Trade war’s hammer may hit HK economy

The simmering trade war between the United States and the Chinese mainland is threatening to throw Hong Kong’s economy into confusion.

Nervousness over the escalating trade dispute pitting the city’s two largest markets against each other has sent Hong Kong’s stock market into a tailspin. Property prices are holding firm but real-estate experts fear potential buyers could be put off by the expected downturn in economic growth.

So far, neither the government nor any of the many public- and private-sector think tanks are known to have done any study to assess the possible damage a trade war could inflict on an economy that depends heavily on trade servicing to generate growth. But the heavy sell-off of stocks in the banking, logistics, transport and property sectors last week was a stark reminder of investors’ growing concern.

Washington, which initiated the dispute, has proposed taxing a clearly itemized list of imports from the Chinese mainland. Uncertainties arising from what’s now seen as a protracted trans-Pacific trade war have prompted many investors to hedge risks by unloading at least part of their Hong Kong asset portfolios. Asset disposal on a growing scale could, in turn, lead to accelerated outflow of overseas funds to the US.

Indeed, a robust economy combined with an appreciating currency has already made the US an increasingly attractive destination for international capital. The rapid flow of funds to the US has already created tremendous pressure on economies and currencies of some emerging markets, including Brazil and Turkey.

Backed by a large foreignexchange reserve, Hong Kong is widely seen to have the resources and will to defend the linked exchange rate system in the event of a sharp and sudden withdrawal of overseas funds. The system is important because it guarantees currency stability, an important attribute to the functioning of the international financial market.

There is a cost to pay in the form of rising interest rates. The large inflow of offshore funds, mainly from the mainland, in the past several years has flooded the local system with extra liquidity, letting banks keep lending rates unchanged despite six US credit-cost increases since the beginning of 2016.

Persistent net fund outflows in the past few months have rapidly pushed up the benchmark interest rate that represents banks’ cost of funds, prompting many major banks to raise interests on term deposits to attract stable long-term funds. But banks have stubbornly resisted the urge to raise lending rates although that seems to be the most sensible thing to do to avoid having to jack up rates sharply in future.

Economists and financial experts have questioned how much longer lending rates can be kept at current low levels. The answer lies in the speed and scale of fund outflows which, in turn, are influenced by investors’ perception of the impact of the unfolding trade war.

The outlook is anything but comforting. As a major port of shipments to and from the mainland, the major sectors of Hong Kong’s all-important service industry could be hit hard and fast by the expected sharp decline in trade arising from higher tariffs and new trade barriers.

The resulting economic growth slowdown, coupled with an outflow of overseas capital, would seriously undermine investors’ confidence in the property and stock markets.

Of course, there’s a chance the trade dispute could be settled through negotiations. But don’t hold your hopes too high this time.