The Labor Market can Improve Further in the Short Run

After registering the highest reading of 8.7% in the May to July period of 2003, Hong Kong's unemployment rate has eased for five consecutive months. It is currently standing at 7.3%, matching the 2002 average. The monthly data are even more encouraging. The formula for calculating unemployment rate is:

When increase/decline in total employment is more/less than the labor force, unemployment rate will fall. Of course, a healthy labor market will showcase the former case, i.e. jobs are created faster than growth in labor force, as in the October to December 2003 period when such a combination first emerged in one and a half years. Labor force increased by 7300 but total employment rose by 18700, reducing the unemployment rate by 0.2 percentage point to 7.3%.

Our forecasts call for Hong Kong's real GDP to grow by 5.0%, nominal GDP to grow by 3.5%, general property price to rise by 5-10%, and deflation to end in 4Q this year. Unemployment rate should fall to 6% by yearend, with annual average at 6.5%. Although economic recovery is obviously the catalyst, it is clearly shown from Table 1 that real GDP growth may not necessarily bring down unemployment, as suggested by the 1997-2003 data. It is the nominal GDP based on current market prices that is more closely related to changes in unemployment. Regression analysis supports this conjecture. The difference lies in deflation. During the five years of deflation starting in 1998, Hong Kong's nominal GDP has been contracting every year except for 2000 (coincidently, unemployment rate in that year dipped) while real GDP grew most of the time. As economy activities have been decreasing, unemployment rate has been rising. Therefore the hope for Hong Kong's unemployment rate to continue to improve this year actually hinges on the economy to resume growth in nominal terms.

The unemployment rate is generally regarded as a lagging indicator. Using quantitative model to analyze quarterly data from 1982, we find that changes in unemployment rate usually lag changes in nominal GDP by 12-14 months. If this pattern holds, as Hong Kong's economy enters a new growth phase as forecasted, the labor market should continue to improve within the next 12-24 months, though the degree of which dependent upon the pace of economic transformation.

An Analysis of the Labor Force and Unemployment Structure

Table 2 Changes in Labor Force and Unemployment: Hong Kong's labor force grew by 5.61% since the end of 1997 to 3.48mn. But total employment was down slightly, resulting in an increase of the unemployed by 189k, and seasonally adjusted unemployment rate up 5.3 percentage points to 7.3%, underemployment rate up 2.1percentage points to 3.4%. In the year 2000, unemployment temporarily dipped, due to lagging effects of the stock market bubble, before resuming its climb. Before the 1997 handover, Hong Kong's unemployment rate hovered around 2.2%. Although not the record low (it was the 1.0% in 1989), it still can be considered the natural rate of unemployment under the full employment scenario due to temporary labor market mismatches.

Table 3 Labor Force and Labor Force Participation Rate by Age Group: here we also calculate the proportions of each age group. The statistics show that the age group 45-64 has seen significant rise in absolute numbers, labor force participation rate and proportion since late 1997. At this age a person is generally considered being at the peak of his career or even attempting early retirement. Such increases in every category suggest an aging population and possible deteriorating confidence of economic safety due to volatile economic conditions. As Hong Kong does not have a formal retirement insurance system, early retirement has not been popular and employees try hard to hold onto current posts. Half of Hong Kong's labor force is concentrated in the age group of 25-44. And decreases in every category for the age group 15-24 also may reflect an aging population and tendency to exit the labor force due to cloudy job prospects.

Table 4 Unemployment Rate by Age: the hardest hit age group by unemployment is 15-19, registering an unemployment rate of 27.2% at the end of 2003. It was followed by the 20-29 and 50-59 groups. Here we introduce a relative concept by comparing the unemployment rate of each group with the general level. Those with consistently higher unemployment rate are considered disaster areas. The above three groups fit the profile. Although all age groups face rising unemployment, the other three are less affected. And our general assessment is that 15% of Hong Kong's labor force face the most harsh employment challenges.

