Hong Kong - 10 Year Anniversary of the Handover
Klaus Koehler, Managing Director, Klako Group

One of the biggest events for 2007 is Hong Kong's 10 year anniversary of the handover from British governance to Chinese rule and reviews published over the last decade show us that Hong Kong's position not only in China but in Asia as a whole, is still very strong, particularly in its role as an international financial hub.
In the early years of the handover, many people, more so the foreigners not living in Hong Kong than the locals, predicted that Hong Kong would loose its position and importance on the global market.

Indeed Hong Kong, as well as the rest of Asia, did not have a smooth ride during this period, with SARS, the Asian financial crisis and the growth of the economy, but Hong Kong's status in Asia and internationally has proven itself to still be very high, if not even stronger than before the handover.

It has taken the ten years, for Hong Kong to find itself and its role in the "one country, two system" principle, particularly in the international business world with the opening of China's market. Its strong economic cooperation with China is developing Hong Kong's position as "the most open, free and international" city in China.

Hong Kong's position now

Hong Kong is one of the most important key locations for trade, finance and regional headquarters in Asia - and yet again was named as the world's freest economy by the US based 'Heritage Foundation'.
The economy is built on free enterprises, free trade and a free market which is open to all. There are no trade barriers, quotas and no foreign exchange controls. Hong Kong has a low tax environment; it is politically stable and provides security, as well as a free flow of information and communications.

The Global Financial Centers Index (GFCI) the world's first index of financial centre competitiveness published that Hong Kong is the third financial hub in the world, after London and New York. The report ranked the cities according to human resources, business environment, market access, infrastructure and competitiveness.

Hong Kong's taxes are among the lowest in the world. A simple tax system with a corporate profit tax of 17.5% and a personal income tax attracts many foreign investors. There is no value added or sales tax, withholding tax on interest or dividends and no capital gains tax. In March 2007, 1.35 Million citizens even received a reduction of up to 50% of their income tax.

Hong Kong has a very service oriented economy. Nearly 90% of the GDP is derived from services, and 80% of jobs are in the service sector. This is why many foreign investors choose Hong Kong as their regional centre, with approximately 3800 regional headquarters and regional offices. Hong Kong is the second largest recipient of Foreign Direct Investment (FDI) after China in Asia.

Hong Kong versus Shanghai

The comparison between Hong Kong and Shanghai as financial centers has been going on since the plans for the handover started. In contrast to 10 years ago, many Chinese government officials now pledge the support for Hong Kong as an international financing hub, whereas Shanghai is "being seen as the centre for the Mainland".

This has not always been the case, but it currently seems that it has been recognized by the Mainland officials that it is not easy for any mainland city to compete with Hong Kong as an international centre. As per InvestHK, 68 of the world's top 100 banks operate in Hong Kong, as well as 310 banking institutions, over 180 insurers, around 700 security dealers and about 1900 unit trusts and mutual funds. From these statistics one can gather, therefore that Hong Kong's position seems to be protected.

It also appears that the comments from officials now emphasize that the main purpose of Hong Kong's stock market is to attract international finances in order for Chinese companies to receive funds from global investors. The purpose of Shanghai's market is to assist companies from the mainland to raise money from local Chinese investors. This contradicts that Shanghai is a competition to Hong Kong.

Last year more than 40 companies listed in both Hong Kong and in either Shanghai or Shenzhen stock exchanges.
It has been also recognized, that Hong Kong as a mature financial market is much more attractive to the global investors. This is one reason why in public statements, Hong Kong is now seen as an international financial centre, and Shanghai and Shenzhen as domestic financial centers.
In general, the cooperation between Hong Kong and Shanghai is considered from the Chinese government as successful.

Financial Platform

With the widening of the investment scope for the mainland's qualified domestic institutional investors (QDIIs), it is widely expected to boost Hong Kong's equity market as long as the mainland regulator continues to widen the quota of investment. It is forecasted that half the amount of the granted quotas will be used by the end of the year.

On May 11th 2007, the China Banking Regulatory Commission (CBRC) announced that it is extending the spectrum of QDII products to overseas stocks. This will allow Chinese Banks to invest up to 50 percent of its overseas investment into stocks. However, banks can neither put more than 5 percent of a wealth management product into a single stock, nor use their own money in such investments.
The news sparked Hong Kong's Hang Seng Index to soar initially 511 points to 20,979, while the daily turnover hit an all-time high of HK$95 billion. But the rally ran out of steam and the index fell 111 points the next day.

Many investors believe that China stocks listed in both A share and H share markets will be favoured by mainland investors. A shares are shares issued by China registered companies listed either in Shanghai or Shenzhen, and are denominated in RMB and only allowed to be traded by Chinese Citizens or foreign investors with the applicable QFII status. H shares are shares of mainland companies listed on the Hong Kong stock exchange, in HK Dollar and freely traded.

Logistic

Even though sea routes and airports in China are expanding, as well as the improvement of the necessary road and rail infrastructure, a large number of the Import and Export of goods bought in or sold to China, are transported and distributed through Hong Kong.

Hong Kong is remaining one of the most important entrepots and trading partners for China.

