• Sat
  • Oct 25, 2014
  • Updated: 7:42am
Monitor
PUBLISHED : Tuesday, 04 March, 2014, 5:09am
UPDATED : Tuesday, 04 March, 2014, 8:42am

Fiscal report based on lunatic projection of capital spending

Fears of looming structural deficits will disappear if the government considers infrastructure spending that complies with actual needs

Yesterday the government's working group on long-term fiscal planning published its report.

The committee's 290-page document contained much that was worthwhile, prudent and eminently sensible.

Unfortunately it also took for granted a set of assumptions so arbitrary and flawed that they rendered its conclusions almost entirely worthless.

In a nutshell the working group argued that as Hong Kong's population ages, over the next three decades the number of over-65s living in the city will grow by 1.5 million.

As a result, measured at today's prices, public spending on healthcare and welfare for the elderly will more than double, from HK$69 billion this year to HK$143 billion in 2041.

Meanwhile, as Hong Kong's workforce shrinks, the economy's growth rate will slow from 3.7 per cent now to a modest 2.5 per cent a year. And as economic growth slows, so - all else being equal - will the government's revenue growth.

So far, all is reasonable, conservative and uncontroversial. It's with the next bit of the report that things begin to come adrift.

According to the working group, this conjunction of rising health and welfare spending with declining revenue growth will push the government's finances into a structural deficit within the next 15 years.

Under the committee's base case, which assumes no improvements in services, the government will have burned through its accumulated reserves by 2040, and will be reliant on borrowing to fill the HK$271 billion hole in its budget.

With only a modest increase in per capita spending on health and welfare, the report warns that by 2041 the city would have run up monstrous debts of HK$3 trillion.

This is indeed a scary scenario. However, dig a little deeper and the picture doesn't look nearly as frightening as the government's working group has tried to paint it.

For a start, far from projecting a slowdown in the growth of Hong Kong's capital spending as the economy matures, the report assumes that public spending on capital works will rise from 3.2 per cent of gross domestic product this year to 7.2 per cent in 2041.

There’s a limit to how many roads, bridges and tunnels Hong Kong needs

In 2013 dollars, that means government spending on infrastructure will rise from HK$72 billion in 2014 to an eye-popping HK$515 billion in 2041.

To put that sum into perspective, it is enough to build four new runways for Hong Kong airport each year.

The working group explains this runaway escalation in infrastructure spending by arguing that construction costs tend to rise faster than general inflation.

As a result, the report says that to maintain a constant level of capital spending in real terms, the government will have to pump up its dollar spending on infrastructure by 7.6 per cent a year for the next 28 years.

This is little short of lunacy. Construction costs have indeed risen faster than general inflation, but that's largely because the Hong Kong government has been spending so heavily on its pet construction projects that it has pushed non-traded prices in the sector sharply higher. If it didn't build so much, costs wouldn't rise so quickly.

In any case, even keeping capital spending constant in real terms would be crazy. There's a limit to how many roads, bridges and tunnels Hong Kong needs.

If you don't believe that, just look at Stonecutters Bridge, a HK$3.6 billion engineering marvel which carries next to no traffic on its glittering spans.

These flawed projections of capital spending undermine the report's whole premise.

Factor in more modest spending on infrastructure, in line with Hong Kong's actual needs, and the government's looming structural deficits evaporate entirely.

In that light, some of the report's recommendations look distinctly strange, if not actually suspect. But they will have to wait until tomorrow.

tom.holland@scmp.com

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This article is now closed to comments

DinGao
Perhaps we can have a response from the Working Group:
Chairperson
Ms Elizabeth Tse Permanent Secretary for Financial Services and the Treasury (Treasury)
Non-official Members
Professor Liu Pak-wai Research Professor and Emeritus Professor of Economics
The Chinese University of Hong Kong
Professor Francis Lui Head and Professor
Department of Economics
School of Business and Management
The Hong Kong University of Science and Technology
Mr Mark Saunders Managing Director Asia Pacific Insurance Sector
Towers Watson
Mrs Jennifer Wong Partner
KPMG
Mr Marcellus Wong Senior Adviser
PricewaterhouseCoopers
Ex-officio Members
Mrs Lesley Wong
(up to 20 January 2014)
Mr Martin Siu
(from 21 January 2014)
Director of Accounting Services
Director of Accounting Services
Mrs Helen Chan Government Economist
Ms Esther Leung Deputy Secretary for Financial Services and the Treasury (Treasury)1
Secretary
Mr Charlix Wong Principal Assistant Secretary for Financial Services and the Treasury (Treasury)(H)
cleareye
Based on these inflation assumptions, my minimum wage would go from $30/hour to $3,000/hour by 2041, so what?
longpan
Thanks for the analysis. Not sure that many journalists / economists have been through the 290 pages.
Ant Lee
Only if high quality discussions and analyses like this article can be published in Chinese so more Hong Kong people can become aware of the reality. HK government now has almost no creditability and its policies are driven by agenda proposed by the central government.
keresearch
and our own self seeking civil servants
impala
It is hard to believe isn't it. Despite having the highest paid public servants in the world, they produce drivel like this.

How can anybody in their right mind suggest that an economy as developed as Hong Kong, and with such a densely populated territory keep cranking up its infrastructure spending year after year after year until it is as high as 8% of GDP?! It is just ready-for-the-asylum level insane. Where do they keep the straightjackets in Tamar?

Even if you were to foolishly believe that we would have such an ever-expanding need for more infrastructure and even if its costs were really going to keep rising like that, there simply comes a point where the decreasing marginal return on such investments would mean it wouldn't be worth building anymore. Arguably, we have already reached that point indeed, but that is another discussion.

Hong Kong risk of ruin doesn't lie in growing health care expenses, nor in an ageing population. Hong Kong is slowly but surely being ruined by inept government, piling policy failure upon policy failure. If this continues, then by 2041 we will all be studying Hong Kong as an example of how bad policies can destroy a society.
John Adams
If I had one wish in the world these days it would be that John Tsang and his mentally- challenged team of financial advisers would just for once read what you write, Mr Holland, and also what your colleague Jake van der Kamp writes ..
.
When the story of HK's financial management in the 2010's is written 50 years from now people will laugh to think that we employed such incompetents as FS
pjp
The sheer number of concrete lorries on our roads these days is unreal. Seems like the developers are rushing to finish projects before the storm comes.
SpeakFreely
I'm not interested to read the report and all assumptions but the truth is population is aging, health costs going up and work force shrinking. If you look at last 10 years GDP per capita is flat despite we enjoying the so called backing from china. Forget about just looking at the government budget. What is the root of the problem? How to tackle the issue of slow growth of so called knowledge based economy yet with high cost of living and aging population, to me is the underline issue. Hk high cost of property is driving down productivity and quality if life. Japan is aging but they are in better shape than hk with at least more tech and better brand, despite loosing ground to Korea. Similarly we are loosing ground to SH too...see the similarity between Japan and hk?
keresearch
and your lack of GDP growth is occurring as infrastructure having record levels at HKD 100 billion per annum is accelerating ...maybe there is a connection ?

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