FOCUS ON HONG KONG

Notes of Chapter One

1.- in Civilization and Capitalism - translation from the French by Siân Reynolds (Fontana Press 1985).

2.- The bridge would connect Hong Kong to Macao and Zhuhai, across the estuary of the Pearl River. The anchor point in Hong Kong would be on Lantau Island. It would open in 2006 at the earliest. The concept was first put as a proposal in the 1980's by Gordon Wu, a Hong Kong construction tycoon.

3.- Shenzhen, in the suburb of Hong Kong, is a city of 4.7 million people. It is a 20 year-old town established at the request of Deng Xiao-ping. Its growth has been spectacular. It is not a cramped city with badly designed infrastructures, but large avenues and a modern conception of what a urban development should be. The modernity of the city is best expressed by one ratio. The number of telephone users per inhabitant in Shenzhen is higher than in Hong Kong. There are 6.1 million telephone users in Shenzhen (1.29 telephone per people) against 6.3 million users in Hong Kong (0.94 telephone per people). Hong Kong claims to have the highest penetration of mobile phone in the world. Actually, it is probably Shenzhen.

4.- In Asian Affairs nº 11, Li Zibin, then Mayor of Shenzhen (1995-2000) was highly critical of the administration of Hong Kong. ‘Shenzhen does not need Hong Kong’s money any more, he was saying. The period when we did not have enough to invest is over. Here, we believe to develop together our potential will be much more efficient than wasting both our energy like we do every day because the Hong Kong officials react and move very slowly (…). The consciousness and acknowledgment of the necessity for Hong Kong to restructure its economy and industry came very late. If the financial crisis hadn’t passed through, Hong Kong would yet have to realize it has to restructure. To some extent, the crisis has somehow helped Hong Kong to make up its mind. The second reason why Hong Kong is not efficient is that the Hong Kong financial, tourism and trade sectors are doing well. But its manufacturing sector is still under developed, not to mention its high-tech development industry, which has yet to create something. The financial crisis warned Hong Kong that in its economy the bubble element takes too much place. (…) but some people at some level who deal with these questions in Hong Kong do not adhere to the view that to develop a closer relationship with Shenzhen and to harmonize the build-up of high value industries will be beneficial for both. They look down on Shenzhen, and although we repeatedly emphasized the opportunities for each side to benefit each other, they really believe that they will do well on their own. In a way, they are just keeping an old colonial mentality. They still ignore the fact that Shenzhen can develop without Hong Kong. We have had a 15% economic growth annually for the past ten years; not many cities in the world can put forwards such an outstanding performance. With cooperation we could improve that, yet they don’t see the point!’

In the same interview, Li Zibin, who was already appointed Vice-Minister in charge of the Go-West policies noted that Hong Kong, in 2000, was not yet conscious that Guangzhou, Shenzhen, Zhuhai, Macao, Dongguan, Foshan and the entire Pearl River Delta would in the next twenty years become a single urban zone as large as Los Angeles. Two years after such remarks, C.H. Tung listed the construction of a bridge linking Hong Kong to Macao as a fundamental necessity for the economy of Hong Kong.

5.- Not all cities survived the shift of the center of the world-economy they used to control. Some were destroyed by competing cities - such was the fate of Carthage. The Roman world is full of former world-cities. Palmira in Syria and Volubilis in Morocco are classic examples of lost cities because the trade pattern shifted. Closer to the modern world, Zanzibar in Africa, Galle (Sri-Lanka) or Calcutta are also examples of cities that have lost their economic importance, although both are much bigger cities than they were at their heyday.

6.- The British economist David Ricardo (1772-1823) was one the most important figures in the development of economic theory. He articulated and rigorously formulated the “Classical” system of political economy. The legacy of Ricardo dominated economic thinking throughout the 19th Century. On foreign trade, Ricardo set forth his famous theory of comparative advantage.

Using his famous example of two nations (Portugal and England) and two commodities (wine and cloth), Ricardo argued that trade would be beneficial even if Portugal held an absolute cost advantage over England in both commodities. Ricardo’s argument was that there are gains from trade if each nation specializes completely in the production of the good in which it has a “comparative” cost advantage in producing, and then trades with the other nation for the other good. Notice that the differences in initial position mean that the labor theory of value is not assumed to hold across countries as it should be, Ricardo argued, because factors, particularly labor, are not mobile across borders. As far as growth is concerned, foreign trade may promote further accumulation and growth if wage goods (not luxuries) are imported at a lower price than they cost domestically thereby leading to a lowering of the real wage and a rise in profits. But the main effect, Ricardo noted, is that overall income levels would rise in both nations regardless.

