Hong Kong's Budget Bureaucrats

If Hong Kong were to choose to compare the abilities of its ministers with those of Singapore it would feel mightily embarrassed. Perhaps most striking is that between Singapore Finance Minister Tharman Shanmugaratnam and his Hong Kong counterpart John Tsang Chun-wah as indicated by their respective abilities to both enunciate well-argued policies, and to implement them.

But there is perhaps a broader issue in that in Singapore there s a sense that the regime, however arrogant and oppressive, does feel a need to show results, to strive for excellence at least in some areas. Their Hong Kong counterparts mostly have the bureaucrats' preference for staying out of trouble, which means doing little to offend, in particular avoiding offending either local tycoon interests or their more distant masters in Beijing.

This week John Tsang unveiled his budget for 2011-12. Budgets are supposed to be both an occasion for adjusting spending and revenue for the coming year in the light of the conditions of the economy and requirements of society and of setting out medium-term plans for the tax system to reflect broader economic and social changes.

As he has done in his previous budget speeches, Tsang almost completely ignored the substantive longer-term issues despite the fact that the government itself has long acknowledged that the tax system is far too reliant on a very narrow and volatile range of imposts mostly related to the real estate market.

A few years ago the government intended to introduce a broad-based Goods and Services Tax (GST) to produce a steadier revenue flow. But it retreated in the face of widespread opposition and has since failed to come up with an alternative plan – though options are available such as taxes on power consumption and road usage which would both raise revenue and directly address what is arguably Hong Kong biggest social and long term economic problem – air pollution.

Tsang has not only failed to do so but his latest budget showed such a lack of imagination that the measures he announced to spend some of the massive surpluses that Hong Kong continues to build up in ways which contradict other, previously declared, policies. Some HK$4.7 billion is to go to provide an electricity subsidy to all local households, thereby making nonsense of a government campaign to use less energy and "go green". Sloganeering has long been a substitute for real policies to combat pollution but free electricity is positively contrary to anti-pollution efforts.

Tsang is also to make a partial waiver of residential property rates costing HK$9.9 billion in revenue. Rates are one of the most stable forms of revenue, fair in their application across all sectors of the economy and over time rising roughly in line with inflation. But instead of focusing on them as a key part of a more stable revenue system Tsang chose to make them the subject of an arbitrary, one-off reduction.

The government actually rejoices in property prices rising faster than other prices because it swells revenue even as it costs the territory's small and upcoming business dearly while rewarding those who have long been property owners. It cares nothing for the social or economic consequences of this real estate obsession.

Indeed both the power and rates giveaways were products of a refusal to recognize that Hong Kong has a chronic surplus revenue situation and reflects a desire by the bureaucrats to treat surpluses as gifts which they in their wisdom may sometimes deign to distribute arbitrarily. It is arrogant paternalism at its worst. This year it is also being used to massage the consumer price inflation figures in such a way as to make the real increase in government spending appear larger than it really is.

Tsang spoke a lot about the dangers of inflation, which he largely blamed on the US, and his determination to combat it. But this was so much self-aggrandizing nonsense. Given Hong Kong's peg to the US dollar and its ever growing economic linkages with a China simultaneously showing rising inflation and a rising currency there is scant that Hong Kong's government can do about local inflation. If it has any contribution that will be found in the huge increase ongoing in its capital spending, which has risen 50 percent over the past two years as it indulges in an orgy of transport projects headed by two which make no economic sense – a road bridge across the Pearl River delta and a HK$65 billion stretch of high speed rail track from the middle of Kowloon to the border – a journey which can already be done in under 30 minutes by car or the existing train route.

The huge outlays on these construction projects – which will also require import of labor – contrast with lack of capital spending on cleaning up the environment by replacing public and commercial transport vehicles and ferries with low-emission substitutes, on paying the power companies to stop burning coal – a major contributor to pollution – and follow most other major ports in developed countries in requiring ships to use low sulfur fuel when in local waters.

In another largely meaningless public relations gesture, Tsang announced that the government would issue inflation-linked bonds in an effort to allow savers to earn a real return at a time when savings bank rates are a negative 2 percent or more in real terms. However the proposed size of the issue – HK$5-10 billion is so small as to be meaningless in the context of HK deposits totaling HK$3.6 trillion. The market will ensure that the actual return on such a small issue is minimal and likely even less than their US equivalent.

The intellectual dishonesty of the government also shows up in its claims that it needs its HK$600 billion in fiscal reserves for a "rainy day" and also because it has HK$600 billion in unfunded future liabilities of its government employees – who mostly enjoy pension rights far superior to those in the private sector. Like most governments, Hong Kong has always operated on a cash rather than accrual accounting basis. So that liability is an irrelevance. If it draws up a real balance sheet it will be found that its other assets, such as the Airport Authority and Mass Transit Railway Corp. more than offset its pension liabilities.

The brutal underlying fact is that for reasons of both incompetence and the Scrooge mentality of the highly-paid senior bureaucracy government budget estimates almost invariably prove wrong by tens of billions of Hong Kong dollars. For the current year (ending March) there is expected to be a surplus of HK$71 billion against a projected deficit of HK$25 billion. This difference of HK$96 billion no less than 31 percent of total spending. Income is higher by HK$82 billion while spending has fallen short by HK$13 billion. Some of the wrong estimation results from the volatility of revenue sources – land sales and stamp duties on share and property transactions at a time of fast rising prices thanks to low interest rates and hot money inflow from the mainland. But erring on the side of building ever greater reserves is invariable.

The government also keeps out of account rises in the surplus of the Monetary Authority. These now total another HK$600 billion or so. They properly belong to the community but are used as a slush fund by the bureaucracy which claims they are necessary to maintain the stability of the banking system and the currency. These claims are largely nonsense. Prudential supervision of local banks is already the responsibility of the HKMA. Likewise it has no responsibility for foreign bank solvency as local depositors in Bank of Credit and Commerce International found when it went bust in 1990.

Instead the HKMA is using its clout to extend the scope of the government into new areas which properly belong to the private sector.

The latest such invasion enables the HK Mortgage Corporation, an HKMA offshoot, to launch a loan guarantee scheme for small and medium enterprises. It is also being invited to study setting up a micro-finance scheme. The private sector should be raising a fuss about these incursions but is not either because it is too scared of offending officials or can see these new schemes as a way of making money by making loans and then selling the risks to Hong Kong's equivalent of the US Fannie Mae.

But do not let Hong Kong government's abysmal record in "picking winners" and entering the commercial sphere stand in the way of more top jobs for bureaucrats.