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The Government's Third Quarter Economic Report 1999 was published today (Friday).

The Government Economist, Mr K Y Tang, described the economic situation in the third quarter of 1999 and provided updated GDP and price forecasts for the year.

MAIN POINTS

* The recovery process in the Hong Kong economy, which began in the second quarter, gathered further momentum in the third quarter of 1999. A crude initial assessment suggests that the Gross Domestic Product should have attained a growth of around 4.5% in real terms in the third quarter over a year earlier, up distinctly from the 0.7% increase in the second quarter (the GDP figures for both the first and second quarters are likely to be lifted further upon revision on 21 December). On a seasonally adjusted quarter-to-quarter basis, GDP should have expanded further by around 2% in real terms in the third quarter, after rebounding to 3.1% growth in the second quarter.

* Externally, exports of goods staged a significant upturn, driven by the sharp rebound in exports of the mainland of China (the Mainland), a general pick-up in demand in the East Asian economies, as well as a broad strengthening in import absorption in the United States and Europe.

* Exports of services likewise accelerated in growth, along with the regional economic recovery. The combined visible and invisible trade balance should have yielded a considerably larger surplus in the third quarter.

* Locally, consumer spending picked up further, in tandem with the recovery in overall economic activity and with the employment situation holding generally stable.

* On investment spending, the decline in expenditure on machinery and equipment tended to taper, while public sector building and construction output bounced back to positive growth thereby providing a partial offset to the continued slack in private sector building activity.

* The labour market held generally stable. In the third quarter of 1999, the seasonally adjusted unemployment rate stood at 6.1% (up only marginally to 6.2% in the three months ending October) and the underemployment rate at 3.1% (unchanged in the three months ending October). The average hours of work of the employed population rose appreciably in the third quarter. The median duration of unemployment also shortened distinctly. There was a broad-based strengthening in employment in the service sectors.

* Following a marked upturn some months earlier, the residential property market settled somewhat in the third quarter of 1999. Trading activity was reduced while flat prices generally eased. The stock market also consolidated in the third quarter, but regained strength in the latter part of October upon improved market sentiment, and rallied to new post-crisis highs in November upon China's accord with the United States on its accession to the World Trade Organisation.

* For 1999 as a whole, GDP is now forecast at a growth of 1.8% in real terms, up from 0.5% in the August round.

* Looking ahead, the Hong Kong economy should continue to benefit from the revival of demand in East Asia, better economic conditions in Europe, and sustained import absorption in the United States. Locally, consumer spending is now back on the growth track, while machinery and equipment investment may be gradually bottoming out. Work on the Priority Railway Projects and the Public Housing Programme will continue apace to raise overall building and construction output.

* While the revival in the economy appears to be taking hold, some caveats still prevail. The interest rate trend in the United States and the ensuing implications for its stock market and overall demand warrant close monitoring. The economic recovery in Japan is yet to become more entrenched. The process of financial reform and corporate restructuring in many of the crisis-hit East Asian economies will have to continue in order to sustain their growth in the time ahead. Locally, business activity may still be affected by an overhang of high real interest rate and a generally cautious attitude of the banks towards corporate lending.

* On the price front, the Composite Consumer Price Index remained on an easing trend in the third quarter, amidst the continuing cost/price adjustments in the local economy to uphold competitiveness, nil imported inflation, and widespread discounts along with intensified competition in the retail market. In the light of the actual outturn of a 3.9% decline in the first ten months of 1999, the forecast rate of change in the Composite CPI for 1999 as a whole is revised further downward to -4%, from the earlier forecast of -3.5%.

DETAILS

Overall performance in the third quarter of 1999

The Hong Kong economy gathered further momentum in the third quarter of 1999. A crude initial assessment suggests that the Gross Domestic Product should have attained a growth of around 4.5% in real terms in the third quarter of 1999 over a year earlier, following a rebound to a 0.7% increase in the second quarter from a 3.2% decline in the first quarter. On a seasonally adjusted quarter-to-quarter basis, GDP should have expanded further by around 2% in real terms in the third quarter, after a 3.1% increase in the second quarter reversing the 0.3% decline in the first quarter (Chart).

