Hong Kong experts state that the removal of Hong Kong’s special economic status will subject Hong Kong exports to he same tariff rate that is applied to Mainland China. Thus in terms of tariffs on exports from China and Hong Kong, going forward, there will be no difference.
What makes this even more detrimental for the Hong Kong, is the removal of the territory’s coveted “First-Sales Rule” that it has over the Mainland. According to the Hong Kong Trade Development Council, the “First-Sales Rule” states that Hong Kong exports to the US that go through multiple locations, will be charged trade duties based on the initial sale.
So for example, if a Mainland Chinese exporter sells goods to a Hong Kong exporter at a low price, and the Hong Kong exporter resells those goods to the US at a higher price, the tariff that will be imposed will be on the initial transaction (i.e. The sale of goods between the Mainland China exporter to the Hong Kong exporter), as the Hong Kong exporter is considered a “second leg” within the transaction in the eyes of the US. As a result, the tariff paid would be lower when the sale goes through Hong Kong.
However, with the removal of Hong Kong’s special economic status, the “First-Sales Rule” will no longer be applicable to Hong Kong exporters. What this means, is that in the example above, the Hong Kong exporter may not be seen as a “second leg” in the eyes of the US, and as a result, the Hong Kong exporter may not even be needed when exporting from the Mainland. Going forward, Hong Kong’s logistics and port infrastructure will likely see a decline in the future.
As a result of the removal of the “First-Sales Rule”, we expect that trade between Hong Kong and the US will result in higher tariff rates imposed on Hong Kong exports, and in turn, will lead to a decline in trade between the two in the future. Further, we expect that this will have a detrimental effect on Hong Kong’s logistics, supply chain, shipping, port, and import/export industries.
In addition to trade, the second area that will be hit hard by the removal of Hong Kong’s special economic status, will be technological relations between the US and Hong Kong.
Hong Kong: The Long-Term Impact of Losing Special Economic Status from the US
The US is removing Hong Kong’s special economic status under US law. What is the economic impact from this decisions?
Historic Background
As of May 2020, Hong Kong is losing its special economic status from the US.
The United States-Hong Kong Policy Act of 1992 gave Hong Kong favorable trading and economic terms with the US. The Act further identifies Hong Kong as a separate customs territory from the Chinese Mainland.
However this Act seems to be under threat, as US-China political tensions reached new heights after Beijing proposed new a security law for the special Chinese administrative region. In May 2020, Beijing introduced a draft national security law that bypasses the Hong Kong legislature, reigniting concerns over eroding freedoms in the region, as well as protests throughout the city.
In 2019, Hong Kong’s exports to the US amounted to around US$39 billion or approximately 7.6% of Hong Kong’s total exports, however, this is down about 15% from 2018. Conversely, US imports into Hong Kong were approximately US$27.3 billion, or roughly less than 5% of Hong Kong’s total imports in 2019. This was down by 8% from their 2018 levels. Further, in terms of foreign direct investment (FDI) from the US into Hong Kong, at the end of 2018, this amount was US$37.3 billion, or approximately less than 2% of total FDI into Hong Kong. The increase in investment by the US was US$2.5 billion in the same year, which was around 2.3% of the total increase in direct investment for the region. This decrease in trade flows between the two regions was primarily attributed to the trade war between the US and China.
Given the decline in economic activity between the US and Hong Kong, the removal of Hong Kong’s special economic status by the US will have a sustained impact on the Hong Kong economy going forward.
In fact, the two key areas of the Hong Kong economy that we expect will be hit the hardest by this decision is trade and technology.
Impact on US-Hong Kong Trade Volumes
Hong Kong experts state that the removal of Hong Kong’s special economic status will subject Hong Kong exports to he same tariff rate that is applied to Mainland China. Thus in terms of tariffs on exports from China and Hong Kong, going forward, there will be no difference.
What makes this even more detrimental for the Hong Kong, is the removal of the territory’s coveted “First-Sales Rule” that it has over the Mainland. According to the Hong Kong Trade Development Council, the “First-Sales Rule” states that Hong Kong exports to the US that go through multiple locations, will be charged trade duties based on the initial sale.
So for example, if a Mainland Chinese exporter sells goods to a Hong Kong exporter at a low price, and the Hong Kong exporter resells those goods to the US at a higher price, the tariff that will be imposed will be on the initial transaction (i.e. The sale of goods between the Mainland China exporter to the Hong Kong exporter), as the Hong Kong exporter is considered a “second leg” within the transaction in the eyes of the US. As a result, the tariff paid would be lower when the sale goes through Hong Kong.
However, with the removal of Hong Kong’s special economic status, the “First-Sales Rule” will no longer be applicable to Hong Kong exporters. What this means, is that in the example above, the Hong Kong exporter may not be seen as a “second leg” in the eyes of the US, and as a result, the Hong Kong exporter may not even be needed when exporting from the Mainland. Going forward, Hong Kong’s logistics and port infrastructure will likely see a decline in the future.
As a result of the removal of the “First-Sales Rule”, we expect that trade between Hong Kong and the US will result in higher tariff rates imposed on Hong Kong exports, and in turn, will lead to a decline in trade between the two in the future. Further, we expect that this will have a detrimental effect on Hong Kong’s logistics, supply chain, shipping, port, and import/export industries.
In addition to trade, the second area that will be hit hard by the removal of Hong Kong’s special economic status, will be technological relations between the US and Hong Kong.
Impact on US-Hong Kong Technological Relations
The removal of the special economic status on the autonomous region could lead to more technology transfers restrictions between the US and Hong Kong.
We believe this will be the case, because the same policy that applies to Mainland China on technological transfers would, theoretically, be applied to Hong Kong as well. Frankly, what this means, is that the US government could prevent US tech companies from selling technological products and services to Hong Kong-based companies. This would have a long lasting effect on Hong Kong-based companies and the economy.
Unlike Mainland China, Hong Kong does not manufacture any technological products, so the threat to Hong Kong is not in terms of producing advanced technological goods. Instead, the threat stems from the fact Hong Kong companies provide technological, internet, and telecommunications services that rely on US-based technological products and services. This ranges from the use of US-based technology for mobile applications, to the use of US-based telecommunication products for Hong Kong business and the technology applications. In fact, this gets even more problematic, if the technology products have “dual-use” characteristics, i.e., both commercial and military use, which is essentially at the core of the technological war between the US and China.
Since the impact could be very damaging to both the US and China, there is some doubt in how far US would go to enforce the special status on technology transfers, as there is a high chance that this would also have a negative reputational and financial impact on US companies.
Despite this, we do see more Hong Kong and Chinese companies looking for alternatives to US technology, in case there is a sudden country-wide ban on using US technology. In fact, we believe that in a scenario where the US restricts technological transfers to Hong Kong, Mainland China tech firms would quickly come in to the region to fill the void. In doing so, this would provide Mainland Chinese tech firms with an increased regional footprint to export their technological products and services throughout the region.
Our View
In our view, as a result of this historic decision, we do see some uncertainty ahead for the certain areas of the Hong Kong economy. This uncertainty stems from how the US will shape its policies towards Hong Kong after the removal of the special status in the future, but also from how Mainland China may retaliate to this decision, which could be a mix of both political and economic policies toward the US.
As stated earlier, we do see Hong Kong logistics, shipping & port services, as well as import and export industries will be most impacted by the removal of the special status. Additionally, Hong Kong businesses who rely on US-based technology will be hurt as well, if they are banned from using US technology going forward.
For now, we expect Hong Kong GDP to come in at -4.0% to -4.8% for 2020.
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