Economic recovery continues

The Hong Kong economy rebounded in 2021, led by a private spending and investment recovery. A stable epidemic situation for much of the year had underpinned the normalization of domestic demand, although strict border control measures continued to weigh on the tourism sector. In 2022, we expected growth momentum to be moderate, subject to any downside risks posed by the uncertainty of the pandemic’s evolution. Financial and insurance services (20% of GDP), which have continued to expand through the pandemic, contributed notably to the recovery.

Private consumption (68% of GDP) grew by 5.5% in the first three quarters of 2021, significantly contributing to a recovery in economic activity. A stable local pandemic, financial handouts (consumption vouchers), and an improved labor market supported the rebound in private consumption. The seasonally adjusted unemployment rate fell to 4.3% in October 2021, the lowest since the onset of the pandemic in early 2020. Nevertheless, the job recovery still needs to be completed. About 80% of job gains in the first semester of 2021 were in the accommodation and food service sectors (10% of total employment), which saw massive job losses in 2019 and 2020. Jobs growth in financial and insurance services (8% of complete work) continued, though the size of the increase remains well below pre-pandemic levels. Meanwhile, employment in retail and manufacturing (13% of total employment) continued to decline. The labor force participation rate also fell to a record low of 59.1% in October 2021. Furthermore, population aging and a significant departure of working-age people would see the labor supply continuing to shrink. Household spending is therefore expected to recover at a slower pace in 2022.

Investment (20% of GDP) expanded by 12.8% in the first nine months of 2021, driven by acquiring machinery, equipment, and intellectual property products amid an improved business outlook and strong trade performance. Furthermore, major public capital projects worth HKD 135 billion were planned for commencement in FY2021-22, including health facilities, infrastructure projects, and sewerage works. The government plans to develop the northern part of Hong Kong into an innovation and technology (I&T) hub under the Northern Metropolis Development Strategy, aiming for further integration into Shenzhen and the broader Greater Bay Area that could bode well for investment inflows.

Exports (178% of GDP) have been a critical driver for economic recovery, especially in goods and financial services. In comparison, the tourism sector (4.5% of GDP), remaining at a standstill, contributed to weak travel services exports. Robust growth in merchandise exports (150% of GDP, but 97% being re-exports) will continue in 2022, although prolonged supply bottlenecks would be a critical risk. Meanwhile, the tourism outlook remains dim as Hong Kong maintains a strict quarantine regime for international travelers and prioritizes reopening borders with mainland China.

Budget deficits to persist

Hong Kong-registered a record budget deficit in the financial year ending March 2021. The fiscal shortfall is expected to narrow for the current fiscal year (ending March 2022) and the next (ending March 2023) on higher revenue and lower spending. Spending cuts will come from constraining growth in civil service and reducing non-livelihood related outlays, with an expected savings of HKD 3.9 billion (0.5% of total government expenditure). On housing, the government planned to provide 316,000 housing units in the coming decade, with 101,400 to be constructed within five years starting 2020-21. From 2011 to 2021, the stock of public permanent housing units rose by 135,000 to 1.27 million. Further issuances of green bonds to finance eligible capital investments would also help relieve the fiscal pressure on the government. Increased fiscal spending and the rollout of relief measures (4% of GDP) resulted in the budgetary reserves falling sharply in two years from 23 months of government expenditure to 13 months (or 33% of GDP).

The current account surplus is expected to have remained solid in 2021 before narrowing modestly in 2022. This is partly driven by an anticipated reduction of the trade surplus due to a widening merchandise trade deficit. Owing to a subdued tourism outlook, the services trade surplus is unlikely to notably strengthen as travel services should remain under pressure. Financial services are expected to be resilient as Hong Kong remains an attractive location for wealth, asset management, and corporate fundraising, particularly for mainland China enterprises.

Changing political climate

Following the passage of the National Security Law in June 2020 and the mass resignation of opposition legislators in November 2020, dramatic changes to Hong Kong’s election system were made, including reducing the number of directly-elected seats in the Legislative Council (LegCo) and imposing a strict vetting process for candidates. The LegCo expanded from 70 to 90 seats, but directly-elected hearts fell from 35 to 20. The Election Committee will elect the Chief Executive of Hong Kong SAR and appoint 40 chairs in the LegCo. At the same time, 30 would remain trade-based functional constituencies. The Election Committee, meanwhile, is enlarged from 1,200 to 1,500 members, comprising representatives from industries, professions, grassroots, labor, religions, LegCo, and various national organizations. International reactions to Hong Kong’s electoral changes were primarily adverse, with G7 foreign ministers expressing ‘grave concerns.’ The tightening of the political system will likely curb the incidence of widespread (and sometimes chaotic) protests seen during 2019-20.