External trade

Hong Kong's exports of goods staged a distinct upturn in the third quarter of 1999, mainly driven by an across-the-board pick-up in import demand in East Asia. Of particular note was the sharp rebound in exports to the Mainland, as the Mainland's intake of material inputs for export processing rose in tandem with the regional recovery. As to the conventional overseas markets, exports to the United States also rebounded to a strong positive growth, on the back of sustained robust consumer demand in the country and with the negative impact of the earlier currency depreciation of the East Asian economies gradually dissipated. Exports to the European Union as a whole likewise picked up further, as economic conditions in Europe progressively improved.

Total exports of goods (comprising re-exports and domestic exports) thus exhibited a notable growth of about 8% in real terms in the third quarter of 1999 over a year earlier, reversing the declines of 5% in the first quarter and 2% in the second quarter. For the first nine months of 1999 taken together, total exports grew by about 1% in real terms over a year earlier. On a seasonally adjusted quarter-to-quarter basis, total exports surged by about 7% in real terms in the third quarter of 1999.

With the rebound in re-exports and with a distinctly smaller decline in retained imports, imports of goods likewise revived, to a year-on-year growth of about 7% in real terms in the third quarter of 1999, in stark contrast to the declines of 10% and 8% respectively in the first and second quarters. In the third quarter of 1999, retained imports fell by only about 2% in real terms over a year earlier, considerably improved from the 23% plunge in both the first and second quarters. For the first nine months of 1999 taken together, imports and retained imports still recorded declines, by about 4% and 17% respectively in real terms over a year earlier. Yet on a seasonally adjusted quarter-to-quarter basis, both retained imports and total imports of goods picked up strongly, to increases of about 18% and 10% respectively in real terms in the third quarter of 1999.

There was a visible trade deficit of $6.4 billion, representing 1.7% of the value of imports in the third quarter of 1999. For the first nine months of 1999 as a whole, the visible trade deficit stood at $31.5 billion, representing 3.1% of the value of imports, which was substantially smaller than the corresponding figures of $73.3 billion and 6.8% in the same period in 1998.

On invisible trade, exports of services likewise picked up further in the third quarter of 1999. Offshore trading activities rose sharply, along with the distinct rebound in the Mainland's exports. Exports of trade-related, professional and other business services should have also continued to improve amidst the recovery in regional demand. Visitor arrivals continued to rise to bolster inbound tourism. Concurrently, imports of services should have bottomed out in the third quarter, upon the recovery in local economic activity. Taken together, there should have been a considerably larger invisible trade surplus in the third quarter. Coupled with a relatively small visible trade deficit, the surplus in the combined visible and invisible trade account should have increased markedly further in the third quarter.

Domestic demand

Comparing the third quarter of 1999 with a year earlier, the volume of retail sales returned to a positive growth of 2%, following the decreases of 10% and 2% respectively in the first and second quarters. Yet on a seasonally adjusted quarter-to-quarter basis, the volume of retail sales, after a 6% leap in the second quarter of 1999, eased back by 2% in the third quarter. The pick-up in retail sales in the third quarter from a year earlier encompassed high-value items such as motor vehicles, and jewellery and watches, while the prevalence of price discounts also stimulated demand for a wide range of ordinary consumer goods.

On investment spending, the downtrend in machinery and equipment acquisition by the private sector tended to moderate. In the third quarter of 1999, retained imports of capital goods fell by about 15% in real terms over a year earlier, as against the sharp declines of 38% and 39% respectively in the first and second quarters. Building and construction activity was still slack in overall terms, as existing building projects in the private sector wound down while new projects had yet to gather pace. Yet public sector building and construction output bounced back to positive growth to provide a partial offset, upon the hectic progress of the Public Housing Programme and the stepping up of the Priority Railway Projects.

The property market

The market for residential property quietened down somewhat in the third quarter of 1999. Flat buyers tended to hold a wait-and-see attitude, amidst a still generally slack labour market, an ample supply of flats coming on stream, and concern over a likely uptrend in interest rates. Also dampening the market were more residential flats held as collaterals by the banks being put out for sale to make up for the loan defaults. There was a visible slow-down in sales of pre-completion flats in the primary market, which in turn prompted a marked slackening in trading activity in the secondary market. Flat prices also eased back in the third quarter, following a rebound over the preceding two quarters.

