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It's 1984, But Hong Kong Is Worried About 1997
April 1, 1984 -- Over the last two years, a lot of sound-thinking, politically savvy frequent flyers have found their visits to Hong Kong utterly baffling.

Why, they wonder, is the once-booming Crown Colony wracked by constant economic, political and social turmoil? How did an ideal business climate become so risky so quickly? How did an unstoppable real-estate market collapse overnight? Whatever happened to the strength of the Hong Kong dollar?

The problem with understanding Hong Kong's sudden crisis of confidence is that business acumen and political savvy don't help. In fact, they never did. Consider these questions:
    + Would sound—thinking businessmen build the world's third-largest financial and gold-trading center on leased land?
    + Would they cultivate the world's least regulated, most vibrant capitalist state just across a border from an unpredictable communist nation?
    + Would savvy politicians do anything to jeopardize the stability and prosperity of a nation that provides their country's economy with almost 40 percent of its foreign exchange?
    + Would sharp politicians criticize the management skills of a neighbor that provides almost 50 percent of their country's food and water?

In each case, the politically astute answer may be no. But consider Hong Kong.

It is the world's third-largest financial center and least regulated capitalist state. It is built on leased land scheduled to revert to the People's Republic of China on July 1, 1997. China's disjointed, often mystifying behavior is playing havoc with a Hong Kong economy that provides China's largest share of foreign exchange. Britain's peevish, neo-colonial posturing, perhaps a ploy to ensure a capitalist status quo after the lease expires, is angering a Chinese government that provides all that food and water.

C. L. "Bob" Tong, a San Francisco—based import/export consultant born in Hong Kong, claims "preconceived biases" about business and politics have always clouded the American business executive's understanding of the colony.

"Americans never understood Hong Kong," he says. "They have always tried to mold Hong Kong into something that fit American beliefs about what was good business and wise politics. When Hong Kong was growing in the 1960s and 1970s, the Americans wanted to believe it was because Hong Kong operated on the same principles as New York. And now that things aren't so comfortable, Americans want to believe it is because Hong Kong doesn't operate like New York."

Americans, Tong insists, "have never understood that Hong Kong grew and prospered, and now is suffering, based on its own rules and its own circumstances and accommodations."

It is impossible to understand Hong Kong's "circumstances and accommodations" if you assume the colony's current problems have been caused only by Sino-British squabbling over sovereignty and administration after 1997. Hong Kong's crisis is much more complex. It's the inevitable culmination of a mostly benevolent colonial past, a ferocious dedication to unorthodox business practices, a cacophony of competing national egos, and the colony's position as a symbiotic interface between East and West.

Hong Kong is geographically tiny (about 404 square miles of mostly mountainous islands), but commercially crucial. It has always been among the best and busiest ports in the world. But except for about 10 percent of the colony, ceded to England "in perpetuity" by a weak Chinese dynasty, Hong Kong sits on rented land. The leases, granted in 1898, expire in 1997. The current Chinese government has never recognized Britain's sovereignty over Hong Kong and has always denounced the leases as "unequal treaties." Yet it has never moved against the colony politically, economically or militarily.

And colonial Hong Kong has always prospered, thanks to its harbor, its exuberantly capitalistic population of industrious, mostly Cantonese Chinese, and a laissez-faire business climate. Hong Kong's modern-day growth started after World War II when millions of Chinese streamed across the border after Mao Tse-tung took control of the mainland as the spoils of a civil war against the defeated Nationalists. The 1960s and 1970s brought the explosive financial growth most foreigners have come to expect from Hong Kong. Billions of dollars of mostly Japanese, American and British capital were spent on real-estate and development, invested in banking, and plowed into light manufacturing. Tourism boomed, the real estate and stock markets exploded, exports increased geometrically and Hong Kong prospered beyond anyone's wildest imagination.

In a few years, Hong Kong became a truly international City. In 1981, Institutional Investor magazine even suggested Hong Kong had become the international City. Taxes were low, duties were virtually nonexistent, foreigners and their investment schemes were welcome, and there were always new markets to serve and new projects to launch.