Hong Kong residents generally complete upper secondary education at the age of 17, matriculation education at 19 and college education at 22. Joining the labor force at the age of 15-19, their educational attainment should be  matriculation or lower. They account for less than 10% of the labor force, yet they assume an unemployment rate four times higher than the average. Even before 1997 when full employment was achieved, the group already faced an unemployment rate of 10%. This is directly linked to Hong Kong's general education. According to the 2001 population census, 83.5% of those aged 15 or higher have educational attainment no higher than matriculation. Because of such huge base, no matter what the government does, a large number still find their ways into the labor force. As Hong Kong's economy marches towards a knowledge-based economy, the origin of teenagers' unemployment problem is not hard to trace.

Differentiating the Cyclical and the Structural Factors

Table 5 Unemployment Rate by Previous Industry: as the nature of Hong Kong's current economic recovery is deemed to be mainly cyclical, its vulnerability to external shocks persists. Thus although growth acceleration can solve cyclical unemployment, structural improvements may prove to be elusive.

Since 1997, every industry's unemployment rate has risen. But on a relative scale, the construction sector has been the hardest hit, followed by manufacturing, wholesale, retail and import/export trades, restaurants and hotels. The other industries coped better. The five-year slump in the property market heavily affected construction employment. It is partly cyclical, i.e. result of the bursting property bubble, and partly structural, i.e. the dominance of the property sector has faded. The government's decision to withdraw from the property market may negatively affect employment first. Thus during the August to October period of 2003, construction unemployment rate reached a record high of 20%. Although the worst may be over due to rebounds in the property market, dramatic improvements may be far fetched because the next few years will likely to be spent absorbing excess supplies, limiting new construction activities as a result.

As for manufacturing, relocation has been the natural answer to rising costs. But recent data suggest that the process may be near the end. For sixteen months in a row, manufacturing unemployment rate has been less than the average. In December 2003, domestic exports rose by 3.6% after thirty-six months of decline. CEPA's zero tariff treatment of Hong Kong products may lure some production process back to Hong Kong. The relocation started as early as late 1970s. After twenty years of readjustments, those remaining can be considered true survivors, especially when they passed the highest-costs-test around 1997. All these bode well for improvements in manufacturing employment, which will be structural if it happens. And economic recovery should largely solve employment problems in wholesale, retail and import/export trades, restaurants and hotels industries.

Surprisingly, the employment situation for the community, social and personal services industries has been far better than average, suggesting higher specialization and entrepreneurship of Hong Kong's service sector. It may also be due to ample resources of social welfare. Better job prospects for the financing, insurance, real estate and business services industries showcase the competitiveness of Hong Kong's core industries of finance and business and commercial services. For many years, they have been constantly adapting and transforming, maintaining competitive edge. The relatively strong showing of employment in the transport, storage and communications industries evidenced the importance of logistics, another core industry of Hong Kong and the rapidly expanding telecommunication industry.

Table 6 Employment by Industry Sector, Table 7 Unemployment Rate by Previous Occupation: this industry survey is different from that of Table 5, and covers only 2/3 of the total. In general, total employment has been reduced by 121,510 since 1997. Yet financing, insurance, real estate and business services industries and community, social and personal services industries have seen employment rising, partially offsetting declines in other industries. Manufacturing employment has declined significantly from early 1980s' 900,000 to 172,829, or less than 8% of the total. As for construction, this survey only covers construction sites workers. As a prudent practice, we deduct construction's employment from the unemployment statistics and conclude that since 1997, construction employment dropped by 47,000 to less than 10% of the total, reaffirming the seriousness of the problem. As for Table 7, it affirms common belief that professionals and skilled workers face less employment pressure.