Comparing September with June 1999, flat prices fell by an average of 5%. Yet compared with the trough in October 1998, they were still higher by an average of 12%. For the third quarter of 1999 as a whole, flat prices on average were down by 2% from the second quarter, and by 43% from the peak level in the third quarter of 1997. The leasing market showed signs of stabilisation in the third quarter of 1999, with flat rentals for new leases on average little changed from the preceding quarter. Yet compared with the peak level in the third quarter of 1997, they were on average still 28% lower.

The sales market for office space was slack in overall terms in the third quarter of 1999, although trading in office space in some prime locations picked up somewhat. As to the leasing market, there was nevertheless a steady revival in end-user demand in the third quarter of 1999, stimulated by the substantial fall in rentals earlier in the year and also by the recent rebound in economic activity. The leasing market for shopping space was broadly stable in the third quarter of 1999, amidst a general upturn in retail business. As to the sales market, investment interest was still subdued. The market for industrial property remained sluggish in overall terms in the third quarter of 1999, affected by the weak performance of domestic exports as well as the further relocation of manufacturing processes outside the territory.

The labour market

Labour market conditions held generally stable, with the seasonally adjusted unemployment rate staying at 6.1% in the second and third quarters of 1999. Companies remained cautious in staffing, having gone through the earlier downsizing and rationalisation. Yet the median duration of unemployment shortened distinctly further, with a noticeable reduction in the proportion of persons unemployed for three months or more. The underemployment rate however edged up from 2.9% in the second quarter of 1999 to 3.1% in the third quarter, partly due to work disruption in the construction sector caused by the rainy weather. The proportion of employed persons working for 50 hours or more per week nevertheless stayed at a high level, and the median hours of work per week rose appreciably. (In the three months ending October, the seasonally adjusted unemployment rate edged up marginally to 6.2%, while the underemployment rate held stable at 3.1%.)

Comparing the third quarter of 1999 with a year earlier, total labour force rose by 2.5%, still outpacing the corresponding increase in total employment, by 1.2%. Yet the gap between these two growth rates narrowed considerably in the third quarter, as compared to those in the preceding five quarters.

Overall labour earnings stayed on an easing trend, along with the continuing cost/price adjustments in the local economy. In the second quarter of 1999, overall labour earnings fell by 1% in money terms over a year earlier, representing a further moderation from the increases of 4% in 1998 and 2% in the first quarter of 1999. Yet after netting out a larger decline in consumer prices, overall labour earnings were still up by 3% in real terms in the second

quarter of 1999 over a year earlier. Overall wages likewise showed a further moderation in money terms.

Consumer prices

Consumer prices showed a further decline in recent months, amidst subdued imported inflation and along with the continuing cost/price adjustments in the local economy. In the third quarter of 1999, the Composite Consumer Price Index fell by 5.9% over a year earlier, larger than the decreases of 1.8% in the first quarter and 4.0% in the second quarter. Yet the rate of decline moderated to 4.2% in October, as the effect of the 50% cut in rates payable in the third quarter of 1999 was removed, and as there was a low base of comparison in the same month last year due to the rates rebate implemented in the fourth quarter of 1998. For the first ten months of 1999 as a whole, the year-on-year decrease averaged at 3.9%, in contrast to the 2.8% increase in 1998. On a seasonally adjusted quarter-to-quarter basis, the Composite CPI fell by 2.1% in the third quarter of 1999, as compared to the declines of 0.3% in the first quarter and 1.1% in the second quarter.

The financial sector

The Hong Kong dollar remained stable against the US dollar under the linked exchange rate system. In line with the movements in the exchange rate of the US dollar against other major currencies, the Hong Kong dollar softened during the third quarter of 1999, by 12.6% against the Japanese yen, 4.3% against the pound sterling, and 2.8% against the deutschemark. As a result, the trade-weighted Nominal Effective Exchange Rate Index of the Hong Kong dollar edged down to 132.2 at end-September, from 134.8 at end-June.

