Economic activity rebounds following the post-Covid reopening
In 2022, Hong Kong's economy contracted, held back by the fifth local wave of Covid and the associated very tight restrictive measures applied under the "zero-Covid" policy. Government spending, up 8.1% year-on-year, was the main driver of growth, while tighter financial conditions significantly impacted domestic demand and the deteriorating external environment hampered exports. The recovery will be modest in 2023, helped by the gradual post-Covid reopening. The economy will be driven by private consumption (68% of GDP) which will pick up again under the effects of brighter trends in the economic outlook, the cessation of emigration, which had led to the departure of a qualified, wealthy and high-spending workforce still at the beginning of 2022, as well as the expected continuation of a strong labour market. While the seasonally adjusted unemployment rate gradually declined to reach 3.4% in January 2023 after peaking at 5.4% in April 2022, job market conditions are expected to continue to improve in the coming months as economic activities gradually return to normal, inbound tourism bounces back and travel between Hong Kong and the mainland recovers fully.
The improved business outlook will also encourage private investment, which is expected to pick up in 2023 with the acquisition of intellectual property products and equipment for financial and transport services, Hong Kong being one of the world's major international financial and commercial centres. However, the level of investment could be impacted by the tightening of financial conditions and the deterioration of the business environment. On that score, recent changes in governance practices have reduced political pluralism and appear to have undermined the confidence of the population and foreign investors in the state. Public investment, too, will contribute positively to economic expansion as the government continues its efforts to develop infrastructure and housing provision. As the island has been experiencing a severe property crisis, which the central government in Beijing believes has caused public discontent, the expansion of housing stock has been a key focus of government policy. Local authorities have thus accelerated the development of new projects on existing land, in line with the development strategy of the northern metropolis, which should help support fixed asset investment.
Last, net exports will contribute negatively to growth as weakening growth momentum in advanced economies will weigh on exports of services and goods. For the latter, this mostly involves re-exports due to the weak manufacturing base, as well as Hong Kong's roles as a regional hub and gateway to mainland China. Exports will, however, be partly supported by the expected rapid recovery of the mainland economy and the lifting of trucking restrictions at the Hong Kong-mainland border. In addition, tourism will be a genuine growth driver as the lifting of quarantine measures on incoming visitors will encourage more tourists to the island.
Strong public and external finances
Hong Kong's fiscal position deteriorated in FY22 (April 2022 to March 2023) mainly due to increased public spending related to the pandemic. However, its budget deficit is expected to narrow in 2023 as financial support initiatives for households and businesses - including unemployment assistance, government loan guarantees for businesses, and unconditional electronic cash transfers to households - are lifted. The government plans to reduce its total expenditure by 6% to HK$761 billion despite ongoing spending to address the population’s quality of life concerns, particularly regarding housing issues. To support the economic recovery, the government will issue new green bonds, while increased fiscal spending and the roll-out of aid measures led to a sharp decline in Hong Kong's fiscal reserve over three years. It fell by about 12 percentage points over this period and could fall to 24% of GDP by FY24. That said, Hong Kong's public debt, excluding the exchange fund instruments used to manage the currency board for the US dollar peg, remains low.
Despite lower imported commodity prices and growth in services exports, the current account surplus is expected to narrow slightly further in 2023 on back of the decline in the trade surplus. The strengthening of domestic demand and the consequent increase in imports will widen the deficit in trade in goods. This development will only be partially offset by growth in the surplus on services. The latter will benefit from the rebound in the tourism sector and the continued strength of financial services as Hong Kong remains an attractive location for wealth and asset management with links to mainland China. Moreover, while profits repatriated by domestic companies will remain strong, the primary income surplus will continue, more than offsetting the modest secondary income deficit. The current account surplus will allow Hong Kong to accumulate external financial assets as the island is already a major creditor to the world, with sovereign net foreign assets of about 130% of GDP and an international investment position of about 590% of GDP.
Tightening of the political system and changes in the electoral system
Hong Kong's political climate has been profoundly transformed since the passage of the National Security Act and the mass resignation of opposition lawmakers in 2020. Radical changes to the electoral system, in particular the reduction in the proportion of directly elected legislators in the Legislative Council (LegCo), have eradicated political pluralism when opposition parties once advocated greater autonomy for Hong Kong. With no opposition in the LegCo, the political stability of the current government, led by John Lee since May 2022, is expected to go unchecked until the next elections in 2025. Tighter controls over the political system, reinforced by forthcoming local security legislation aimed at discouraging objections to central government influence over local politics and hindering public debate on politically sensitive issues, makes the widespread protests seen in 2019 and 2020 unlikely.
Foreign reactions to recent developments in Hong Kong's political landscape have been mostly negative, with G7 foreign ministers expressing "serious concerns" about the Special Administrative Region's electoral changes. Since the National Security Act, the US now considers Hong Kong and mainland China to be one and the same customs territory and has imposed sanctions on some local officials.