A Dangerous Miscalculation
Hong Kong's fixation on property is an obstacle to economic recovery
By SIN-MING SHAW

The Hong Kong economy is in deep trouble. GDP fell about 5.6% last year, the worst decline on record. Unemployment is nearly 6% and rising. Worse, the cost of living remains steep by international standards, even though asset prices are down substantially from their peak. Last month, Chief Executive Tung Chee-hwa sought help from an advisory panel of 11 prominent international businessmen. Their collective wisdom: Hong Kong's future is bright--but only if the territory does several things: lower the cost of doing business, raise education levels, reduce investor-repellent pollution, diversify the economy and make brand-name products that can command higher profit margins. The barons avoided, by design or ignorance, the central issue. Hong Kong's high cost structure is due to lofty property prices, which in turn depend largely on how much land the government decides to sell. Many other prices, especially wages, reflect past and anticipated property values. In Hong Kong, real estate and related activities account for no less than 40% of GDP.

It is a myth that Hong Kong is a low-tax haven, as there is a steep implicit tax in the form of artificially high land prices that the government engineers by limiting the amount of land sold to the community. Hong Kong's famous fiscal reserves are nothing but cumulative land-tax revenues. No government elsewhere relies as much on real estate for its income.

The root cause of Hong Kong's problems is its land policy. It has nurtured a system in which a few developers are given the privilege of underwriting, directly and indirectly, the 40% of government revenue that derives from real estate. The developers serve as both de facto tax collectors and as a construction arm for the government, for which they receive profit margins and privileges few monopolists dare dream of. Sure, the tycoons make their money fairly, playing by the book. But in concert, the handful of developers can exacerbate a housing shortage by slowing down construction because they and the government are the only two builders in town. It's legitimate because no rules forbid it. It's rational because they want to maximize profit. Developers sit on an inventory of land sufficient for at least five years of private production of space. The government expects them to provide more than 40% of total living space in the next several years, but the actual quantity of supply is in the hands of the developers.

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