Update on the Hong Kong Economy for The Task Force on Economic Challenges

Government Economist 8 December 2008

1

Global/local developments since last meeting

• Global financial market strains eased somewhat; risks of meltdown receded for the time being • Local interest rates also down • But global credit market still not functioning...

2

Concern about global financial meltdown eased, but credit markets still tight

500 Spreads (bps) 450 TED spread OIS spread 400 350 300 250 200 150 100 50 0 11/06 12/06 2/07 4/07 6/07 8/07 10/07 12/07 2/08 4/08 6/08 8/08 10/08 3

Local interbank rates down… but banks still cautious in lending

6 Spreads (bps) 5 HIBOR (1M) HIBOR (3M) 4 3 2 1 0 11/06 12/06 2/07 4/07 6/07 8/07 10/07 12/07 2/08 4/08 6/08 8/08 10/08 4

Global synchronised increasingly apparent … downturn

5

… leading to a further mark-down in global economic growth forecasts IMF global economic projection for 2009

Jan 2008 Apr 2008 Oct 2008 Nov 2008

World Advanced economies

Euro area Germany Japan United Kingdom United States Newly industrialized Asian economies

Emerging and developing economies

ASEAN-5 Brazil China India Russia

7.0

6.2

4.0

10.0

8.2

6.5

4.4

2.1

1.9

1.7

1.7

2.4

1.8

4.8

3.8

1.3

1.2

1.0

1.5

1.6

0.6

4.4

6.6

6.0

3.7

9.5

8.0

6.3

6.1

4.9

3.5

9.3

6.9

5.5

3.0

0.5

0.2

0.0

0.5

-0.1 0.1

3.2

5.1

4.2

3.0

8.5

6.3

3.5

2.2

-0.3

-0.5 -0.8 -0.2 -1.3 -0.7 2.1

6

US economy in a dire state

US leading indicator sharply down

10 9 8 7 6 2 1 0 5 4 3 Rate of change (%) US's GDP annualised q-t-q rate of change in real terms -1 -2 -3 -4 -5 US's Leading Indicator 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08

US imports are falling

30 Year-on-year growth rate (%) 25 20 15 10 5 0 -5 -10 -15 US's imports from Asia in nominal terms US's imports demand in real terms -20 96 97 98 99 00 01 02 03 04 05 06 07 08 7

Likewise for EU and Japan

EU GDP vs Sentiment Index

30 25 20 Year-on-year growth rate (%) Quarter-to-quarter growth rate (%) 6 EU's GDP annualised q-t-q rate of change in real terms (RHS) 4 15 10 5 0 -5 -10 -15 -20 -25 EU's Sentiment Index (LHS) -30 97 98 99 00 01 02 03 04 05 06 07 08 2 0 -2 -4 -6

Japan GDP vs Tankan Survey

20 10 0 -10 50 Index 40 30 Year-on-year growth rate (%) Japan GDP Real Growth (RHS) 5 4 3 2 1 0 -1 -20 -2 -30 -40 Japan TANKAN Large enterprises (LHS) -50 95 96 97 98 99 00 01 02 03 04 05 06 07 08 -3 -4 -5 8

GDP growth slowing

15 Year-on-year growth rate (%) 10 5 0 -5 -10 -15

Asia also feeling the pinch

-20 95 96 97 98 99 00 01 02 03 04 05 06 07 08 China Korea Philippines Japan Taiwan Thailand Hong Kong Indonesia Singapore Malaysia

Exports all down

50 Year-on-year growth rate (%) 40 30 20 10 0 -10 -20 -30 -40 96 97 98 99 00 01 02 03 04 05 06 07 08 China Singapore Indonesia Thailand Japan Korea Malaysia Hong Kong Taiwan Philippines 9