Customer demand is also driving two of the largest logistic companies DHL and FedEx to further multi million dollar investments for expansion. As per Mr Price, the Chief Executive Officer of DHL Express, a further USD $35 Million will be invested in a new facility in South Kowloon, increasing their handling capacity by 20%.
Furthermore 2006 was the fifth consecutive year of a double digit growth for DHL Express Hong Kong. The expansion raises DHL's total investment in Hong Kong to USD $645 million, which includes the USD $210 million for the Central Asia SuperHub and the USD $400 Million investment into the joint venture with Cathay Pacific Air Hong Kong. FedEx will add thirty percent more capacity by relocating the Express Distribution Centre to the container port in Kwai Chung. This will also give them the opportunity to expand in the future. FedEx's largest station is at Yuen Long, near the Chinese Mainland border.

Surveys indicate that standards and the delivery of service are still more efficient in Hong Kong, even though China is catching up.

Retail and Tourism in Hong Kong

The numbers of visitors to Hong Kong continues to positively affect not only the hotel and tourism sectors but also the retail industry in Hong Kong. In 2006, the number of visitors reached 25 million, up from 23.4 million in 2005. All major luxury brands are present in Hong Kong and due to the import duties and VAT, luxury goods are usually 20-30% more expensive in China than in Hong Kong, where VAT is not added. Therefore shopping trips to Hong Kong are very popular, not only amongst foreigners, but also mainland Chinese. The booming tourism industry benefits from the shopping trips and the flagship stores of international luxury brands, as well as large lower cost retailers, who continue to get bigger and even more extravagant in Hong Kong. Latest examples are the H&M flagship store, the new shopping centre SkyPlaza, near the Hong Kong International Airport and the upcoming opening of a mega store of DIY retailer B&Q.

Hong Kong Property Market

Due to one of the major property slumps ever to occur in Hong Kong in the 1990s, Hong Kong's craze for property investment has slowed over the past decade, leaving a 1990s-style speculative boom unlikely despite efforts by powerful developers to start one. However since the handover the city has emerged as the main driving force for investment into mainland China's thriving property industry, with funds, developers and individuals investing cash northwards.

China attracted HKD $9 billion in cross-border investment in 2006, up 69 percent from a year earlier, while Hong Kong drew HKD $6.9 billion, down 33 percent, according to Jones Lang LaSalle Property Consultants.

Due to the major downward events occurring in the last decade, property prices slumped 70 percent in the six years from the handover to mid-2003. Hong Kong's commercial property market has thrived thanks to an economic rebound based on its role as a financial services hub for China, and an influx of mainland Chinese tourists. Also partly thanks to a shortfall in supply, rents at top grade offices have doubled and capital values have tripled since 2003, while retail rents have jumped by half.
But in contrast to Singapore and Japan, Hong Kong's real estate investment trust (REIT) market has slowed, with investors believing landlords were tricking them into paying too high a price for second-grade buildings. But the Hong Kong people have learnt their lesson in the last 10 years and are paying more attention to these details.

One Country - Two Systems

The two Panda cubs that have been given to Hong Kong by the Chinese government might not be the only gift from the Mainland. The twenty month old cubs will be unveiled once they have settled in on 01st July 2007 in Ocean Park as part of the handover celebrations, and some other gestures that will place Hong Kong companies or investors in a more advantageous position towards global investors are expected. Similar to the CEPA Agreements, different areas may continue to strengthen the synergy between Hong Kong and the Mainland. This will support a continued growth in Hong Kong.

Without a doubt, Hong Kong's continuous growth is closely linked with the immensely booming export orientated manufacturing base in China, first by moving production sites from Hong Kong into China and now by continuing to use Hong Kong as a financial centre.

Of course one of the concerning issues for Hong Kong's 6.9 million citizens- next to the pollution in Hong Kong - is the topic of democracy. The original joint declaration that came in effect when Hong Kong was handed over in 1997, and the Special Administrative Region was to maintain its capitalist system and autonomy. The Basic Law, as it is called, ensures that the current political situation in Hong Kong will be based on the impartial rule of law and an independent judiciary. However, the implementation of the Joint Declaration has been an international concern. The systems in Hong Kong, which are supposed to protect basic freedoms and rights, are often fragile, because they are not built on a system of democratic government.

During the last election of the Chief Executive, where the candidate was challenged by a pro-democracy legislator, Mr. Alan Leong, it became apparent that for Beijing, the prospect of any moves towards universal suffrage might have been postponed from 2012 to 2017. Even though Mr. Leong had no prospect of winning the election over Beijing's favoured candidate, Donald Tsang, especially as the votes were cast by an 800 member, largely pro Beijing election committee, it seems that the election process itself has raised concerns in Beijing.

Outlook

Generally, the Hong Kong economy shows a broad-based expansion in the first quarter of 2007. The GDP was growing solidly by 5.6 percent in real terms over a year earlier. Since mid-2003, the economy has been growing at above-trend pace for 14 quarters in a row. The economic upturn continued to result in a stronger demand for labour, pushing the seasonally adjusted unemployment rate lower to 4.3% in the first quarter, which is the lowest in more than 8 1/2 years. It seems Hong Kong has found its place in the one country two systems principle, and even with unresolved issues such as the democracy of the country, and has used the advantages of a free economy to establish its position within China. The Chinese Government seems to have accepted the position and now one can foresee measures of strengthening it further.

Hong Kong's service orientated industry, stable and low tax investment environment will continue to attract foreign investment, as well as being a centre for investments into China for many foreign companies.

If you require assistance with the above subject, please contact us at info@klako.com with your detailed questions.

All information in this report is verified to the best of our ability and is assumed to be correct at time of release; however, Klako Group does not accept responsibility for any losses arising from reliance on the information provided within.