The Temporary and Permanent Solutions to the Unemployment Problem

Teenager unemployment (age 15-19) is the most serious structural challenge facing Hong Kong. Economic recovery alone may not be enough to solve it, judging from the pre-1997 condition that teenage unemployment rate was always well above average. This is due to severe labor mismatches in this segment. To begin with, teenagers join the labor force way too early and in excessive proportion. In Hong Kong, teenagers' labor force participation rate currently stands at 45-50%, markedly higher than the US' 40% and Singapore's 15%. And its proportion in the labor force of 10% is also too high when compared to the US' 7.3% and Singapore's 1.7%. Once they join the labor force, they find out that not only demand is not there, but they also have to face fierce competition from other job seekers. As mentioned above, 83.5% of Hong Kong's population aged 15 or higher have educational attainment of matriculation or lower. Thus teenagers are competing against other job seekers with the same education but richer social and work experiences. No wonder their unemployment rate has always been much higher. In order to ease the pain, the government has been putting various job programs to work, without which the headline unemployment number could be much worse. But these measures using taxpayers' money are only temporary with side effects and limits of their own. The permanent solution lies in reversing the trend of early participation in the labor force by teenagers. Educational reform holds the key, as transformation towards a knowledge economy will put further pressure on teenagers' employment. However, the process is a long one, rendering it less effective to significantly improve the situation in the short run.

As for manufacturing job loss, it should be pointed out that it is not unique for Hong Kong. A research report by Economist Joseph Carson of the Alliance Capital Management LP last October finds out that for the period 1995 to 2002, the top twenty economies of the world lost a total of 22mn or 11% of manufacturing jobs. Among them, the US' loss was 2mn or 11%, while China's was 15mn or 15%. This report was aimed to counter false accusations of China stealing US manufacturing jobs. But it uncovers the reality that manufacturing job loss is mainly due to technological advancement and productivity surge under globalization. They may not return after all. As the world's largest and most populous economies have the same problem, Hong Kong's highly externally oriented economy proves no exception. In fact, Hong Kong's manufacturing relocation to the Mainland started more than twenty years ago with little government interference. It is the way the economy realigns itself to cope with rising costs. But signs are emerging that the end of such readjustments may be near. As mentioned above, manufacturing employment accounts for less than 8% today, giving it little room for further decline. It has outperformed the general market of late and CEPA may provide further boost. But a marked rebound in manufacturing employment can be ruled out. To survive Hong Kong's high costs, manufacturing has to be high value-added, which cannot be labor intensive, thus adding little to employment. And zero tariffs or tax incentives to lure manufacturing or procedures back to Hong Kong are nothing but government subsidies, which may go against the trend of Hong Kong's transforming towards a service economy. Thus a more realistic goal is just to stop manufacturing job loss. For manufacturing to see job growth again, Hong Kong's industry structure needs successful and effective realignment.

As for construction employment, a scenario may emerge in the next few years that general property prices rise but improvements in construction employment is stagnant. This is mainly due to the government's decision to cease property developments and delay the two Railway Corporations' property development projects to stabilize the market. As a result, construction employment will mainly come from government infrastructure projects and private development projects. Thus construction activities may not expand as briskly as suggested by price increase, resulting in subdued employment prospects. Again a realistic goal is to stop construction employment from falling. Meaningful increase will only come when large infrastructure projects such as the bridge linking Hong Kong, Zhuhai and Macao commence work and normal building activities return in the property market.

Hong Kong's cyclical economic recovery will no doubt solve the unemployment problem in many industries. And economic transformation will add to employment in those industries with competitive edge. Nevertheless, the several structural unemployment problems mentioned above cannot be solved in the near term. Besides economic transformation, nurturing new growth engine, increasing overall education and perfecting the immigration system, which are mostly medium to long term endeavors, exporting excess labors may be a solution during the transition period to ease pressure. Further studies are warranted on how to leverage CEPA to expedite our excess labor exports. However, if Hong Kong's labors are not competitive enough, they may still face employment challenges in any open markets. 

Table 1   GDP Growth and Unemployment Rate (NSA)

Table 2   Changes in Labor Force and Unemployment

Table 4  Unemployment Rate (NSA) by Age

Table 5  Unemployment Rate (NSA) by Previous Industry

Table 6  Employment by Industry Sector

Table 7  Unemployment Rate (NSA) by Previous Occupation