Amid political disarray and unending protests, Hong Kong now faces one more potential risk: losing its special trading status with the United States over fears that the Chinese government will forcefully crack down on the demonstrators who have occupied parts of the city for 11 weeks.
Last week, after a spokesman for China’s Hong Kong and Macau Affairs Office said protester violence would be combated with an “iron fist,” while Sen. Ben Cardin (D–Md.) told Reuters that Hong Kong’s trade status with the U.S. will be jeopardized “if China comes down hard on the protesters.”
Cardin was one of several members of Congress who in June reintroduced a shelved bill calling for annual reviews to determine if Hong Kong is still eligible for the special trade status it enjoys under the 1992 U.S. Hong Kong Policy Act, which exempts it from restrictions placed on mainland China.
Despite the congressional warnings, only the U.S. president has the power to suspend the act and revoke Hong Kong’s special status. If the State Department determines that Hong Kong is “not sufficiently autonomous,” it will recommend to the president that the act be revoked.
“If China is viewed as having ‘taken over’ Hong Kong it will become difficult for any politician to argue for keeping [Hong Kong’s] special status because it will be hard to argue that its system is all that different from the [People’s Republic of China’s],” says Dan Harris, the founder of Harris Bricken, a law firm that specializes in investing in China.
‘One country, two systems’
Hong Kong and China are independent World Trade Organization members, and Hong Kong, which pursues a free trade policy, consistently tops think-tank lists of the world’s most free economies. The 1992 act, passed in preparation for the former British colony’s 1997 handover to China, regulates all economic activity between the U.S. and Hong Kong. But its validity depends on whether China upholds the “one country, two systems” rule with Hong Kong.
The special status means, for instance, that Hong Kong is not subject to any tariffs that the U.S. places on China. Hong Kong’s average applied tariff rate is 0.0%. Goods and services flow through its busy port from all over the world. In the Hong Kong trade department’s own words: “Through participating in multilateral, regional, plurilateral, and bilateral trade agreements, we secure, maintain and improve access to foreign markets for our goods and services.”
Hong Kong’s financial environment is similarly enticing to foreign investment. Major American financial firms have a presence in the city. There are no restrictions on foreign banks, and the Hong Kong dollar is pegged to the U.S. dollar, so when the region adopted the same near-zero interest rates as the U.S. Federal Reserve after the 2008 financial crisis, it caused a boom in the real estate prices and in the financial sector as local and foreign investors piled in.
A March 2019 State Department report on the status of the 1992 act described Hong Kong’s trade and finance relations with the U.S. as “very strong.” So if the act is now in danger of getting revoked, those relations are in danger too.
‘Life or death’
It should be noted that actual exports between the U.S. and Hong Kong are relatively small percentages of each region’s totals. The U.S. market accounts for roughly 8% of Hong Kong’s total exports, and the fraction of American goods exported to Hong Kong is even lower, at 2.3% of 2018’s total.
Therefore, the impact on bilateral trade would be relatively small if the act was revoked, says Yifan Zhang, an associate professor of economics at the Chinese University of Hong Kong. But it would go a long way to wreck Hong Kong’s reputation as a global financial hub.
“If Hong Kong starts to lose this independent status, if the U.S. treats Hong Kong as just another mainland city, it will have a very damaging effect on Hong Kong’s economy,” he says.
Zhang cautions that the chances of revocation are slim, but uncertainty about the act’s status could be enough to dent investor demand. “Foreign firms will leave Hong Kong, capital will not flow in,” Zhang says. The impact, however big for Hong Kong, would not be felt in equal measure by the U.S. A revocation would have “not much” of an effect on the U.S. economy, Zhang says, but for Hong Kong, “it’s life and death.”
Mainland China, meanwhile, would not escape unscathed. Hong Kong remains an important bridge between China and the rest of the world; it serves as a channel for 58% of China’s outbound investment. The Hong Kong Stock Exchange is also connected to the exchanges in Shanghai and Shenzhen, forming a gateway between mainland Chinese and international investors.
Protests and trade wars
Even in the current state, Hong Kong’s economy is bracing for a “typhoon,” according to a metaphor used by Financial Secretary Paul Chan Mo-po. He predicted a possible recession in the current July-September quarter last week as he unveiled $2.43 billion in government relief measures. “We need to get prepared before it gets worse,” Chan said.
Some economists are skeptical that the relief measures will be enough to stop a recession in Hong Kong this year. Zhang, meanwhile, is confident Hong Kong’s economy can recover as long as the protests are resolved “peacefully.” But jitters about Hong Kong’s trade status are adding to tensions between the U.S. and China.
“Hong Kong’s special status is definitely in jeopardy,” Harris said. “China is not popular in the United States right now, and politicians from both sides of the aisle know this and want to capitalize on this.”
Last week, U.S. President Donald Trump made that connection explicit. He tweeted on Aug. 15 that Chinese President Xi Jinping should “quickly and humanely solve the Hong Kong problem”—before striking a trade deal with the U.S.
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