Cutting expenses is a quick fix for HK’s swelling budget deficit, but diversifying and creating new growth sources, drawing up a clear economic revival blueprint, and making a comprehensive review of the tax regime would help put public finances back on track. Oswald Chan reports from Hong Kong.
Hong Kong has had budget deficits in four of the five fiscal years since 2019-20. Presenting the 2024-25 Budget on Wednesday, Financial Secretary Paul Chan Mo-po again painted a bleak picture, projecting another deficit of HK$101.6 billion ($13 billion) for the fiscal year of 2023-24 on the heels of a HK$122.3 billion shortfall in the previous fiscal year.
From the 1998-99 to 2003-04 fiscal years, the special administrative region government had incurred five budget deficits (except 1999-2000).
The city’s fiscal reserves are predicted to have dwindled by about HK$400 billion in the past four fiscal years (2020-21 to 2023-24). The reserves are estimated to have slumped to HK$733.2 billion as of March when they stood at HK$834.8 billion a year ago. The SAR’s fiscal reserves have only surpassed HK$1.1 trillion, which is the highest level since 1997, during the fiscal years from 2018 to 2020.
For the fiscal year of 2024-25, the administration is expecting another budget deficit of HK$48.1 billion after taking into account bond issuance proceeds, and fiscal reserves are expected to decrease to HK$685.1 billion by the end of March 2025. Total government expenditure and revenue for the year are estimated to be HK$776.9 billion and HK$633 billion, respectively.
READ MORE: Chan scraps HK property curbs, moots 2-tier personal tax model
Heightened geopolitical tensions, rising US interest rates and a slower-than-expected economic recovery on the Chinese mainland have clouded prospects of an economic rebound for Hong Kong following the COVID-19 pandemic. The administration had spent more than HK$600 billion on anti-COVID-19 and countercyclical measures to fight the pandemic and reboot the economy from 2020 to 2022, exacerbating the city’s budget deficit woes.
Government expenditure grossly exceeded revenue in the past decade, with spending having jumped by more than 75 percent — from HK$433.5 billion in 2013-14 to HK$761 billion in 2023-24 — while revenue estimates edged up by just 41 percent during the same period — from HK$455.3 billion in 2013-14 to HK$642.4 billion in 2023-24.
Tang Hei-wai, a Victor and William Fung professor in economics at HKU Business School and associate director at the Hong Kong Institute of Economics and Business Strategy, expects the deficit to improve when the local economy regains momentum next year or by 2026, and various initiatives to curb spending, such as freezing job recruitment and encouraging technology digitalization to reduce staff costs, are implemented.
Tang says the SAR must strive to expand its narrow tax base, suggesting the possibility of levying a sales tax in the medium or long term. But he believes neither a capital gains tax nor a land departure tax is practical as they would restrict the flow of capital, talents and tourists into Hong Kong, crimping its economic competitiveness in Asia. The solution for the deficit problem, Tang suggests, could be in raising tax revenues by boosting economic growth.
“This concerns whether Hong Kong can have a clear and effective industry policy to promote new economic activities. With such a policy, there would be inflows of capital and talents to bolster our economic capacity,” Tang says.
He points to structural causes for the continued budget deficits. “Hong Kong’s public finances focus mainly on the inflow and outflow of cash every financial year. Article 107 of the Basic Law requires the SAR to maintain fiscal discipline stringently. Therefore, the government cannot make financial commitments for long-term infrastructure and land projects, thus crimping the city’s long-term economic vitality, productivity, competitiveness and growth prospects that should be addressed urgently.”
Article 107 under the Basic Law stipulates that Hong Kong shall follow the principle of keeping expenditure within the limits of revenues in drawing up its budget, and try to achieve a fiscal balance, avoid deficits and keep the budget commensurate with the growth rate of its GDP.
The 2024-25 Budget says the SAR government is making progress on the Northern Metropolis while consultancy work continues on the Kau Yi Chau artificial island reclamation project, which is an essential part of the Lantau Tomorrow Vision. However, the Kau Yi Chau project’s implementation time will be slightly later than the Northern Metropolis as the government has to consider the financial cost.
Tang believes that when it is difficult to implement the Lantau Tomorrow Vision and Northern Metropolis simultaneously amid soaring budget deficits, the Northern Metropolis project should get priority. “This area is an important land source to meet population growth for transforming Hong Kong into a mega metropolis with a population of 10 million to lure overseas capital and talent to support economic growth.
“Moreover, the Northern Metropolis development is also vital for pushing the goal of developing high-technology industries and new industrialization in Hong Kong, as well as fostering deeper integration with the Guangdong-Hong Kong-Macao Greater Bay Area,” he says.
Tang says that as Hong Kong’s debt-to-GDP ratio is relatively low, it makes sense to provide leeway for bond issuances to meet the funding of long-term infrastructure and land investment projects, while ensuring that the city’s credit rating is not affected.
Hong Kong's Financial Secretary Paul Chan Mo-po delivers his annual budget speech at the Legislative Council in Hong Kong on Feb 28, 2024. (CALVIN NG / CHINA DAILY)
Diversifying revenue
Billy Mak Sui-choi, associate professor at Hong Kong Baptist University’s Department of Accountancy, Economics and Finance, sees the government adopting a strategy of tightening expenditure, and diversifying revenue to deal with budget deficits.
