EF3461 The Economies of Mainland China and Hong Kong

1. EF3461The Economies of Mainland China and Hong Kong Tutorial 3Hong Kong’s business environment and productivity City University of Hong Kong Dr. Isabel Yan

2. 1. Friendly Business Environment in HK(Enright, 1997) • Economic Cluster “Economic clusters” means the clusters of related industries, which provide relevant economic goods and services for the efficient operation of businesses e.g. Good banking and financial services, telecommunication facilitate business transactions . Economies of scope The cluster of allied business services creates the benefit of economy of scope.

3. Hong Kong’s clusters (groups of industries): i. infrastructure and real estate development cluster linking property development and construction groups with engineers, architects, surveyors and interior designers. ii. business and financial services cluster this cluster includes legal services and accounting services as well as financial services like private banking, corporate finance etc. iii. transport and logistics cluster it comprises air cargo, sea cargo, tourism and logistics-related services etc. iv. light manufacturing and trading cluster it comprises the 4 largest manufacturing industries in HK by export value – clothing, electronics, textiles and watches/clocks. v. Tourism cluster it includesthe hotel industry and tourism-oriented services like restaurants.

5. S.Korea Japan China goods India Taiwan Supporting services Thailand Philippines Malaysia Indonesia 2. Strategic location for trade and excellent harbor A hub for trade into and out of Southern China and East Asia. Hong Kong’s seaport is the world’s busiest container port.

6. 3. Capital and Finance Hong Kong’s capital markets are advanced. For instance, HK’s stock market is the second largest in Asia after Tokyo. 4. Rule of law HK’s legal system has been based on the rule of law and an independent judiciary. This provides HK a free and liberal investment regime. 5. Free Trade & Free Market 6. Corruption-free & Stable Society 7. Low and Predictable Taxes The total salaries tax charges will not exceed 15% of a person’s assessable income. 8. Workforce and Education Nine years of free education. Use of IT in the school curriculum.

7. HK’s economic challenges (Enright,1997)(1) 1.Cost pressure HK’s residential and office rental costs are widely known to be among the most expensive in the world. Unless the cost increases are matched by increases in productivity, the cost increases will hurt competitiveness.

9. HK’s economic challenges (Enright,1997)(2) 2. Challenges for the non-traded sector The non-traded sector influences the competitiveness of an economy in 2 ways: (i) it provides key inputs and services to the traded sector and hence contributes to its success or failures in the international markets. e.g. air/water transportation, storage, insurance etc. (ii) the efficiency and productivity of this sector directly affects the standard of living of an economy e.g. restaurants; electricity, gas and water etc.

10. 2. The Productivity of HK (Li(2002) Ch3) Definition of Total Factor Productivity (TFP) Total factor productivity measures the overall efficiency of production. In a neo-classical production function, the aggregate output (Y) depends on the quantity of capital (K), the quantity of labor (L) and the total factor productivity/level of technology (A). “A” is a catchall term that captures the total production efficiency. The production function is specified as follows:

11. Productivity Accounting – How to Measure Total Productivity Growth? Differentiating the production function with respect to time and dividing through by Y: Define , In other words, productivity growth is the “residual” growth after we subtract the growth of capital and labor (each weighted by its share of factor payment) from the output growth. Usually a constant returns to scale is assumed, which means that .

12. Classification of industries: Before looking at the data, we need to know how the industries are classified into various sectors based on their tradability: Goods sector Services sector Tradable services sector Nontradable services sector Tradable goods sector Nontradable goods sector Hotel Air/water Transportation Storage Financial services, business services, insurance and real estate services Wholesale and retail trade Restaurants Communication Community, social and personal services Construction Electricity, gas and water Real estate Manufacturing, Mining and quarrying

13. An alternative classification of the services sector is made by Richard Wong and Zhigang Tao(2000). They classify services according to the production activities: Services sector Consumer services Services for final consumption Producer services Services output of the industries that produce intermediate inputs. Producer services add values to the output of other economic units Government services Services provided by the government Government Services Restaurants Hotels Community & Personal Services Financial services, business services, insurance and real estate services

14. Discussion Question 1 1. Based on the data in table 3.6, analyze the changes in the productivity of HK in the various sectors. 1a. Which sector had the highest total productivity growth during 1995-2000? Does this industry belong to the tradable or nontradable sector? 1b. What do you think are the factors that contribute to the rapid total productivity growth of this industry? 1c. Which sector had the lowest total productivity growth during 1995-2000? Does this industry belong to the tradable or nontradable sector?

