Two Canaries
News that there was insufficient demand from the public for government bonds in a recent sales exercise will have surprised many people. After all government borrowings are just about the safest investment in an advanced economy like ours, and the amount being sought was modest. Following closely on the admission by financial secretary Paul Chan Mo-po that the deficit to be incurred in this financial year was likely to exceed $100 billion, double what he had estimated in the budget, raised eyebrows were definitely in order. Hong Kong’s reputation for fiscal prudence is clearly at risk.
The infrastructure bond sale was just $20 billion, but the public subscribed for only $17.85 billion. The underwriters had to make up the balance. There may be pressure on the government to offer a higher rate of interest on future bond sales.
At the time of the budget in February, Chan had estimated a deficit of $48.1 billion for 2024-25 after taking into account anticipated bond sales of $120 billion. As I have pointed out before, bond sales are not revenue, they are borrowings (debts) that have to be repaid in future so the total difference between revenue and expenditure was being estimated at over $150 billion. At a meeting of the legislative council’s financial affairs panel earlier this month, Chan admitted government revenue for the year would be substantially less than forecast for various reasons, and as a result the deficit would exceed $100 billion after allowing for bond sales. A crude calculation therefore puts the unadjusted deficit at over $200 billion.
The government accounts for the first seven months of the financial year show a deficit of $242 billion without net bond proceeds being taken into account.
These numbers are sobering. They will have been noted in general terms by the public at large but in particular by financial market professionals. Top levels of the administration also need to focus on the implications. Chan has already expressed a disinclination to raise taxes, which means the burden of bringing the accounts back into balance must be borne by expenditure. The government must reduce existing expenditure levels where it can, but mostly it must accept that there is very limited scope for major new expenditure on either capital or recurrent basis.
It is notoriously difficult to achieve meaningful savings in government expenditure. A major item is salary payments for civil servants and pensions for retirees. There is already informal speculation among some serving and retired officers that there could be an across the board cut or freeze. It is difficult to think of a faster way of lowering community morale and stalling any recovery in consumer spending, so I doubt this option will be pursued which will come as a relief to many (As a pensioner, I should at this point declare an interest). Another idea which has been floated in the media is cutting the education subsidy for overseas students (their university fees do not cover the full cost). But they represent the seed corn of our future economy.
Absent the appointment of an Elon Musk equivalent to hack away wholesale at some existing functions, in practice this is likely to mean a ruthless emphasis on prioritisation. Ministers will have to accept restraint in plans for future expenditure, however worthwhile the programmes.
On development this will mean focus on the Northern Metropolis to the exclusion of almost everything else. It seems to be generally accepted now that we must fundamentally rejig our economy and put much more emphasis on research and development in technology, in conjunction with the remainder of the Greater Bay Area, in particular Shenzhen. That being so we must go full bore in this direction. Other development plans such as Kau Yi Chau islands will have to wait. The only other priority area must be maintenance of our existing infrastructure of which we are justifiably so proud. Water supplies, highway maintenance, storm water drainage, sewage, reliable power supply etc, all these dull but essential elements must be kept at their existing world class level. Nothing signals decline of a city more surely than frequency of burst water pipes and unfilled potholes.
On the economy, we are going to have to co-invest more with foreign companies to ensure we secure strategically important investments. There is fierce competition for the best and that is where we should be aiming.
On the recurrent side, I was surprised and disappointed at the muted response to the mistake by the previous administration of lowering the age of eligibility for the $2 fare concession from 65 to 60. The cost is several billion dollars per year and I am sure there are better ways to spend the money, for example the recently announced extension of dental services to the elderly. It is highly desirable to keep seniors involved as much as possible in the society around them as this can help stave off deterioration in their mental and physical faculties. But we must keep the total cost reasonable. How about half fare from 60 to 65, with the full benefit only kicking in at 65. How about raising the individual’s contribution from $2 to $3 per trip?
The apparent indication that the administration intends to maintain the 60 years eligibility rule is weak and does not evidence the kind of tough decision making we need going forward.
In the old days, coal miners working underground would keep a canary in a cage with them to act as an early indicator of dangerous carbon monoxide build up. The weak response to the bond sale and the jump in the anticipated size of the fiscal deficit are equivalent to two economic canaries gasping for air at the bottom of their cage. Time for resolute action.