HK economy also hard hit …

10

GDP growth slowed markedly in Q3 2008

15 GDP rate of change in real terms (%) Year-on-year rate of change 10 5 0 -5 Seasonally adjusted quarter-to-quarter rate of change -10 Q1 97 Q3 97 Q1 98 Q3 98 Q1 99 Q3 99 Q1 00 Q3 00 Q1 01 Q3 01 Q1 02 Q3 02 Q1 03 Q3 03 Q1 04 Q3 04 Q1 05 Q3 05 Q1 06 Q3 06 Q1 07 Q3 07 Q1 08 Q3 08 11

Impact on the four harder-hit sectors

12

Financial services

13

Banking sector under pressure in a number of ways:

• • •

Income

: Contraction in loan balance; Non interest income withering amid falling demand for investment products

Loss provisions and charge-offs

: Provision for losses on investments; Non-performing loan; Falling property prices leading to more negative equity cases

Operational pressure

: Liquidity / capital demand from foreign / Mainland branches; Lehman-related issue; Structural changes leading to higher compliance and operating costs 14

120

Financial sector activities already slowing markedly since early 2008

Business receipts (year-on-year rate of change (%)) Business receipts (year-on-year rate of change (%)) 60 100 80 Non-bank financing companies (LHS) 50 40 60 40 Insurance (RHS) 30 20 20 10 0 -20 Banking (RHS) 0 -10 -40 -20 -60 Q1 98 Q3 98 Q1 99 Q3 99 Q1 00 Q3 00 Q1 01 Q3 01 Q1 02 Q3 02 Q1 03 Q3 03 Q1 04 Q3 04 Q1 05 Q3 05 Q1 06 Q3 06 Q1 07 Q3 07 Q1 08 Q3 08 -30 15

35000 Index 30000

Partly due to sharp declines in IPO activity and stock market turnover ……

Index 15000 Dow Jone's Industrial Average Index (RHS) 14000 250 Daily total turnover (HK$ Bn) 200 13000 25000 20000 Hang Seng Index (LHS) 12000 11000 150 10000 100 9000 15000 10000 8000 50 7000 5000 Jan 07 Mar 07 May 07 Jul 07 Sep 07 Nov 07 Jan 08 Mar 08 May 08 Jul 08 Sep 08 Nov 08 6000 0 Jan 07 Mar 07 May 07 Jul 07 Sep 07 Nov 07 Jan 08 Mar May 08 08 Jul 08 Sep 08 Nov 08 16

…… but loans also began to fall

40 Year-on-year rate of change (%) Trade finance 30 1998 AFC 20 2001 global downturn 10 0 -10 Loans for use in HK (excluding trade finance) Current global crisis -20 -30 1/97 1/98 1/99 1/00 1/01 1/02 1/03 1/04 1/05 1/06 1/07 1/08 17

Financial services sector: unemployment/vacancy*

5.0

Unemployment rate (%) 4.5

4.0

2001 global downturn 2003 SARS 250 Year-on-year rate of change in vacancies (%) 200 150 3.5

3.0

1998 AFC 2.5

2.0

Current global crisis 100 50 122% 1.5

0 1.0

-50 0.5

0.0

Q1 97 Q1 98 Q1 99 Q1 00 Q1 01 Q1 02 Q1 03 Q1 04 Q1 05 Q1 06 Q1 07 * Private sector vacancies posted by the Labour Department. Q1 08 -100 Aug Jan Oct 02 Jul 02 Jan 03 Jul 03 Jan 04 Jul 04 Jan 05 Jul 05 Jan 06 Jul 06 Jan 07 Jul 07 Jan 08 Jul 08 Nov 18

Trading and logistics

19

Export outlook is grim

25 Year-on-year rate of change in real terms (%) 20 2003 SARS Year-on-year rate of change in real terms (%) 8 World GDP* (RHS) 7 15 10 5 Hong Kong's total exports (LHS) 4 0 3 -5 Current global crisis 2 -10 1998 AFC 2001 global downturn 1 -15 Q1 97 Q3 97 Q1 98 Q3 98 Q1 99 Q3 99 Q1 00 Q3 00 Q1 01 Q3 01 Q1 02 Q3 02 Q1 03 Q3 03 Q1 04 Q3 04 Q1 05 Q3 05 Q1 06 Q3 06 Q1 07 Q3 07 Q1 08 Q3 08 0 Oct * The world GDP being plotted here is weighted by Hong Kong's total exports of goods.

