Asian FX Focus: HKD peg because the sensitivity of consumer spending to still fits, 31 October 2012). asset prices is amongst the highest in Asia (see Not without options charts 32 and 33). If property prices in Hong Any form of capital control would risk jeopardising Kong had suffered a sharper dip during the 2008 the stability of Hong Kong’s financial services downturn, private household spending would sector, which is underpinned by the free movement unlikely have been strong enough to enable Hong of capital in and out of its banking system and drives Kong’s subsequent rebound, and continued one-quarter of its economy. growth since (see Hong Kong: Swinging back up: GDP accelerates in 3Q12, November 2012). That said, the SAR isn’t without options. First, it can use a mix of macro-prudential and relative fiscal prudence to temper aggregate demand (see Hong Kong Real Estate: A step-up in housing policies, 29 October). Second, it could increase land or public 31 firstname.lastname@example.org FIRST LAST 12/15/12 07:05:17 AM Hong Kong Highpower Macro Economics – Hong Kong / China abc December 2012 Chart 32. Impact on private consumption spending from a Chart 33. Impact on private consumption spending from a 10% rise in Hong Kong’s residential property price index 10% rise in Hong Kong’s equity index Percent impact on private consumption Percent impact on private consumption 0.66 0.7 0.65 0.59 0.7 0.57 0.6 0.53 0.50 0.6 0.52 0.47 0.44 0.5 0.5 0.41 0.36 0.4 0.32 0.4 0.3 0.24 0.22 0.3 0.25 0.19 0.2 0.2 0.14 0.08 0.05 0.1 0.1 0 0.0 Hong Kong* Korea* China* Malaysia* US* Thailand* Taiwan* Indonesia* Singapore* India* Hong Kong* Malaysia* Korea* Thailand* China Taiwan* Singapore* Indonesia* Philippines* Source: HSBC Source: HSBC It is still difficult for mainlanders to invest in offshore equity assets but for those that do have stock portfolios in Hong Kong, there is no reliable data about exactly how they invest their money. As with the property market, we think it is safe to say that the anticipated rise in mainland migrants and capital inflows into Hong Kong should support the city’s equity market. 32 email@example.com FIRST LAST 12/15/12 07:05:17 AM Hong Kong Highpower Macro Economics – Hong Kong / China abc December 2012 Notes 33 firstname.lastname@example.org FIRST LAST 12/15/12 07:05:17 AM Hong Kong Highpower Macro Economics – Hong Kong / China abc December 2012 Notes 34 email@example.com FIRST LAST 12/15/12 07:05:17 AM Hong Kong Highpower Macro Economics – Hong Kong / China abc December 2012 Disclosure appendix Analyst Certification The following analyst(s), economist(s), and/or strategist(s) who is(are) primarily responsible for this report, certifies(y) that the opinion(s) on the subject security(ies) or issuer(s) and/or any other views or forecasts expressed herein accurately reflect their personal view(s) and that no part of their compensation was, is or will be directly or indirectly related to the specific recommendation(s) or views contained in this research report: Donna Kwok Important Disclosures This document has been prepared and is being distributed by the Research Department of HSBC and is intended solely for the clients of HSBC and is not for publication to other persons, whether through the press or by other means. 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MICA (P) 038/04/2012, MICA (P) 063/04/2012 and MICA (P) 206/01/2012  36 email@example.com FIRST LAST 12/15/12 07:05:17 AM Hong Kong Highpower abc Global Economics Research Team Global Global Emerging Markets Stephen King Pablo Goldberg Global Head of Economics Head of Global EM Research +44 20 7991 6700 firstname.lastname@example.org +1 212 525 8729 email@example.com Karen Ward Bertrand Delgado Senior Global Economist EM Strategist +44 20 7991 3692 firstname.lastname@example.org +1 212 525 0745 email@example.com Madhur Jha Emerging Europe and Sub-Saharan Africa +44 20 7991 6755 firstname.lastname@example.org Murat Ulgen Europe & United Kingdom Chief Economist, Central & Eastern Europe and sub-Saharan Africa +44 20 7991 6782 email@example.com Janet Henry Chief European Economist Alexander Morozov +44 20 7991 6711 firstname.lastname@example.org Chief Economist, Russia and CIS +7 495 783 8855 email@example.com Simon Wells Chief UK Economist Artem Biryukov +44 20 7991 6718 firstname.lastname@example.org Economist, Russia and CIS +7 495 721 1515 email@example.com John Zhu +44 20 7991 2170 firstname.lastname@example.org Agata Urbanska Economist, CEE Germany +44 20 7992 2774 email@example.com Stefan Schilbe +49 211910 3137 firstname.lastname@example.org Melis Metiner Economist, Turkey France +90 212 376 4618 email@example.com Mathilde Lemoine +33 1 4070 3266 firstname.lastname@example.org Middle East and North Africa North America Simon Williams Chief Economist Kevin Logan +971 4 423 6925 email@example.com Chief US Economist +1 212 525 3195 firstname.lastname@example.org Liz Martins Senior Economist Ryan Wang +971 4 423 6928 email@example.com +1 212 525 3181 firstname.lastname@example.org Latin America David G Watt +1 416 868 8130 email@example.com Andre Loes Chief Economist, Latin America Asia Pacific +55 11 3371 8184 firstname.lastname@example.org Qu Hongbin Argentina Managing Director, Co-head Asian Economics Research and Javier Finkman Chief Economist Greater China Chief Economist, South America ex-Brazil +852 2822 2025 email@example.com +54 11 4344 8144 firstname.lastname@example.org Frederic Neumann Ramiro D Blazquez Managing Director, Co-head Asian Economics Research Senior Economist +852 2822 4556 email@example.com +54 11 4348 5759 firstname.lastname@example.org Leif Eskesen Jorge Morgenstern Chief Economist, India & ASEAN Senior Economist +65 6658 8962 email@example.com +54 11 4130 9229 firstname.lastname@example.org Paul Bloxham Brazil Chief Economist, Australia and New Zealand Constantin Jancso +61 2925 52635 email@example.com Senior Economist Donna Kwok +55 11 3371 8183 firstname.lastname@example.org +852 2996 6621 email@example.com Mexico Trinh Nguyen Sergio Martin +852 2996 6975 firstname.lastname@example.org Chief Economist +52 55 5721 2164 email@example.com Ronald Man +852 2996 6743 firstname.lastname@example.org Claudia Navarrete Economist Luke Hartigan +52 55 5721 2422 email@example.com +612 9255 2635 firstname.lastname@example.org Central America Sun Junwei Lorena Dominguez +86 10 5999 8234 email@example.com Economist +52 55 5721 2172 firstname.lastname@example.org Sophia Ma +86 10 5999 8232 email@example.com Su Sian Lim +65 6658 8963 firstname.lastname@example.org Izumi Devalier +852 2822 1647 email@example.com firstname.lastname@example.org FIRST LAST 12/15/12 07:05:17 AM Hong Kong Highpower Donna Kwok Economist, Greater China The Hongkong and Shanghai Banking Corporation Limited +852 2996 6621 email@example.com Donna Kwok is a Greater China Economist for HSBC Research, based in Hong Kong. Before joining HSBC in 2010, Donna worked as an economist for the Hong Kong-China equities research arm of a global research provider. Prior to that, she was East Asia analyst at Strategic Forecasting (US) and a strategy consultant at Deloitte Consulting (London). Donna holds a Master of Arts in International Relations (Economics and China Studies) from Johns Hopkins University School of Advanced International Studies, and a Bachelor of Arts (Hons) in Economics and Management from Oxford University.
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