With his 1817 treatise, Ricardo took economics to an unprecedented degree of theoretical sophistication. He formalized the Classical system more clearly and consistently than anyone before him had done. He acquired a substantial following in Great Britain and elsewhere, what became known as the “Classical” or “Ricardian” School. Ricardo’s theory gradually fell out of favor, and died a slow death soon after the Marginalist Revolution of 1871-74.

7.- Founded in 1973, the Heritage Foundation is an archconservative think tank whose mission is to formulate and promote conservative public policies based on the principles of free enterprise, limited government, individual freedom, and other so-called traditional American values. What the Foundation appreciates in Hong Kong is the fact that the government policies are always with a view to maximize return on investments for the investors. It concludes that Hong Kong is a free economy because monopolies and oligopolies are allowed to fix the rules of the market without intervention from the government. The yearly ranking has little credence among scholars, because the Heritage Foundation is a partisan think-tank funded by lobbyists. Their publications have generally little scientific value.

8.- One sector that came under scrutiny more often than others is the oil products industry. The Consumer Council indicated in 1998 that 'the oil products industry is highly concentrated and largely vertically integrated, with three oil companies holding over 70% of the piped and wholesale cylinder LPG market, 90% of the motor gasoline market, and 80% of the diesel market. It is characterized by relatively small total demand, limited growth opportunities, and barriers to entry such as the need to achieve economies of scale in storage and retail and the high cost of land. As such the three product markets can be characterized as oligopolies. Theoretically, the consequences of this form of market structure can lead to cooperative behaviour, which may be explicit or implicit in form. Explicit collusion leads to a cartel, which is usually a target of scrutiny by jurisdictions with competition oversight. However, cooperation may also be implicit, in the sense that the few firms in the market recognize their mutual interdependence and realize that it is not in their interest to constantly drive prices down to marginal cost levels. In any case, a symptom of both explicit and implicit cooperation is that prices are uniform and above their competitive levels.' In spite of such a report, the government failed to deregulate the sector.

Five years later, Dr Enzio von Pfeil, the founder of an independent investment advisory boutique, noted in a report that, while the price of Brent crude fluctuates, the retail price of petrol in Hong Kong always keeps rising. Focusing on diesel prices in Hong Kong, he subtracted duty and converted prices to US$ per gallon, trying to illustrate price differentials between Hong Kong and the USA. In March of 2002 US diesel, before duties was US$0.77 per gallon whilst it was nearly 300% higher in Hong Kong.

He also made the following comparison. In February 2000 the price of a gallon of petrol in Manhattan was US$1.56 per gallon (Manhattan is known for it's high prices just as Hong Kong is). At the same time the average price in Hong Kong was HK$10.50/litre or US$5.10 per gallon. Then he tried to evaluate the cost structure (who makes what) on a litre of petrol in the US and to apply it to Hong Kong, assuming that the price of crude oil and refining costs are the same in both countries, then factoring in the respective applicable taxes and duty. That method isolated the margin of distribution, marketing and profits as the balancing figure in the price at the pump. As Hong Kong is a very densely populated city, distribution should be cheap and efficient, and advertising is minimal as the sector is heavily integrated, he concluded that most of the balancing figure is pure profit margin. He came to the conclusion that while American companies work on a gross margin of 5%, in Hong Kong they secure 21%.

In another sector, the Consumer Council has outlined that one company (Ng Fung Hong) controls around 90% of the supply of pork meat into the market and retailers had been complaining that the company was practicing discriminatory pricing, with a subsequent detrimental effect on the competition between wet markets and supermarkets. In the rice market, it is only in 2002 that the cartel organized by the government since the end of the second world war was dismantled. Prices dropped by 50% overnight.

It would be easy to list many more examples that would illustrate the lack of competitive pricing in the city. It is of course a legacy of its former glory as a world-city at the frontier of China.

9.- Blurring the line on the real value of FDI invested in Hong Kong is the fact that the city remains the most important source of external direct investment in China. According to Hong Kong’s statistics, the stock of Hong Kong’s outward direct investment in China amounted to US$130 billion at end-2000, accounting for 33% of Hong Kong’s total outward direct investment. According to China’s statistics, the cumulative value of Hong Kong’s realised direct investment in the Mainland reached US$195bn at end-June 2002, accounting for 47% of the total external direct investment there.

Hong Kong’s investment concentrates largely in Guangdong. According to Hong Kong’s statistics, the stock of Hong Kong’s direct investment in the Guangdong province amounted to US$50billion at end-2000, equivalent to about two-fifths of its total direct investment in China. The bulk of such investment belongs to industrial investment, involving primarily outward processing arrangements. About five million Chinese workers in Guangdong are working for around 36,000 companies involving Hong Kong interest. This is 24 times the size of Hong Kong’s own manufacturing workforce. Thus, it is quite difficult to have a correct appreciation of what is a foreign investment that is invested in the city itself. Disney World is a good example of an investment directed to the city, but the Disney company is only investing US$400 million, the balance being provided by the Hong Kong government.