He says the 2024-25 Budget is offering a slew of measures to help restore a balanced budget in the next few years.
“Curbing recurrent expenses is relatively easy. The 1 percent saved on recurrent expenses by various government bureaus under the Productivity Enhancement Program can be used to launch new government services.”
Mak stresses that Hong Kong has to diversify its economic base and accelerate economic growth to boost tax revenues. “The preferred way to raise tax revenues is to maintain the same tax rate when the GDP rises. The less preferred option is to lift the tax rate when the GDP remains stagnant. But there would be less tax revenues as economic activities would not be sufficient to generate higher tax revenues.”
Mak opposes levying new taxes to tackle soaring budget deficits, as all types of new taxes, including a sales tax, a capital gains tax or a land departure tax, would either meet strong political resistance, or reduce government revenues as they would curtail the flow of people and capital.
In his view, the government should push on with its two mega projects — Lantau Tomorrow Vision and the Northern Metropolis. “Infrastructure and land projects are public goods that can have positive marginal externality spillover effects and, thus, boost economic growth and government revenues. The administration can either allocate some of its annual revenues, use external finances, such as bond issuance, or adopt the public-private partnership funding model, as financing options.”
Creating growth engines
Mak praises the government’s recent measures to attract capital and talents as “positive” in alleviating the negative impact on revenues due to the recent exodus of capital and talent from Hong Kong. He is confident that Hong Kong’s credit rating can be maintained despite growing budget deficits.
“I do not think Hong Kong’s current public finance situation is in such a poor state that bonds have to be issued to meet recurrent expenses. Even if the government resorts to issuing bonds for infrastructure and land projects, it still has the financial arsenal to repay its debts, as its outstanding bond issuance amount is relatively small, compared to its ample fiscal reserves. But the administration has to be careful if the city’s fiscal reserves continue to drop,” he warns.
The SAR says it will implement a comprehensive fiscal consolidation program to contain operating expenditure growth and increase revenue, but US-based credit rating agency Fitch Ratings said it expects this approach to be unlikely to succeed in restoring a balanced budget in the coming years. Fitch said it expects the government budget deficit (excluding bond issuance proceeds) to narrow to about 3.2 percent of GDP in the 2024-25 fiscal year, reflecting the reduction in countercyclical measures, and the limited recovery of revenue sources, such as land premiums and stamp duties.
ASEAN+3 Macroeconomic Research Office says increasing fiscal reserves and rebuilding fiscal policy space in line with the ongoing economic recovery should be the priority for the SAR government.
The research center advises the administration to consider implementing comprehensive tax reforms to broaden its revenue base, for example, exploring the feasibility of introducing new taxes, such as value-added taxes and capital gains taxes in the medium to long term. The government can also explore the possibility of enhancing a progressive personal income tax regime as part of overall tax reform, it says.
Other business chambers and professional auditing firms however oppose the idea of levying new taxes or raising profits and salaries taxes to rein in the spiraling budget deficit, as the local economy continues to face significant challenges amid the global economic malaise, high interest rates and geopolitical uncertainties.
“As the SAR government is facing immense financial pressure, it should adopt a multipronged approach to ensure economic stability, and be prudent with public finances, while providing targeted financial relief to enterprises and taxpayers,” says Agnes Chan Sui-kuen, deputy chairman of the Hong Kong General Chamber of Commerce — the city’s oldest business organization representing multinational companies.
“We do not recommend levying new taxes, such as a sales tax or capital gains tax, because it is important for Hong Kong to maintain a low and simple tax regime,” says Deloitte China Tax Partner Polly Wan Pui-yee. “The administration would have to incur administrative costs by levying new taxes. Businesses would also have to shoulder huge administrative costs to meet the compliance demand if a capital gains, or a sales tax is levied.”
ALSO READ: SAR budget eyes growth amid fiscal consolidation
Economic experts generally agree that the fundamental way to deal with fiscal deficits is to revitalize the economy by encouraging corporate investment and lifting Hong Kong’s economic momentum and competitiveness.
Deloitte Tax Partner Doris Chik Wai-chi recommends that efforts be taken to promote Hong Kong as a regional business hub; encourage initial public offerings by lowering IPO costs, capped at HK$5 million; propel innovation and technology development; and refine the tax system relating to intellectual property.
“The government should devote its financial resources to three areas — creating more economic growth engines, promoting economic transformation through digitalization, and helping Hong Kong enterprises to find more markets,” says Anthony Lau Ming-yeung, co-chairperson of CPA Australia’s Greater China taxation committee.
Besides raising economic competitiveness, the HKGCC would like the government to conduct a thorough review of whether any new broad-based taxes could be introduced to rein in the soaring budget deficit.
Karina Wong Man-fai, CPA Australia’s Greater China divisional deputy president and taxation committee deputy chairperson, proposes a comprehensive review of the tax system to explore every possible revenue source.
“Such a review should be based on Hong Kong’s overall economic development trend and goals, as well as the local social patterns,” she says.
Contact the writer at oswald@chinadailyhk.com
