Economic review

Crawling out of recession

Hong Kong's 2Q02 real GDP rose by 0.5% on year, slightly better than our expectation of 0.2%. Behind the better reading was attributable to far less than expected investment contraction, supported by the introduction of capitalization of spending on computer software under the new methodology and the surprising turnaround in expenditure on buildings and construction with some major projects.

Among other components, as expected, rising net export of services was the key driver of recovery. Meanwhile, exports of goods crept into positive territory for the first time since 2Q01, increasing strongly by 5.9% yoy after declining by 2.4% in 1Q02. However, private consumption contracted by 2.4% yoy in light of a slackened labour market and deepening deflationary pressure.

On a seasonally adjusted quarter-to-quarter basis, real GDP growth accentuated further from 0.2% in 1Q02 to 0.4% in 2Q02. By components, exports of goods and services performed better (up 5.2% and 3.7% respectively) but private consumption dipped by 1% again in 2Q02.

Chart 1: Gross domestic product

Table 1 : GDP at 2000 constant prices

Outlook

Export: the key engine for recovery

In 2H02, we expect exports of goods and services could sustain the uptrend, albeit at a moderate pace, and lift economic growth further. In July, the value of total exports rose further by 9.8% in July, after a strong rebound of 8.0% in June, thanks to a distinct upturn in exports destinated to East Asian and US markets. With ports at Shenzhen are already operating well above its optimal capacity, China's astonishing exports growth should mean that Hong Kong re-exports and trade-related services strengthen in turn. For instance, Hong Kong's air cargo exports continued to pick up and surged 37.9% on year in July, partly attributable to more than 50% surge in exports to North America. Meanwhile, Hong Kong's main port, Kwai Chung terminals, handled a total of 1.05 million units in July, up 7.1% over a year earlier.

There are more signs of easing global economic momentum and tensions between US and Iraq will remain. However, the weaker USD and gradual relaxation of mainland trade barriers could help cushion its impacts. Domestic exports of textile and clothing could pick up at a faster pace on the emergence of quick order.

For exports of services, July visitor arrivals in Hong Kong leaped 16.5% yoy to a record 1.37 million. We expect the influx of mainland visitors would continue to support the tourism sector, in particular, during October's National Day holidays this year. While tourism expands robustly, exports of financial and business services could improve further as China opens its market.

Chart 2: Visitor arrivals

Chart 3: Air cargo exports

PMI setting back

Although re-exports business is gathering momentum, domestic export growth still dips into negative territory as most Hong Kong manufacturers have relocated their production base to mainland China. The Hong Kong Purchasing Managers Index, which gives an overall outlook of local business activity, dipped below 50 to 48.7 in August, after expanding for six straight months as new orders have slowed on faltering demand.

Domestic recovery will take time

Amidst slack domestic economy, labour market conditions in the near term will still be acute, with unemployment rate edging towards 8% or more in 3Q02 and gradually ease to 7.5% level in 4Q02. As the benefits of export recovery filter through the domestic economy, unemployment could improve slowly to 6.5-7.0% range in 2003.

Property prices: looking for the bottom

For the property sector, the government in June already scaled down HOS unit sales to 4,900 units this fiscal year, intending to provide some support for the property market. This small batch of lower-valued flats, however, did cast shadow on the private property market. For instance, two large developers, Cheung Kong Holdings and Sun Hung Kai Properties, offered an initial batch of flats at deep discounts to attract attention. In the next two years, we will see almost 16,000 new HOS units built. We are, therefore, concerned about more price-cutting until the government presents a clear housing policy, in particular, the issue of scrapping HOS.

On the consumption front, it will be a rocky road to recovery, as job insecurity, volatile financial markets and the ongoing decline in property prices remain a constraint on spending. Furthermore, structural issues, such as hollowing out effect and huge fiscal deficit problem are still the major concerns and weigh on domestic demand. Private consumption is projected to contract by 1% in real terms this year.

As the territory is struggling to recovery, the number of bankruptcies hit a record high of 12,407 in the first seven months of this year. The uptrend will continue until the labour market conditions improve. We expect bankruptcies might stabilize in 2Q03 or 3Q03.

Updated forecasts

As investment under new method contracted at slow pace and the base year changed from 1990 to 2000, the government raised its 2002 GDP forecast to 1.5%, from 1.0%. We agree with the government's move and technically revise this year's GDP forecast from 1% to 1.5%. We expect exports of services and exports of goods could still be key engines of growth in 2003. Thus, tourism and trade-related sectors should revive. However, given ongoing economic restructuring and hollowing out effect, domestic demand will still be slack. Private consumption next year is projected to rise slowly by 0.8% and retail sales value will grow by a modest 0.5%. On the price front, we project the downward pressure on rentals, especially induced by faltering property prices, will keep local prices down. The forecast rate of change in the Composite CPI in 2002 is maintained at -3.0% but 2003's CPI change forecast is revised from 0.3% to -0.5%.

Table 2 : Revised projections of main economic indicators

Daniel Chan, Dr.
Senior Economist
Head of Economic Research
Tel: 2218-8230