15. Lowest TFP growth in 1996-2000.

16. Highest TFP growth in 1996-2000.

17. 1a. The financial services/insurance/real estate services/business services industry had the highest TFP growth in 1996-2000. This industry belongs to the tradable services sector, or the producer service sector based on Richard and Zhigang’s classification. 1b. Reasons for the high technological growth in the tradable sector/ producer service sector: 1. The tradable services sector is a competitive sector which faces keen competitions from foreign suppliers. For this reason, higher technological growth is necessary to keep up with parallel competitors. 2. The economic integration with the Mainland China gives rise to the demand for producer services in HK, because Mainland China hinterland is actually home to 2/3 of HK’s relocated industries. The higher demand provides incentives for the introduction of new technology to lower cost and improve efficiency. 1c. The electricity, gas and water industry had the lowest TFP growth in 1996-2000. This industry belongs to the nontradable goods sector.

18. 3. The Competitiveness of HK Two Measures of Competitiveness: 1. Productivity -- Total factor productivity (TFP) 2. Unit Labor Cost One measure of the production cost is the unit labor cost, which is measured as the ratio of payroll per person and labor productivity: unit labor cost = payroll per person/ labor productivity where payroll includes wages, overtime pay, shift allowance, bonuses etc. Labor productivity is the ratio of real output and the number of persons engaged in the production. Based on the definition, we can see that the unit labor cost is inversely related to the labor productivity.

19. Discussion Question 2 2. Based on the data in table 3.9, analyze the changes in the unit labor cost of the various sectors in HK during 1995-2000. 1a. Which sector had the largest increase in unit labor cost during 1995-2000? 1b. Which sector had the largest decline in unit labor cost during 1995-2000?

20. Nontradable Tradable

21. Based on the data in table 3.9, we observe the following characteristics of HK’s competitiveness during 1995-2000: • The competitiveness of HK’s nontradable sector fell, as indicated by the increase in the unit labor cost. This supports the hypothesis that the high monopolistic power in the nontradable sector shields them from international competition, resulting in higher costs in this sector and hence erodes its competitiveness • The tradable goods industries (mainly manufacturing) showed the largest increase in competitiveness as indicated by its large decline in the unit labor cost

22. Possible Project Topic on the Productivity and Competitiveness of Hong Kong • “One country, two levels of competitiveness? -- Is Hong Kong losing its competitiveness to the Southern Mainland China?” In the project, you can compare the productivity of HK and the Southern Mainland China (like Guangzhou, Shenzhen) in various sectors. In what sectors are HK’s competitiveness declining? Are the Southern Mainland China gaining competitiveness in these sectors?

23. An example of the short proposal on this topic : • Concerns about the ability of Hong Kong’s manufacturing and service industries to keep pace with their competitors in the Southern Mainland China, such as Guangzhou and Shenzhen, have been heightened in recent years by rising labor and property costs. Many observers have argued that, with Hong Kong entering a new era, a fresh look should be taken at the government’s hands-off approach to industrial policy. • To address some of these issues in an analytical framework, this study constructs estimates of competitiveness for Hong Kong and the Southern Mainland China’s manufacturing and services industries from highly disaggregated production-based GDP data for 1990-2000. For Hong Kong, it was argued that (Dodsworth and Mihaljek, 1997) labor and other resources have moved in a clear, predictable pattern from manufacturing and certain declining service industries to the rapidly growing sectors, such as trade, transportation, financing, and business services. Also, there has been a marked difference in the performance of tradable and nontradable industries. Manufacturing and tradable services (import/export trade, most transportation industries, financing) expanded on average twice as fast as nontradable services (retail trade, restaurants and hotels, domestic passenger transportation, real estate, and social and personal services). • In this project, we will compare the unit labor cost and productivity between HK and the Southern China in different industries. This sheds light on the changes in the competitiveness of the two places.