Companies with an eye on the developing consumer market in China set up shop in Hong Kong. The banks came: Citibank, for example, has two dozen retail branches and an investment operation in Hong Kong. Posh retailers came: Cartier of France, Dunhill of London and Tokyu of Japan, to name a very few. And the manufacturers and the export/importers came. Everybody, it seemed, came to Hong Kong--then even the xenophobic Chinese Communists came.

Peking may have whined about "unequal treaties" and bloviated against the "capitalist imperialist system," but the fact was that China needed Hong Kong for hard currency. The Chinese government opened retail shops and banks in Hong Kong. They bought real estate and apartment complexes. Hong Kong became the agrarian mainland's window on the industrialized West. The communist government even started joint ventures with Hong Kong companies to build factories and buildings and roads back on the mainland.

To be sure, Hong Kong needed the People's Republic, too. It became the tiny colony's breadbasket. Substantial amounts of Hong Kong's food, water, power and other supplies come from the mainland. In fact, Hong Kong imports more goods from China than it did from Britain, Japan or the United States.

"Hong Kong has been a wonderfully captive market for the Chinese," says J. D. McGregor, a transplanted Scotsman who directs the colony's General Chamber of Commerce. "The PRC produces certain foodstuffs that specifically appeal to the tastes of Hong Kong."

In 1982, however, Hong Kong's bubble burst. Commercial leases in Hong Kong traditionally ran for fifteen years and "the 1997 situation," as locals called it, finally came to a head. Even in freewheeling Hong Kong you couldn't write leases and do business on land you might have to give back to a hostile anti-capitalist government. After decades of sidestepping the fact that Hong Kong was living on borrowed time, the colony's business interests could no longer ignore political realities.

"It might well be that the PRC would have been willing to turn a blind eye to the issue of Hong Kong beyond 1997," says Peter Hammond, deputy chairman of Hong Kong and Shanghai Banking Corp. (HSBC), the colony's dominant financial institution. "The current PRC government is very pragmatic and they had never shown a keen interest in recovering Hong Kong. They might have conveniently 'forgotten' about 1997 and let things go on pretty much as they had been going. But the British were punctilious. Hong Kong is crown land and the government wouldn't issue leases past 1997. The British weren't willing to turn a blind eye."

The British government pursued the 1997 matter with Peking. They called for negotiations on the future of Hong Kong. China, suddenly put in the position of having to deal with Hong Kong rather than quietly ignoring its status, took a hard line. The government promised to maintain the social and economic status quo in Hong Kong after 1997, but adamantly insisted that it would recover both sovereignty and administration of the colony when the British leases expired.

"The Chinese are an old race and they're very proud. They think they can do anything and they are fanatics about saving face," explains Joachim Burger, general manager of the China Hotel, a joint venture between China and a Hong Kong consortium that is located just over the border in Canton.

"When we were planning the hotel, for example, the assistant managers that the PRC sent me would demand authority over everything. They had never even seen a four-star hotel before, but they assumed they could run one."

The Chinese position--that the communistic, sheltered and regimented People's Republic could administer the capitalistic, international and freewheeling Hong Kong--hit the colony like a bucket of cold water.

Why? The business community had always assumed the PRC would apply the "Macao precedent" to Hong Kong. Macao, another capitalist enclave only 40 miles west of Hong Kong, had been ruled by Portugal for 400 years when the Portuguese ceded sovereignty over the colony to China in 1975. The Chinese government immediately ensured Macao's capitalist status quo by designating the six-square-mile area "Chinese territory under temporary Portuguese administration."

But with China demanding the return of Hong Kong in deed as well as name, the colony's business community panicked. For the first time in decades, they feared the Hong Kong they knew would cease to exist after 1997. This sudden burst of fear shattered the Hong Kong economy.

