By Zhou Bajun (China Daily)
Updated: 2007-12-05 06:59

Hong Kong has been rising rapidly since the 1970s and has become a major international financial center, but it still lags behind London and New York.

Economic globalization has changed mankind as it entered the 21st century. The most developed entities of the world economy led the change toward the new era of a knowledge-based economy while China has gained worldwide attention with its blistering pace of economic development.

Surrounded by such an international macro-environment, can Hong Kong grow to be a world-class international financial center? This is a weighty question to which Hongkongers are looking for an answer.

Universally recognized as world-class international financial centers, London and New York share five common traits: One. The scale of all submarkets in these two centers dwarf all others in the world.

Two. They are ahead of the rest of the world in financial innovation.

Three. They are developing with the times, thanks to first-rate supervision and management, and the best of the best talents.

Four. The host countries are both direct overseas investors and top picks for foreign direct investment.

Five. The host countries' currencies are leading international currencies and major components of foreign reserves throughout the world.

As far as these qualities are concerned, Hong Kong obviously has a lot of catching up to do with New York and London and the only aspect where Hong Kong is actually closing the gap is the stock market. In terms of total market value, Hong Kong's ranking has risen from eighth in 2005 to sixth in 2006, while in terms of total IPO value, Hong Kong was in second place last year only behind London.

A Hong Kong economist recently said: "The global financial system has shown a trend, which is to step from traditional banking-led to stock-led and then to securities-led. New York and London have already entered the third phase, while Hong Kong has been advancing fast from the first to the third phase since 1997." According to this analysis, entering the third phase is one of the goals Hong Kong should achieve as soon as possible.

However, even after Hong Kong enters the securities-led phase, it does not mean it has become a world-class financial center. The transition from a banking-led to stock-led, to securities-led financial market reflects "qualitative" assessment and judgment, which does not necessarily expand "quantitatively" with the financial market.

That means even if Hong Kong's financial market becomes securities-driven, it would only mean that Hong Kong's financial market has caught up with the level of the world leaders. It must stand neck and neck with New York and London in terms of "level" and "scale" to hold its own.

Achieving an ambitious goal such as this is by no means a piece of cake for Hong Kong. In the Report to the Economic Summit on the 11th Five-Year Plan (2006-10) and Hong Kong's Development, the government of the Hong Kong Special Administrative Region (HKSAR) pointed out: "The development of Hong Kong's financial industry suffers from the constraint of a relatively small local economy and the fact there are a number of financial centers in Asia already." It can develop into a world-class international financial center only by closely linking itself to the mainland's economy and financial market as a whole and taking the latter as its prop.

If China becomes a fairly developed nation in the mid-21st century with its economic aggregates among the largest in the world, the nation should be able to give mankind a world-class international financial center this century.

Hong Kong residents have largely accepted and recognized this reality and concept: Hong Kong is irreversibly involved in economic integration with the mainland and the future of its financial market as well as its economy in general is firmly pegged to the nation's development.

Not only is Hong Kong's stock market increasingly dependent on mainland enterprises' participation and capital inflow, its banking sector is also taking RMB business as a key area of expansion. The HKSAR government and the financial industry have made it a focal point of securities market expansion to trade RMB securities in Hong Kong.

There are at least three challenges that Hong Kong must overcome en route to becoming a world-class international financial center.

First, it must break free of the constraints of the "visible boundary" and the "invisible boundary" and integrate with the mainland's economy and financial market as soon as possible.

The institutionalized principle of "one country, two systems" has left the "visible boundary" (the border between Hong Kong and the mainland) and "invisible boundary" (ideological differences between Hong Kong and the mainland) formed before 1997 between Hong Kong and the bulk of the nation intact. A decade of implementation of the "one country, two systems" principle has fully demonstrated its strength in helping maintain Hong Kong's prosperity and stability. However, Hong Kong must deal with the challenge of pursuing sustainable development.

There are obstacles to the smooth distribution of resources across the border between Hong Kong and the mainland. Hong Kong also faces the danger of being "marginalized" in the Pearl River Delta region in Guangdong, where the economy is developing at speed.

The "visible boundary" is apparently less restrictive to the capital flow that Hong Kong's financial market needs than it is to the mobility of commodities, services and personnel that other sectors need. Therefore the "mainland factor" as a driving force is noticeably more effective behind Hong Kong's securities market than it is for many other industries.

But, Hong Kong's financial market has to break free of the "invisible boundary" if it wants to further benefit from the "mainland factor" like other industries do. In other words, it is of decisive importance that Hong Kong builds and maintains solid mutual confidence with the central government or its efforts to become a world-class international financial center will go down the drain.

Second, Hong Kong must handle the tension between the "scale" and "level" of its financial market well.

The "scale" and "level" of the financial market should be mutually complementary and enhancing in the long run. However, in the short and intermediate terms the "tension" between the two should not be underestimated - a financial market's "scale" will not necessarily grow with its "level" and may even "weigh" the latter down.

The current situation of Hong Kong's securities market serves as a ready example. Its "level" has shown little elevation despite the rapid expansion of its "scale" powered by IPOs of mainland enterprises in recent years.

Two years ago, a member of the Executive Council of the Hong Kong SAR government and former China Securities Regulatory Commission vice-chairperson, Laura Cha Shih May-lung, suggested that Hong Kong should introduce the corporate administration index to its securities market. She believed that once the RMB becomes freely convertible, Hong Kong's securities market will gradually lose its appeal to mainland and overseas investors, and the corporate administration index will demonstrate the administrative prowess of Hong Kong-listed companies and help Hong Kong maintain its status and edge as an international financial center.

To expand the "scale" and raise the "level" of Hong Kong's financial market, the SAR government, the Hong Kong Securities and Clearing Ltd and the city's financial sector should join hands in broadening the range of financial products.

Third, it must handle well the relationship between the "Chinanization" and "internationalization" of its financial market.

Given the obvious gap between the Chinese mainland's economy and financial market and advanced economies and financial markets, Hong Kong's financial market must maintain and raise its relative advantage over the emerging financial markets of the mainland.

Given the central government's emphasis on maintaining financial security, containing financial risks and preventing financial crises, the openness of the mainland's financial market cannot possibly match that of Hong Kong's in the foreseeable future; Hong Kong's financial market must maintain and strengthen its close links to the global financial market.

Hong Kong and Shanghai are considered two cities with the most potential to become world-class international financial centers not just in China but in Asia as well. At present Shanghai's financial market is apparently no match to Hong Kong's, but it might surpass Hong Kong someday.

Hong Kong must seize the opportunity before the RMB becomes freely convertible to not only maintain, but increase its edge over Shanghai's financial market. As the number of QDIIs and QFIIs continues to multiply and an increasing number of mainland enterprises are issuing both A shares and H shares, it will not be long before the RMB is freely convertible. Hong Kong must have a sense of urgency.

With the growing prevalence of information and communication technology, financial markets worldwide are increasingly integrated. The line between world-class international financial centers and regional international financial centers is becoming more blurred everyday, and international financial centers are becoming more closely connected to their peripheries and those further away.

Be it Hong Kong or Shanghai, they both should keep abreast with the latest developments of a constantly evolving world economic and financial market and do their best to catch up with the leading pack in the race for world economic and financial supremacy.

The author is a senior analyst with the China Everbright Group

(China Daily 12/05/2007 page10)