10.- The borrowings of the Hong Kong conglomerates were hedged against the US$ dollar by the Hong Kong peg. Their cash-flow was not affected by the currency melt-down that other Asian companies had to withstand because their income was in fact dollarized. None suffered any currency loss.

11.- The scheme of control for Hong Kong's two electricity firms - CLP Holdings and Hong Kong Electric Holdings - is flawed and should be replaced with an efficiency-based mechanism after it expires in 2008, analysts at Bear Sterns, JP Morgan, HSBC Securities and Lehman Brothers say. They found the scheme encouraged spending on fixed assets and over-building, while customers were expected to bear the cost. They said the post-2008 regulatory environment should give incentives to boost efficiency. They suggest the asset returns of CLP Power and Hongkong Electric should be benchmarked with overseas counterparts - at between eight per cent and 12 per cent (it is currently 15%). 'The current scheme of control is flawed . . . First, the returns are too high compared to the risks. Second, there is no incentive to operate efficiently. Third, there is incentive to over-build' Bear Sterns analyst Gary Chiu said.

Angello Chan, a Lehman Brothers analyst, said the future returns should be tied to the consumer price index, which would ensure power firms delivered a certain level of efficiency gains and did not overcharge on tariffs through over-building or unnecessary capital expenditure. Shareholders would be left with a reasonable return if the companies managed to cut costs, Mr Chan said. HSBC Securities analyst Ivan Lee pointed out that the reliability of electricity supply was on the list of priorities when it came to mapping out the future regulatory scheme. In 2004, the government and power firms will start an interim review of the scheme of control agreements, but Li Ka-shing who controls one of the tow utilities (Hong Kong Electric) has already indicated that he would oppose any substantial change. 'The scheme serves Hong Kong well' he argued.

12.- It is not that the Hong Kong merchant elite did not try, but rather that their efforts and tactics to monopolize a trade through early investments in a sector have been constantly thwarted by the Chinese government. For example, when Li-Ka-shing started to invest in the Shenzhen port facilities which he was the first to see as a threat to the Hong Kong port facilities where he enjoyed an entrenched dominant position, his company (Hutchison Port) tried to take a majority stake in all the future berths. The Chinese government refused. Gordon Wu tried the same tactic as regards toll roads and power plants. He, too, got sidelined when his position started to be too dominant.

13.- The exact spread of income among the Hong Kong taxpayers is as follows (HK$ dollars converted in US$ at 7.8)

Annual Income (HK$) Total % population

US$12,820 to US25,640 500,000 7.35% US$25,641 to US$38,460 316,000 4.64%

US$38,461 to US$51,280 190,000 2.79%

US$$51,280 to US$76,920 149,000 2.19%

US$76,921to US$115,380 69,000 1.01%

US$115,381 and above 66,000 0.97%

14.- Anthony Leung, while defending his budget in February 2003, made a more provocative remark. 'Hong Kong people are damned to misery for the hedonist times they have enjoyed' he said. He later on had to apologize, saying that he had used an inappropriate analogy. He was lambasted in a radio-talk show, where a caller surnamed him “a squandering brat”.

15.- The number of people receiving welfare benefits has hit an all-time record high of 258,000 in July 2003 (1.2% more than June), according to government figures. Professor Nelson Chow from the Department of Social Work and Social Administration, the University of Hong Kong, stated that 1 out of 8 families received CSSA and it's a high rate. But in line with the attitude of the government, instead of seeing this development as a proof of an increasing poverty, he attributed the rise to an abuse and suggested a revision of the CSSA system.

16.- In Asian Affairs nº4 . The issue was published in the autumn 1998, with interviews with Joseph Yam, Chief Executive of the Monetary Authority, David Li, Chairman of the Bank of East Asia, Arthur Li (his brother), Vice-Chancellor of the Chinese University (he is today Secretary for Education), Martin Lee, Chairman of the Democratic Party, and two industrialists, Peter and John Mok.

17.- If the claim has any substance, it would be expected that if the external conditions improve, then the Hong Kong economy would recover quickly. But it is not happening. Trade figures show that Hong Kong has been enjoying in 2002 one of its best years ever, tourism was booming until March 2003, and yet deflation continued unabated, property prices remained still at rock-bottom and if on paper economic growth was said to hover around 2 or 3%, there was no signs to a return to growth in the domestic economy. This is a clear sign that the correlation between the current domestic crisis and “globalization” is a far-fetched idea.

END OF NOTES OF CHAPTER ONE

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