Threats from the US to end Hong Kong’s special trading status pose a potential long-term risks to the city’s role as a global financial centre.

hk banks

On May 29, US president Donald Trump announced the US would remove certain trading privileges from Hong Kong. This followed the vote on May 27 by China’s National People’s Congress to pass measures to introduce sweeping new security laws in the special administrative region, potentially ending its semi-autonomous status. Critics said this move undermines the rule of law and civil liberties.

Though Mr Trump did not mention financial services, the fact that Hong Kong is increasingly embroiled in the US-China geopolitical struggle potentially jeopardises its position as the world’s third largest financial centre, particularly if tensions escalate.

The Centre for Strategic and International Studies (CSIS), a think tank, believes that revoking Hong Kong’s special status would hit favourable visa waivers and export control rules but not financial flows. It said in an insight that it is unclear if this would lead to capital flight, or a hit to confidence in the autonomy of its financial regulators.

Dutch bank ING reckons the biggest threat from the removal of the special status is that it could see more restrictions on US technology transfers to Hong Kong. It noted that 70% of cybersecurity products used there are from US firms.

Another factor is that in 2019, 278 US companies, many of them in financial services, had regional headquarters in Hong Kong – 18% of all foreign regional headquarters. ING attributed their presence to the Hong Kong dollar peg with the US dollar, business-friendly laws and low taxes. Nearly a third of Hong Kong’s investment banking entities are US owned.

Roughly 60% of all foreign direct investment to China flowed through Hong Kong in 2018, while Chinese banks hold more assets in the city than other foreign banks. Also, the territory is the gateway for half of foreign investment activity into China’s capital markets.

Making it harder for US financial firms to use Hong Kong would likely damage its status, to the benefit of regional rivals such as Singapore.

Reduced market access

If measures are taken to the extreme, one Bloomberg article suggested the US could drastically reduce China’s access to western capital markets, which could significantly hinder investment and financial flows. It noted that Hong Kong is vital for Chinese companies that need access to foreign currency and global banks. Some analysts worry that a sudden halt in capital flows via Hong Kong could have unpredictable consequences for China’s financial system.

However, the idea that Hong Kong is under threat is challenged. Hong Kong financial secretary Paul Chan wrote in a blog that the security laws would not affect capital flows or the city’s status as a global financial hub. It would still benefit from the opening up of China’s financial services markets.

On June 2, Eddie Yue, chief executive at the Hong Kong Monetary Authority (HKMA), reiterated that there will be no changes to Hong Kong's monetary and financial systems and that the HKMA will protect financial stability and free flows of capital.

He refuted suggestions that the HK dollar peg is in danger – saying it is functioning normally and deposits at banks are stable – and he rebutted media reports that there is a shortage of US dollar bills in the city.

Furthermore, Mr Yue said Hong Kong has $440bn in foreign exchange reserves, double the city’s monetary base. Also, the banks have a strong capital position with a capital adequacy ratio currently at 20% and a liquidity coverage ratio at 160%.

He warned, however, that Hong Kong’s financial centre is closely intertwined with the global financial system, adding: “Any move that hits our financial system would also send shock waves across the global financial markets, including the US. Confidence of international investors in using the US dollar and holding US financial assets could also be undermined.”

Hong Kong remains classified as a separate territory by the World Trade Organisation, the World Bank and the International Monetary Fund.

This article first appeared in The Banker's sister publication Global Risk Regulator.


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