HONG KONG: DETERIORATING ECONOMIC CONDITIONS

• Document Type: CREST
• Collection: General CIA Records
• Document Number (FOIA) /ESDN (CREST): CIA-RDP85T00287R000401160001-1
• Release Decision: RIPPUB
• Original Classification: S
• Document Page Count: 10
• Document Creation Date: December 22, 2016
• Document Release Date: July 20, 2010
• Sequence Number: 1
• Publication Date: June 23, 1983
• Content Type: MEMO

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Central Intelligence Agency
washkig6ofD 020505
O&F
DIRECTORATE OF INTELLIGENCE
23 June 1983
Hong Kong: Deteriorating Economic Conditions
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The economic climate in Hong Kong has deteriorated sharply
during the past two months. Investor confidence has waned as
political uncertainty has mounted over the form of a Chinese
takeover in 1997 and is the major factor in the slide. The Hong
Kong dollar broke the psychological barrier of $7 HK/$l US in May
and continued to weaken despite government open-market
intervention and a two percentage point increase in interest
rates. The Hong Kong stock index, which had been on upward trend
since last Decembers turned sharply downward in May. Efforts to
rescue several failing financial companies and three large
property concerns are also meeting little success. 25X1
Short term prospects for an, economic rebound are
nevertheless good. Speculative pressure against the currency has
shown signs of easing somewhat and Hong Kong exports have begun
to respond to Western economic growth. Inflation, however,. will
remain a major problem owing- largely, to the. currency
depreciation. r. 25X1
Over the, next five to, seven years, the continued political
uncertainty surrounding 1997 will retard-positive economic growth
and deepen economic downturns. Unless London and Beijing can
reach some agreement for takeover that reassures investors, we
expect-,cyclical fluctuations to become more severe. The currency
will probably continue to weaken over time and the Hong Kong
stock market will reflect increasing investor uncertainty. 25X1
Economic Upturn and Investor Uncertainty
Hong Kong began 1983 with most major economic indicators
improving,. Exports--the engine of growth in the colony--were up
an estimated 5 percent in real terms during the first four months
after a 2.percent decline in 1982. Bankruptcies, mostly tied to
This memorandum was prepared by I Ithe China Division
of the Office of East Asian Analysis. Questions and comments are
. welcome and may be directed to the author
EA M 8 3.10115
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the major slump in the property market during 1982, were easing
somewhat as residential, buyers returned to the market.
Reflecting the overall improvement, the Hang Seng index of stocks
climbed 235 ooints--30 percent--from 1 January to 30 April of
this year.
Despite these positive indications of economic recovery, the
local currency has been gradually losing its foreign purchasing
power since January this year. The strengthening US dollar
probably explains much of the early decline; most other Asian
currencies were also losing ground during this period. But
waning investor confidence took over in May cutting more than 5
percent off the currency's value against the 15`major currencies
and nearly 10 percent off its value against the dollar in a one
month period. By 10 June, a. nadir of $7.5 HK per USdollar was
struck,: and since then the currency has strengthened., only
slightly.
China plans to take control of Hong Kong in 1997 and local
investors are jittery about economic prospects under a communist
regime. Although Beijing has gone to great lengths to publicize
its intention to leave the colony's social and economic status
quo unchanged after takeover,, local businessmen remain
unconvinced'. Moreover, talks between-London and Beijing, that
most Hong Kong residents hoped would bring some form of continued
British presence in the colony after takeover, have not gone
well. After making virtually-no progress for the past eight
months,, the, talks are only now apparently getting underway
again..
No figures for capital flight are available. Bankers in
Singapore, Thailand, Sri Lanka, the United'Stat,es~,. and Canada
reported increasing Injections of Hong Kong capital late last
year when a=similar bout of nervousness sent-the Hong Kongdollar
into a less severe tailspin. These same countries were probably
?major recipients during the most recent scare. In addition,
local savers are shifting out of Hong Kong dollar deposits. in
favor of foreign currencies and gold. We estimate that about 60
percent of Hong Kong bank deposits are now being held in foreign
currencies compared with 38 percent a year earlier. Although
figures for 1983 gold imports are unavailable, purchases from
Western Europe reportedly jumped 50 percent' in 1982 to more than
135 tons. With the exception of Singapore,. other Far Eastern
countries reportedly experienced declining gold imports during
the same period.
Government Attempts to Restore Stability
Thus far the Hong Kong Government's efforts to stem the flow
of currency and to bolster sagging: confidence have met with
little success. The government probably attempted to support the
currency with small-scale open market purchases of Hong Kong
dollars in mid-May and early June; with only an estimated $3-4
billion in its foreign currency reserve fund, long-term, large-
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scale intervention is impossible.. By mid-month the government
resorted to a more drastic measure to halt the outflow,
pressuring the Hong Kong Association of Banks (HKAB)to raise
interest rates two percentage points. HKAB's announcement of the
upcoming rate increase bolstered the currency for two days. By
the time the increase actually went into effect, however, the
dollar was once again sinking to new lows.
Nor was its failure to halt the downward slide of the
currency the only negative aspect of the rate increase. Hong
Kong's always volatile stock market plunged, as a result of
investor fears that the rate increase would stymie edonomic
recovery. The market lost 40 points (5 percent) on 23 May, the
day the increase went into effect. Two of Hong Kong's largest
textile manufacturers are among the many industrial firms
currently attempting: to stave off bankrupcy with short term
borrowing. Major property companies--among the biggest investors
in the Hong Kong stock market--are also in need of significant
amounts of short-term funds.
Outside Support
The largest foreign holder of Hong Kong currency is probably
Chi-na's official foreign exchange bank--the Bank of China.
Although no figures are avail'able on total Bank holdings,
Beijing.'s exports to Hong Kong in 1982 alone amounted to 5.4
bil ion,..almos.t entirely paid` for in Hong Kong dollars.
