|The announcement by Hong Kong's Financial Secretary,
Donald Tsang, to expect a significant budget deficit has
fallen on deaf ears. Many feel he is 'crying wolf' after
two similar warnings in the past which have both proven
to be false. The prediction of an impending deficit is
difficult to believe as the economy has come under pressure
during the past three years, but it has consistently produced
budget surpluses. In previous issues, I wrote that these
deficits were prevented by the non-recurrent windfall
surpluses from the government's Hong Kong share portfolio.
Now, the situation is changing and an impending deficit
could be a reality, especially as some of our revenue
sources are depleting. For instance, I surmised that
the level of investment income would drop significantly
this year from the levels attained in 1998/99 at HK$36
billion and 1999/00 at HK$44 billion.
Moreover, the HKMA recently announced that the audited
figures for the period 2000/01 are only at HK$22 billion,
some HK$9 billion short of the original budgeted figure.
This is compounded by the fact that the original budgeted
figure of HK$15 billion from the MTRC public share offer
will be short by about HK$5 billion, due to the lower
than expected offer price.
If we consider other sources of recurrent income, the
situation does not improve. Land sales will be lower
than those forecast. We cannot expect windfalls from
sources based on a narrow tax net - the Financial Secretary
correctly pointed out that Hong Kong is experiencing
a 'mismatch' between economic growth and direct tax
income such as profits and salaries tax. So even though
the economy is growing, we are not immediately seeing
higher tax revenues to reflect it.
Aside from reduced revenue sources which will fuel
a budget deficit this year, another important area to
examine is Hong Kong's fiscal structure.
In a LegCo Motion Debate on 14 February, I urged the
Financial Secretary and my LegCo colleagues not to tinker
with minor tax adjustments and to brush aside the more
fundamental problems that now exist in relation to how
we manage the public purse.
Instead, I asked them to look carefully at Article
107 of the Basic Law and examine its validity since
the handover. Article 107 seeks to preserve Hong Kong's
well-tried principles of prudently managing our public
funds. However, it is flawed as it does not consider
three major changes that have taken place.
Firstly, the Hong Kong Government has amassed huge
reserves in the past few years. Hundreds of billions
of dollars have been derived mainly from lucrative land
sales and from trading in Hong Kong shares. Article
107 insists on 'fiscal balance, avoid deficits', and
to 'keep expenditure within the limits of revenues'.
However, it provides no mechanism to utilise our fiscal
reserves which are being conveniently hoarded to generate
additional recurrent revenue.
Secondly, we must not consider the GDP figure as our
only economic measurement. Article 107 assumes that
both government revenue and expenditure will rise and
fall at the same time as the market experiences economic
growth. This assumption is false due to:
A sustained period of 'negative' GDP
growth. Whilst income contracts quickly, public
expenditure will not. In particular, the rapid change
in the political environment has rendered it almost
impossible to downsize the civil services quickly
or to reduce their salaries. Cutting expenditure
on major public works is also difficult due to binding
Article 107 unwittingly embodies a
deliberate policy of high land prices. This article
is ill-equipped to deal with sudden and significant
adjustments in land prices seen in recent years.
The revised policy of placing government land for
sale on a reserve list will further destabilise
this source of revenue. Even though land sales and
related stamp duties probably respond faster in
sympathy with our GDP cycle, the new policy will
create a time lag. And unless we revert to the old
policy of allowing property prices to rise at least
as quickly as our GDP growth, government revenue
is going to lag behind its expenditure which is
now tied to the GDP growth rate.
Thirdly, our traditional profits tax net is becoming
outmoded; Hong Kong's industrialists, traders, retailers
and professional service providers are moving en-masse
across the border and our big corporations are starting
to make larger investments overseas. This will affects
the territorial source-based principle. The exclusion
of capital income such as dividends will soon prove
to be a handicap.
The problem will be further aggravated by the growth
of e-commerce which will increase GDP but not our tax
catchment. It is only a matter of time, until the GDP
is no longer an accurate measure of Hong Kong's true
wealth and hence, capacity to pay tax. The 'mismatch'
between our GDP growth and our profit tax yield is likely
to lead to more serious implications in the long run
than simple timing differences.
I urged the government to study these structural issues
carefully before making any rash moves to hike up our
narrow profits and salaries tax base. In particular,
I think the government should wait for the results of
the comprehensive tax review - it should revisit the
grounds for keeping such high reserve levels, and to
examine ways to deploy these reserves prudently.
The Financial Secretary may also wish to take advantage
of Article 106 of the Basic Law which allows Hong Kong
to be independent in managing its public finances; and
perhaps adjust some of the outdated principles of Article
107 after analysis and public consultation. Otherwise,
I fear a structural deficit will persist unless we make
it a priority to return to an era of high land prices,
widen our existing tax net and make painful efforts
to downsize our civil service.
Eric Li is the Accountancy Functional Constituency Representative
on the LegCo. His website can be found at http://www.ericli.org