- Professor Kwong Kai-Sun, Sunny
The HK economy is in for some big challenges ahead. To see this, let us first take note of some recent movements in global markets.
- End of Strong RMB – The RMB has been allowed to depreciate, as a measure for stimulating economic growth. Various other measures (expanded bank lending, lowering of interest rates, and encouraging domestic consumption) have been used but found ineffective. However, the magnitude of the depreciation is too small to stimulate growth. Devaluations by other currencies also dampen much of its effect. It also takes time for a lower exchange rate to boost export and increase foreign direct investment. For the HK economy, a lower RMB would make HK prices higher relative to that in the mainland and HK becomes relatively less attractive as a place for consumption and investment.
- Weak Growth in China – China’s growth has been slowing down since 2014 and will likely weaken further. The strong RMB has made China manufacturing and export uncompetitive. The much cheaper yen has also added to the problem. Weakened China growth has already shown global impact in terms of falling demand for resources like oil.
- Low Oil of Price – Oil price now is half of what it was a year ago and falling. Falling global demand and increased supply are the reasons. It will take some time before the benefits of low oil price show through. Before that happens, many third-world oil exporting countries and oil mining companies have to suffer sharply lower revenue and profits, possibly resulting in bankruptcy and job losses. Much of this has not happened to date, but will happen inevitably. There will be further realignment of exchanges rates, large-scale capital flows, and possibly credit contraction.
These are only recent changes around the world that will eventually impact on the HK economy. There are a number of hidden issues in the HK economy that may rise to the surface very quickly.
Because of the linked exchange rate system, HK dollar has to move in unison with the US dollar. Now that the US dollar is rising against most other world currencies, the HK dollar has to move up as well. As a small open economy that relies on trading of goods and services, a strong currency invariably means weak demand, as has been observed before. But this time, it is happening when HK prices are very high, due to the influx of capital and purchasing power in the last few years. Asset prices, such as housing, have exceeded historical highs by wide margins. Some steep correction is bound to happen.
The housing bubble has been sustained by a small supply of new ready-to-occupy housing units, government double duty legislation (which encouraged property investors to hold on to their recent investments), low interest rates, foreign demand (which hit other world cities as well, not just HK) and strong economic growth. However, all this is going to change dramatically in the opposite direction. The supply of new units will significantly increase in the next few years. Units that were “frozen” by the double-duty legislation will soon be released. Interest rates will go up, following US interest rates. Even though the pace of interest rate increase may not be fast, the clear rising trend will change the price expectations of housing investors.
One crucial factor that affects the speed of housing price correction is the state of the HK economy. Slowing growth in China will cast a shadow on the HK economy for years to come, which is already weakened by a strong currency. Shocks in third world countries in terms of exchange rate changes or debt crises could cause sudden outflows of capital and credit contraction. In these scenarios, job losses will follow inevitably and personal income will take a sudden downturn. Property owners will then have difficulty servicing their mortgages. Those who cannot make repayments will be forced to sell off their property, sending housing prices down. The balance sheet effect of bad loans on the lenders will also trigger liquidations.
The contagion effect could be much larger than expected. Because the present bull run in the housing market was started as early as 2009, the economy has accumulated a large volume of housing-related debts – first and second mortgages and consumer loans. The exact volume of these loans, spread over many different types of lenders, is not precisely known, as many lenders are not financial institutions that are monitored by HKMA.
In a weak economy with substantial housing-related debts, a downward spiral in housing prices can precipitate very quickly. The burst of the housing mortgage bubble in the US in 2008 and the Eurozone debt crisis in 2012 were both results of an accumulation of housing-related debts which was far larger than what central banks and governments had expected. Should a similar bubble burst happen in HK, the impact could be far more serious. Unlike the Federal Reserve and European Central Bank, HK government cannot print money. Also, burdened by the linked exchange system, the government has limited capital to support a collapsing banking system.
August 17, 2015
Prof. Kwong is the Co-Director of the Global Economics and Finance Program at The Chinese University of Hong Kong.