Local interest rates were on average higher in the third quarter of 1999 than in the second quarter. This reflected tighter liquidity conditions amidst heightened tension across the Taiwan Strait and worries about a possible devaluation of the Renminbi. Market expectations for a US interest rate hike in August also contributed. The three-month HIBOR rose from 5.75% at end-June to a high of 6.63% in mid-August. Yet with liquidity conditions improved, the three-month HIBOR fell back to 5.94% at end-September. The savings deposit rate set by the Hong Kong Association of Banks and the best lending rate of the major commercial banks were both adjusted upwards by 25 basis points in the third quarter, to 3.75% and 8.50% respectively at end-September.

Overall bank lending fell for the ninth consecutive quarter, yet the rate of decline during the third quarter of 1999 had tapered. The decline in domestic loans to most of the major economic sectors moderated visibly from the earlier periods. On the other hand, the growth in residential mortgage loans also moderated as the residential property market turned quiet, even though the proportion of refinancing loans in new loans approved surged. During the third quarter of 1999, Hong Kong dollar loans fell by 1.0%, while Hong Kong dollar deposits rose by 0.3%. Thus the Hong Kong dollar loan-to-deposit ratio edged even lower, to 94.1% at end-September, from 95.4% at end-June.

After an initial rally in early July, the local stock market underwent some consolidation during most of the third quarter, amidst renewed rumours of Renminbi devaluation, heightened tension across the Taiwan Strait, and concern over a further US interest rate rise. It picked up briefly at the end of August and in early September, upon a better-than-expected GDP outturn for the local economy in the second quarter, improved performance in the Japanese economy, and distinct rebound in the Mainland's exports. It then eased back again in the latter part of September, in tandem with the corrections in the US and Tokyo stock markets and amidst concern over a further US interest rate hike. Reflecting these developments, the Hang Seng Index reached a post-crisis high of 14 507 on 5 July 1999, before falling back to hover in the range of 13 000-13 500 during most of the third quarter. The Index closed the quarter at 12 733, 6% lower than at end-June. (The Index surged to a new post-crisis high of 15 393 on 23 November, upon China's accord with the United States on its accession to the World Trade Organisation.)

Updated economic forecasts for 1999 as a whole

The global economic and financial conditions have improved even further since the last update of the economic forecasts in August. In East Asia, the Japanese economy has resumed positive growth for two consecutive quarters, and the crisis-hit economies have gathered more strength. The Mainland economy continues to exhibit impressive growth, with a distinct turnaround in exports and sustained rapid growth in imports in the past few months. In the conventional overseas markets, demand in the United States is still highly robust, while economic activity in the European Union is on a broad-based upturn. Locally, the trend of pick-up in the economy, bolstered by the surge in exports and also by greater consumer demand, is likely to sustain for the rest of the year.

Following the regular practice, the GDP and price forecasts for 1999 have been reviewed by individual components. The updated forecasts are presented in Table 1.

In the external sector, the forecast growth rate in real terms of total exports of goods in 1999 is revised further up to 2.6%, from 0% in the last round. This significant upward revision is in recognition of the strong rebound in exports to a growth of about 8% in real terms in the third quarter, with the impetus expected to be carried well into the fourth quarter. Within the total, re-exports are now forecast to grow by around 4.5% in real terms in 1999, up from the earlier forecast of only a 1% growth, whereas domestic exports are forecast to decline by around 9% in real terms in 1999, further down from the earlier forecast of a 7% decline.

On the back of the significant dip in the first half of the year and the still modest albeit improved intake in overall terms in the third quarter, retained imports of goods are now forecast to decline by around 10% in real terms in 1999, further down from the earlier forecast of a 5% decline. Yet along with the appreciable upward revision in the forecast for re-exports, total imports of goods are now forecast to show virtually no change in real terms in 1999, up from the earlier forecast of a 0.8% decline.

On exports of services, the forecast of a 3% increase in real terms in 1999 is kept unchanged in the present round. Visitor arrivals are likely to hold up well to bolster inbound tourism, upon the return of travel demand in the region. Offshore trading activities and exports of other trade-related services are expected to rise more distinctly, so are exports of financial, professional and other business services. On the other hand, having regard to the modest outturn so far this year, the forecast growth rate of imports of services in 1999 is lowered to 0.5% in real terms, from 2% in the last round.