20 6 5

1 2 3 5 4 7 Unemployment rate (%) 1998 AFC 6

Trading and logistics: unemployment/vacancy*

2003 SARS 100 Year-on-year rate of change in vacancies (%) 80 60 Current global crisis 40 20 2001 global downturn 0 -20 -40 -42% 0 Q1 97 Q1 98 Q1 99 Q1 00 Q1 01 Q1 02 Q1 03 Q1 04 Q1 05 Q1 06 Q1 07 * Private sector vacancies posted by the Labour Department. Q1 08 Aug Oct -60 Jan 02 Jul 02 Jan 03 Jul 03 Jan 04 Jul 04 Jan 05 Jul 05 Jan 06 Jul 06 Jan 07 Jul 07 Jan 08 Jul 08 Nov 21

Tourism and consumption related sector

22

100

Tourist number remains on a decline; Retail sales down in October

Year-on-year rate of change (%)

Inbound tourists

20 Year-on-year rate of change in volume (%)

Retail sales

(208.4) 15 80 10 60 5 40 20 1998 AFC 0 0 -5 Current global crisis Current global crisis -10 -20 -40 2001 global downturn -60 2003 SARS -80 Q1 97 Q1 98 Q1 99 Q1 00 Q1 01 Q1 02 Q1 03 Q1 04 Q1 05 Q1 06 Q1 07 Q1 08 Oct -15 -20 1998 AFC 2001 global downturn -25 Q1 97 Q1 98 Q1 99 Q1 00 Q1 01 Q1 02 2003 SARS Q1 03 Q1 04 Q1 05 Q1 06 Q1 07 Q1 Oct 08 23

16

Tourism and consumption-related sector: unemployment/vacancy*

Unemployment rate (%) 200 Year-on-year rate of change in vacancies (%) 14 2001 global downturn 2003 SARS 160 12 120 10 1998 AFC 8 Current global crisis 80 40 6 0 4 -18% -40 2 0 Q1 97 Q1 98 Q1 99 Q1 00 Q1 01 Q1 02 Q1 03 Q1 04 Q1 05 Q1 06 Q1 07 * Private sector vacancies posted by the Labour Department. Q1 08 Aug -80 Jan Oct 02 Jul 02 Jan 03 Jul 03 Jan 04 Jul 04 Jan 05 Jul 05 Jan 06 Jul 06 Jan 07 Jul 07 Jan 08 Jul 08 Nov 24

Real estate and construction sector

25

Property market down further; Transactions fell back to 2003 average

200 Index x 250 HK$ Bn 180 Residental Price Index (Overall) Residental Price Index (Large) Residental Price Index (Small) 200 Residential property transaction (value) 160 1998 AFC 140 150 120 2001 global downturn 100 80 100 Current global crisis 50 60 2003 SARS 40 Jan 97 Jan 98 Jan 99 Jan 00 Jan 01 Jan 02 Jan 03 Jan 04 Jan 05 Jan 06 Jan 07 Jan Oct 08 0 Q1 97 Q1 98 Q1 99 Q1 00 Q1 01 Q1 02 Q1 03 Q1 04 Q1 05 Q1 06 Q1 07 Q1 08 Sep Nov 26

