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SFST's speech at Public Sector Reform Conference


Following is the speech by the Secretary for Financial Services and the Treasury, Mr Frederick Ma, at the Public Sector Reform Conference today (February 11) (English only):

Rising to the challenges in the management of public finances


Ladies and gentlemen,

I would like to thank the Efficiency Unit for giving me this opportunity to share with colleagues the challenges we face in managing our public finances, some of the successful reform initiatives we launched recently and my thoughts on how we may rise to these challenges in future.

A responsible government needs to manage its accounts well if it is to do well on other fronts. We need to have a solid and sustainable financial base upon which we could implement ongoing and new initiatives to meet the needs of the community. The issues faced by Government officials looking after the public purse in the eighties and nineties are very much different from those we are encountering today. In the past, the Government was experiencing a surplus year after year and the question to be addressed was how to allocate the revenue in excess of the amount needed to satisfy all baseline requirements. At present, we have had budget deficits over several successive years and our fiscal situation may continue to worsen if we do nothing to rectify the problems.

The budget deficit in 2002-03 was close to 5% of the gross domestic product. Our fiscal reserves have dropped from $457.5 billion at the end of March 1998 to $244.5 billion at the end of December last year, which is equal to just about 11 months of government expenditure. If we do not exercise prudence in the management of our public finances, the problem of the fiscal deficit will persist or even grow.

Our public revenue is beset by two major problems. First, the tax base is narrow. Only about 18% of the total population of 6.8 million (about 1.2 million) pay any tax on their salaries. Among them, only 100,000 contribute about 60% of the salaries tax. Similarly, as few as 500 corporations, only about 1% of the total number of profit-making corporations, contribute 60% of the profits tax.

The second problem is the stability of our revenue. Most of the existing taxes are easily affected by the ups and downs of the economy. Owing to the economic downturn and deflation brought about by the financial crisis and the slump in the property market, our recurrent revenue has dropped from $201.6 billion in 1997-98 to an estimated $149.2 billion in 2003-04, representing a decrease of $52.4 billion or 26%. Yields from taxes have recorded a decline during this period, with stamp duty falling 73%, the biggest drop of all. Hence it is necessary to explore stable and broad-based revenue sources in the long term to improve the Government's revenue structure, thereby laying down a solid foundation for our public finances.

In sharp contrast with revenue, public expenditure has substantially increased over the past six years. Government recurrent expenditure has surged from about $157.9 billion in 1997-98 to $207 billion in 2003-04, representing an increase of 31%.

To solve the deficit problem, containment of public expenditure is necessary. It's no easy task. Cutting expenditure is difficult whether in the public or private sector. I am fortunate, or unfortunate, to have some experience in both. I can assure you that the difficulties are doubled or even tripled for the public sector, for various reasons. First, size does matter. With a staff of about 176,000, the Government is the largest employer in Hong Kong, and that's before counting another 150,000 employees in subvented organisations. And the Government's operating expenditure is over $210 billion. Re-engineering and restructuring such a large set-up takes time.

Secondly, the Government is subject to procedural constraints and considerations that you don't find in the private sector. For example, we need the Legislative Council's approval not only to create a directorate post, but also to eliminate one. Many such procedures exist to subject the Executive to checks and balances. This is as it should be, but they do take time. The other difference is that the private sector is more "single-minded" in pursuing changes. Its clear bottom line is profit. The Government is expected to achieve much more, and balance all relevant considerations and the interests of all stakeholders. Our business is to serve the people. This year we are spending, in round numbers, $50 billion on education, $30 billion on health, $30 billion on welfare, and $20 billion on security. These four areas alone take up over 60% of our operating expenditure. In cutting expenditure in these and other areas, we must take careful consideration of the impact on our services to the people.

We do not underestimate the challenges facing our colleagues in the civil service, and that is why we have reformed our financial management system to give the bureaus as much incentive and flexibility as possible to economise. Starting from this financial year, we give each Director of Bureau, including myself, an operating expenditure envelope. All envelopes are 1.8% less than the bureau's forecast of what it needs, so immediately Directors must economise. The savings will increase in steps so that in the medium term, all the envelopes together will shrink to a level that balances our books. I can tell you from personal experience that this shrinking envelope is incentivising. The sense of responsibility and ownership is much stronger than in the old days, when bureaus could always look to the main cashier for more.

The envelopes not only incentivise, but also empower. In the old system, funds were allocated to departments. While there was some flexibility, by and large money did not flow very freely across departments. Under the new system, moneys are allocated to envelopes, and a Director of Bureau can transfer funds within the envelope across departments under his or her purview. This gives Directors much greater room to economise and to deploy funds according to priorities. Taking my bureau as an example, the Government Land Transport Agency, the Government Supplies Department and the Printing Department under my purview were merged into the new Government Logistics Department on July 1 last year. It represents a major step forward in our efforts to streamline government structure and demonstrates the Government's resolve and commitment to further improve the efficiency of government operation and cost-effectiveness of our services. Nevertheless, we recognise that there is room for improving the envelope system, and will work together with our colleagues to see how the arrangements could be enhanced to provide the envelope holders greater flexibility.

