Government's role in engendering and alleviating the current economic crisis

Professor Ho Lok-sang, Lingnan College, was the Foundation's guest speaker on 8 September 1998. This is a summary of his remarks.

Professor Ho began by describing what he saw as a global credit squeeze. Interest rates were too high, preventing the optimal utilisation of resources. Hong Kong was particularly badly affected since it had both high interest rates and a currency that had appreciated along with the US dollar to which it was pegged.

There was no justification for Hong Kong's high interest rates. The associated credit squeeze arose because the Hong Kong Monetary Authority had no confidence in the peg and so did not provide credit.

The Monetary Authority feared that releasing credit would give ammunition to speculators. But, Professor Ho emphasised, it was exactly because the Monetary Authority was afraid that the speculators came. This was really the root of the whole problem: the Monetary Authority's lack of confidence in the link.

Thus Hong Kong was going through a credit squeeze because of the Monetary Authority's lack of confidence. Although the Authority said that it was confident, the way it behaved showed that it was not. And high interest rates did not punish the speculators who found other ways to profit through the stock market.

What did the seven measures recently announced by the Monetary Authority amount to? They were simply providing more credit to the market. Why had this not been done before? Because the Monetary Authority had no confidence. But eventually they realised that fear invites pressure on the economy, and on the stock market, which in turn leads to more pressure. So the seven measures were intended as a show of confidence. The Monetary Authority was now showing that it was confident enough not to penalise borrowers from its facility.

The second major issue Professor Ho wished to discuss was the housing policy problem.

The housing market had been booming for decades. Prices rose more than one hundred-fold since the 1960s to the peak last year. Was it a bubble? No, for most of the time the Hong Kong economy was developing soundly. Hong Kong expanded its manufacturing in the 1970s, then in the 1980s the manufacturers moved their production offshore. Now Hong Kong became a "Manhattan" served by and utilising a low cost hinterland. New competitive markets for manufacturing were emerging at that time - Mexico, Eastern Europe, and elsewhere. There was no chance that Hong Kong could retain manufacturing production onshore and still compete with the cheap labour of producers in these markets.

The profits from this offshore production still flowed into Hong Kong. Meanwhile services flourished. There was no other development path. Professor Ho disagreed with those who thought that manufacturing in high-tech form could provide a significant source of employment. He noted that even in those countries that are recognised as high tech leaders - Korea, Japan, and even the US - employment in manufacturing was declining. Hong Kong could go into high-tech manufacturing if this comes naturally as our entrepreneurs harness the market and our comparative advantage. But hoping that high tech could provide jobs to hundreds of thousands of workers is simply unrealistic.

In the current downturn, the external sector did not do so badly. Why then did the economy decline so much? The answer, Professor Ho felt, was that, in Mao's words, we had, "used a stone to hit our feet".

Since 1993 there had been an explosion in house prices. This was because of a major change in policy. The "rational allocation policy" had been introduced under which rich tenants were forced to pay higher rents and were gradually being forced to consider alternatives to public rental housing. Many of these tenants had been able to save substantially since they paid so little for their housing. In fact, a survey had shown that of four social groups - public rental housing (PRH) tenants, HOS owners, private tenants and private owners - it was the PRH tenants who had the highest savings rates. The top 10% were saving as much as HK$40,000 per month. So when these rich tenants began to buy in the private sector, both prices and transaction volumes were pumped up. The administrative measures of April 1994 dampened the boom. But it surged again to reach its peak in 1997.

Donald Tsang had said that Hong Kong's fundamentals were sound. Professor Ho said he agreed with him that at the time Hong Kong's economic fundamentals were indeed sound. The economy had been expanding vigorously and creating jobs right up to 1997. Hong Kong did not have a problem of property oversupply like Thailand. What was wrong was the Government's diagnosis of the rise in flat prices. They thought it was due to excessive speculation, which must be punished. But in fact it was not. 90% of purchases were due to end users. Although prices had risen too far by 1997, and a correction would have been due even if it had not been for the Asian crisis, the property market was not unsoundly based.

Against this backdrop, the Government made major policy mistakes. In December 1997 the Government began privatising PRH. Most unfortunately, the flats were sold to tenants at exttremely low prices - and were sold to all tenants in the selected blocks, including the rich tenants. This was an effective reversal of the rational allocation policy. The message to the PRH tenants, especially the rich ones, was, "Sit there". Do not buy in the private sector. So the demand for private sector flats collapsed. This effect was most evident in the first quarter of 1998.

Ignoring the dynamics of debt defaults and mass psychology, Professor Ho saw the prices of flats stabilising at around the level of 1993 when the rational allocation policy was introduced. In fact, flat prices should fall further since many recent buyers had negative equity in their homes and they were also under the threat of unemployment. Although Professor Ho was not against the privatisation of PRH, it had to be properly managed in the overall economic context. The Government had to make good its policy mistake and restore the policy of rational allocation. The rich tenants had to pay higher rent and had to be denied participation in the Tenant Purchase Scheme. This was essential to economic recovery.

The above summary does not necessarily represent the views of the Hong Kong Democratic Foundation.

 by Ho Lok-sang