The holdings have put Beij,ing_ inter a dafficult situation. By
holding Hong Kong: dollars Befjingis suffering: a sizable loss in
purchasing power. Converting to- foreign currency.,. however, would
.exacerbate the decline in the Hong Kong dollar and could
contribute?to instability that Beijing is trying to discourage.
Hong Kong could probably also turn to th.e Bank of England
for support. Although such a move would be unprecedented, we
believe that the Bank would be willing to work out some type of
swap* arrangement if the economic deterioration was deemed
extreme. Bank of England support would probably give investor
confidence a major boost and, at least temporarily. could
discourage speculative pressure on the currency.
* Under a swap agreement, the Bank of England would make pounds
Sterling available to the Hong Kong Government in exchange for an
equivalent amount of Hong Kong dollars at an agreed rate. The
pounds Sterling could then be used in open market operations.
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Prospects
In the short run, we believe Hong Kong's prospects for
economic recovery are good. During the past few days the
currency has shown signs of leveling-off at about $7.0 HK/$ 1
US. Stronger than expected recovery in the West bodes,well for
sharp increases in exports this year.. Major gains in the export
sector would help bolster confidence colony-wide and could
contribute to overall economic stability during the remainder of
the year. With the 1997 deadline still 14 years away, investors
probably continue to see sizable short-term opportunities in the
Hong Kong market. Although the recent hike in interest rates
will hinder growth somewhat, we-expect to see GDP rise 5 percent
by yearend on the strength of exports. Unemployment should fall
below its current peak of 5.1 percent to perhaps as low as 3-4
percent.
Because the colony is totally dependent on imports. for food,
energy, and industrial raw materials, we expect the recent
depreciation will hamper efforts to arrest inflation. Gasoline
prices jumped nearly 2 percent in May alone, and other increases
are imminent.. By yearend the consumer price index will probably
be at least 15 percent above last year's level. In fact, the
price increase will probably offset any beneficial effect of the
depreciatifon on Hong Kong exports. Although the currency should-
regain some of the ground lost recently we do not expect it to
approach, the 1982 average rate of $6.HK.
As Tong as_resi-dents rem=ain, uncertain about the Colony's:
future, long-term economic prospects for Hong Kong remain
gloomy. A large number of the Colony's residents. are making
efforts to .,get at least one member of their immediate family
e.stabTished.U overseas.,.. Hong Kong's most highly trained workers are.
likely to be among the most successful in-lea-ving the colony.
Moreover, investors,. even those publicly praising the current
Chinese leadership and its policies, are diversifying their
investments and moving capital offshore.
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The drain on investment funds and skilled workers will
constrain Hong Kong's long-term growth. Although we expect a
generally upward trend over the next 5 years, Hong Kong's growth
rate will fall far short of historic levels and probably remain
well below rates being achieved by its traditional competitors in
the area. Nor will the increase be smooth. Cycles--spurred by
investor uncertainty and fueled by speculation--will probablybe
more frequent and of increasing magnitudes. Potential for
economic collapse will be at its peak during these cycles. 25X1
We believe that, in the long run, the floundering economy
will pressure Beijing to exhibit flexibility in its negotiations
with the British. At present, however, Beijing appears convinced
that it can pacify Hong Kong investors and maintain economic
vitality without a significant British presence and, hence, will
probably continue to take a hardline approach. Beijing's
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recognition that this approach is causing severe problems and
modifications in Chinese demands might not, however, come until
investor confidence in Hong Kong has been irreparably damaged
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HONG KONG:
E oms
cn,=mo
VOLUME OF TRADE
FM "1&FQM
=w
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STOCK INDEXES FOR SELECTED COUNTRIES*
january 1982 = 100
140
120 -I
100
8 0 -
6 0
40
0 0 AT END OF MONTH
* HONG KONG
x SINGAPORE
O JAPAN
10 PHILIPPINES
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FOREIGN EXCHANGE RATES FOR SELECTED COUNTRIES
IN DOLLARS PER UNIT OF CURRENCY
January 1982 -100
Legend
o HONG KONG
x SINGAPORE
C) JAPAN
? PHILIPPINES
0 # AVERAGE MONTHLY RATE
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SUBJECT: Hong Kong: Deteriorating Economic Conditions
Distribution:
National Security Council
1 - Daivd Laux, Senior Staff Member for China, Taiwan and Hong
Kong
Department of State
1 - William F. Rope, Director, Office of Chinese Affairs, Bureau
of East Asian and Pacific Affairs
1 - Paul F. Gardner, Director, Office of Regional Affairs, Bureau
of East Asian & Pacific Affairs
1 - William A. Root, Director, Office of East-West Trade, Bureau
of Economic and Business Affairs
Department of the Treasury
1 - Douglas Mulholland-, Liaison Officer
1 - Patsy Haas, Office of East-West Policy
Department of Commerce
1 - David Petersom, Office of Intelligence Liaison
1 - Robert Perito, Chief,. China. Office, East Asian and Pacific
Office of- the U.S. Trade Representative
1 John. E. Ray, Assistant U.S., Trade Representative
Export-Import Bank of the US
1 - Dr. Raymond Albright, Vice President, for Asia
Central Intelligence Agency;
2 - DDI
1 - Exec. Dir/DCI
1 -. NIO/EA
1 - D/NIC
1 - PDB
1 - Chief, China Division
1 - D/OEA
1 - C/Production
1 -
1 - Ch
ie hina
1 CH
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SUBJECT: Hong Kong: Deteriorating Economic Conditions
Distribution: (continued)
1 - CH
1 - CH
1 - CH
1 - OCR/EA
2 OCR/ISG
5 - ,OCO/IMB/CB
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