The real estate market was the first casualty. Property prices, which reached record levels in 1981, plummeted 40 to 90 percent in 1982. General economic growth, which had galloped along at a 10 percent annual pace for years, slowed to 2.9 percent. Foreign investment tumbled and exports declined. Worst of all, local investors, notorious for their lemming-like behavior, began yanking capital out of Hong Kong.

"Our problem now," says Hammond of HSBC, "is not that money is still flowing out of Hong Kong. It's that there's no money returning. The capital that departed in the first wave of panic in 1982 has yet to return and that is hindering our ability to stabilize the economy."

Last September, hoping to stem the tide of negative financial stories about the colony's shaky business climate, the government invited American business journalists to Hong Kong. Important local businessmen and government officials spent eight days calmly reassuring the Americans.

Unfortunately, the economy refused to cooperate. The day the American entourage arrived, one of Hong Kong's English-language daily newspapers printed a front-page picture and story about panic food buying. The same day, the value of the Hong Kong dollar, already down to about eight to the U.S. dollar, nosedived to 9.5. The following day, the stock markets tumbled and the price of gold skyrocketed. The day after that, a bank failed and was rescued by unprecedented government intervention. An influential Hong Kong land firm suffered its first quarterly loss the day after that. By the time the scribes left, the government had reluctantly stepped in to prop up the Hong Kong dollar.

"After a while, people get used to the panics," the journalists were told by Ronald Li, chairman of the Far East Exchange, Hong Kong's largest stock market. "The problem is not so much that people panic, but that they lose confidence. And Hong Kong has always prospered because of the confidence the people had in themselves and their ability to make Hong Kong work."

Confidence--and profitability--have been ebbing in the colony during the last two years because the negotiations between the British and the mainland have been so intractable. Each passing day strengthens the local business community's belief that Hong Kong as they know it will cease to exist.

China's negotiating position during the last two years has been consistent: It insists Hong Kong will be reunited with the mainland after 1997. Ji Pengfei, China's officer for Hong Kong and Macao affairs, says the Chinese will settle for nothing less than complete sovereignty and total administrative control. But he promises that Hong Kong will become a "special administrative zone" of China and will have "fifty years of capitalism" after 1997.

According to Ji, Hong Kong will govern itself, continue to have a free market and its own currency. The free port will remain. Hong Kong's legal system, free speech, property ownership rights, and freedom of entry and exit will also be maintained.

The British position, officially secret, regularly leaks out. And whenever it does, it becomes clearer that the British have adjusted their sights downward.

Prime Minister Margaret Thatcher initially hoped to forge an agreement along the lines of the Chinese-Portuguese Macao arrangement. As negotiations dragged on, however, the British have abandoned all hope of maintaining even an official administrative hold on Hong Kong. The British now seem to believe the best deal possible entails what Home Secretary D.C. Bray calls "firm and binding guarantees to the 1ocal populous that China will allow the continuation of freedom and prosperity in Hong Kong."

The third party to the negotiations are the movers and shakers of Hong Kong's business community. They're not officially represented--both the Chinese and the British Claim to be Hong Kong's legitimate representative--but their position is clear.

"It's a matter of track record," explains Li of the Far East Exchange. "The British gave us a legal system of precedents, due process and the other things that have helped Hong Kong prosper. The PRC has no such track record--and you can't create one overnight by decree. If [China] is so anxious to show the world they can be as capitalistic as we are, let them do it in Shanghai first. The consensus is that Hong Kong works, so why change it?"

Adds Hammond of HSBC: "There's no question the PRC is pragmatic enough to want to keep Hong Kong essentially unchanged. But one is never quite sure if their ideology will take over from their practicality."

The question that worries the business community, Hammond suggests, "is what happens when new leaders take over in the PRC? Most Chinese who built Hong Kong came here because they were persecuted by the previous cadre of PRC leaders. They were a less pragmatic and more ideological bunch. Given an understanding of that history, one certainly understands why the people of Hong Kong aren't totally comfortable with the PRC's assurances of continued economic freedom."

This column originally appeared in Frequent Flyer magazine.

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