There are also quite a number of similar initiatives undertaken by other bureaus and departments to maximise efficiency and minimise costs. These include the integration of the Management Services Agency into the Efficiency Unit from July 2002; the consolidation of the Education Department as part of the Education and Manpower Branch from April 2003; the reorganisation of the Housing Branch of the Housing, Planning and Lands Bureau and the Housing Department also from January 2003; and the merging of Labour Department with the Labour Branch also in July 2003. I am sure our colleagues will continue with the efforts to ensure effective use of resources by reviewing their service priorities and streamlining structures.

Another reform initiative implemented recently was the publication of the Government's accrual-based accounts in parallel with our existing cash-based accounts. It provides additional useful information on those aspects such as the assets and liabilities of the Government. For instance, it contains figures on the pension liabilities as well as surpluses of Government business enterprises. With this extra set of financial information, both the Administration and members of the public will have a clearer picture about the Government's financial position. In the next stage, we will work with colleagues to produce the Departmental Services Cost Statement to show the costs of each bureau or department, which may serve as a useful tool for deriving measures for further enhancing efficiency.

Despite all our efforts to incentivise and economise, the fact remains that our traditional sources of recurrent revenue are now, as I mentioned earlier, insufficiently broad or deep to foot the bill for capital expenditure, as mainly represented by the Public Works Programme, in addition to operating expenditure. In the past, we enjoyed the luxury of sizeable capital revenues from land sales. But with the adjustment of the property market in recent years, we can no longer justifiably expect such windfalls and must look elsewhere to sustain our expenditure on capital projects which, over the medium term, runs to around $30 billion each year.

In the last Budget, we therefore announced an Asset Disposal and Securitisation Programme, which would supplement our land revenues in financing our capital projects over the next five years. So far this year, we have raised nearly $16 billion from the sale of various housing loan portfolios to the Mortgage Corporation, and we expect shortly to embark on the securitisation of toll revenues from the government tunnels and bridges, which should net a further $5 to $6 billion. We will continue to implement the Asset Disposal and Securitisation Programme as a means of providing alternative source of funding for capital projects.

In order to give us added flexibility in financing the capital side of our budget, we are also contemplating the issuance of so-called government bonds. Such bonds are popular instruments of fiscal policy for the governments of most, if not all, developed and developing countries alike. In fact for the past 10 years or so, Hong Kong has been in the fairly unique position of being totally debt-free and a net creditor in the global capital markets. But as our fiscal landscape changes, and in order to maintain a prudent level of fiscal reserves, we need to consider whether we should re-enter the bond market to raise funding for our capital projects over the medium term, as we have done on occasions in the past. I have to stress here that "caution" must be our watchword and the proceeds from bonds must not be allowed to dribble on to the slippery slope of underwriting our operating deficits.

That said, neither asset disposals nor issuances of bonds or other securities are lasting solutions to the fiscal challenges we face. They should be regarded as an interim series of one-offs, designed with sufficient flexibility to make the best use of prevailing market conditions at any given time over the medium term, and as an alternative to continuous drawdown and depletion of our fiscal reserves over the next few years.

In the longer run, we need to revisit the inherent weaknesses of our recurrent tax base, which is narrow, shallow and overly dependent on the direct taxation of income and profits. We have therefore started to plan in earnest for the introduction of a broad-based but modest Goods and Services Tax (GST) in the years to come, once the economy has regained its past robustness and we can minimise its impact on people's livelihood. This will lay the foundation for more stable and balanced budgets in future. I am sure that the Financial Secretary will have more to say in his Budget Speech next month on the issuance of bonds in the short and medium term and the study on the introduction of GST in the long term as we face up to the fiscal challenges that confront us.

To achieve the target of restoring budgetary balance, we must also count on the concerted efforts of all of you as members of the civil service. Many of our colleagues are conscientious, responsible, devoted and committed to serve. Prudence in managing public finances, exercised with some degree of creativity and pragmatism by civil service colleagues can do and has done wonders.


I need to keep my speech short, as one of the high standards expected of those managing public finance is to observe the three "E"s - economy, efficiency and effectiveness. The recipe for effective management of public reforms is - prudence, pragmatism, coupled with hard work and due regard to the three "E"s. Past reforms showed that our civil service is highly adaptable to change and very constructive. I have confidence that notwithstanding the serious budget deficit and mounting pressure for expenditure cuts, colleagues will exhibit the "can-do" spirit and demonstrate to the full the civil service's commitment to serve the community.

Thank you.

Ends/Wednesday, February 11, 2004


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