In the domestic sector, the forecast growth rate of private consumption expenditure in 1999 is kept unchanged at 1.5% in real terms in 1999. Local consumer spending, which has already resumed year-on-year growth by the second quarter, has continued to firm in the third quarter reflecting a more positive consumer sentiment. Performance in the fourth quarter will be underpinned by more stable employment conditions and continued increase in labour earnings in real terms, while a particularly low base of comparison in the same quarter last year will also help.

The forecast growth rate in real terms of government consumption expenditure in 1999 is kept unchanged at 4%.

Overall investment spending in the economy, as measured by gross domestic fixed capital formation, is now forecast to decrease by around 14% in real terms in 1999, further lowered from the 11% decline in the earlier forecast.

In the light of the continued setback in private sector building activity so far this year, total expenditure on building and construction is now forecast to fall by around 10% in real terms in 1999, down from the 8% decline forecast earlier. Those private sector building projects initiated recently have yet to be stepped up, while output from the public sector is providing only a partial offset. Accordingly, the forecast rate of change in real terms in building and construction expenditure by the private sector is further adjusted down, from -13% in the last round to -16% in the present round, while that in building and construction expenditure by the public sector is kept unchanged at +1%.

Along with the downward revision in the forecast for private sector building activity, the forecast rate of change in real terms in real estate developers' margin in 1999 is scaled down further, from -17% to -23%.

In face of the still modest investment intentions in the third quarter, and even allowing for a possible pick-up in investment in the fourth quarter against a particularly low base of comparison in the same quarter last year, the forecast rate of change in real terms in expenditure on machinery and equipment in 1999 is lowered further, from -12% to -15%.

There is likely to be some mild replenishment of inventories in the latter part of the year.

Overall, real GDP is now forecast to attain a growth of 1.8% for 1999 as a whole, up from the earlier forecast of a 0.5% increase.

While a spot forecast of the GDP growth rate is customarily provided, it actually embraces a range of possible forecasting discrepancies. Computation of the mean absolute error of the discrepancies between the forecast and the subsequent outturn over each of the past ten years shows that this averages at around 0.2 of a percentage point in the November update of the GDP forecast. This is shown in Table 2. For comparison, the forecasts made by a selection of international organisations and local analysts are depicted in Table 3. All of the private sector forecasts have been revised further upwards after the release of the GDP figure for the second quarter. The latest private sector forecasts of the GDP growth rate in real terms for 1999 range from 1.0% to 1.5%, averaging at 1.2%.

While the revival in the economy appears to be taking hold, some caveats still prevail. The interest rate trend in the United States and the ensuing implications for its stock market and overall demand warrant close monitoring. The economic recovery in Japan is yet to become more entrenched. The process of financial reform and corporate restructuring in many of the crisis-hit East Asian economies will have to continue in order to sustain their growth in the time ahead. Locally, business activity may still be affected by an overhang of high real interest rate and a generally cautious attitude of the banks towards corporate lending.

On the price front, the Composite CPI fell by an average of 3.9% in the first ten months of 1999 over a year earlier. Competition in the local retail market remains intensive, with continued price discounts particularly in the supermarkets and in many clothing and home appliance outlets. The downward adjustments in local costs so far will also keep consumer prices in check. Externally, some firming up in the prices of imports may emerge, due to the tendency of bottoming out in world commodity prices and the strengthened Japanese yen, but the effect will probably take a while to filter through. For 1999 as a whole, the forecast rate of change in the Composite CPI is hence revised further down to -4%, from the earlier forecast of -3.5%.

As the cost of doing business continues to recede, and as export prices continue to decline to a greater extent than import prices for upholding external price competitiveness, the forecast rate of change in the GDP deflator in 1999 is likewise lowered further, from -4% to -5%.

The Third Quarter Economic Report 1999 is now on sale at the Government Publications Centre on Ground Floor, Low Block, Queensway Government Offices, at $56 a copy.

Click Here to Download Tables and Chart (Please view with MS Word 97

End/Friday, November 26, 1999

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