50

Construction sector output remains on a downtrend

Year-on-year rate of change in real terms (%) 40 Building & construction expenditure Building consents (8-quarter moving average) 30 20 1998 AFC 2001 global downturn 2003 SARS 10 0 -10 -20 -30 Current global crisis -40 Q1 97 Q3 97 Q1 98 Q3 98 Q1 99 Q3 99 Q1 00 Q3 00 Q1 01 Q3 01 Q1 02 Q3 02 Q1 03 Q3 03 Q1 04 Q3 04 Q1 05 Q3 05 Q1 06 Q3 06 Q1 07 Q3 07 Q1 08 Q3 08 27

Real estate and construction sector: unemployment/vacancy*

18 Unemployment rate (%) 16 2001 global downturn 14 1998 AFC 12 2003 SARS 120 Year-on-year rate of change in vacancies (%) 100 80 60 10 Current global crisis 40 20 8 6 4 0 -20 -30% 2 -40 0 Q1 97 Q1 98 Q1 99 Q1 00 Q1 01 Q1 02 Q1 03 Q1 04 Q1 05 Q1 06 Q1 07 * Private sector vacancies posted by the Labour Department. Q1 08 Aug Oct -60 Jan 02 Jul 02 Jan 03 Jul 03 Jan 04 Jul 04 Jan 05 Jul 05 Jan 06 Jul 06 Jan 07 Jul 07 Jan 08 Jul 08 Nov 28

Feedback from SMEs

29

Impact on business receipts

SMEs by sectors % decline as compared to normal situation for week ending 28 Nov Expected further % decline in one month's time Wholesale trade Retail trade Import/export trades Restaurants Transport services Travel agents Financing institutions Insurance agents and brokers Construction and related activities Business services -24.7

-24.9

-17.9

-13.9

-29.7

-15.2

-23.3

-9.2

-32.8

-10.6

-13.8

-10.5

-12.5

-8.3

-8.3

-17.7

-6.9

-9.4

-8.5

-9.5

All the above sectors -18.7

-12.2

30

SMEs by sectors

Impact on employment

% decline as compared to normal situation for week ending 28 Nov Expected further % decline in one month's time Wholesale trade Retail trade Import/export trades Restaurants Transport services Travel agents Financing institutions Insurance agents and brokers Construction and related activities Business services All the above sectors 0 -0.6

-2.3

-2.8

-5.8

-0.5

-1.3

0 -7.6

-4.5

-2.5

0 -0.7

-0.9

-0.2

-1.7

-1.1

-0.5

-0.5

-3.6

-0.9

-0.8

31

Impact on access to credit

SMEs by sectors Tighter than normal for week ending 28 Nov Expected further tightening in one month's time (% of SMEs) (% of SMEs) Wholesale trade Retail trade Import/export trades Restaurants Transport services Travel agents Financing institutions Insurance agents and brokers Construction and related activities Business services All the above sectors 12.0 10.0 17.1 19.0 0 3.3 12.5 15.0 11.4 5.7 12.5 12.0 7.5 16.2 12.1 8.3 3.3 10.0 15.0 5.7 0 10.7 32

Outlook for HK

33

Latest 2009 forecasts vary widely

Standard Chartered: IMF: HSBC: S&P: Bank of China: Citigroup: Hang Seng Bank: 2.3% 2% 1% Fitch: Morgan Stanley: JP Morgan: 0.7-1.2% Credit Suisse: 0.5% 0.3% 0% -1.2% -1.2% -1.3% -2.2% 34

Our latest assessment

• Global economy in a dire state; timing of recovery still highly uncertain • HK’s GDP growth likely to turn negative in 2008 Q4 and 2009 H1 • Recession in 2009 seems inevitable given the recession in advanced economies and ensuing drag on Asia • China still a positive factor for HK, esp with series of measures to boost domestic demand and forestall severe export slowdown 35

Measures to mitigate the impact :

• Ensure banking sector liquidity and monetary stability • SME loan guarantee schemes • Job creation initiatives • Increase minor construction projects and speed up infrastructure projects where possible • CPG’s support for HKSARG 36

End

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