********************************************
Public Finances
129. The Working Group on Long-Term Fiscal Planning was set up last June. Economists and experts from the accounting, tax and actuarial fields were invited to explore ways for our public finances to cope with an ageing population and long-term financial commitments. The Working Group performed a health check on the current state of Hong Kong's public finances and made projections of Government's long-term fiscal position up to 2041-42, having regard to demographic trends, economic growth and prevailing policies. The detailed results will be released next week.
130. According to the Working Group's analysis, Government's overall fiscal position in the short to medium term remains healthy. In the longer term, however, Government must seek to foster economic growth, and align the growth rates of government revenue and government expenditure.
131. With per capita GDP at US$38,000, Hong Kong is now a mature economy. It is highly unlikely that the economy will grow at a rate of eight to nine per cent per annum as it did in the 1970s and 1980s. Over the past three decades, the annual real GDP growth averaged 4.6 per cent. The economic growth momentum is expected to slow down as our population ages, reducing our labour force. The Working Group projects that over the next 20 to 30 years nominal GDP will grow at an average rate of 4.4 per cent per annum; real GDP will grow at a trend rate of 2.8 per cent per annum, which is a notch higher than most other mature economies.
132. The trend growth of government revenue has been on a par with nominal GDP growth over the past three decades. Assuming that the existing tax regime and tax rates were to remain unchanged, and barring any severe external shocks, the Working Group forecasts an average annual trend growth rate of 4.5 per cent for government revenue in the next 20 to 30 years. Towards the end of the projection period, government revenue is projected at 19.8 per cent of nominal GDP.
133. The average annual growth rate of government expenditure since reunification is 4.7 per cent. Taking into account the economic growth trends and demographic changes, the Working Group has made the following three projections based on different expenditure growth scenarios -
(a) if no service enhancement were to be made to the three areas of education, social welfare and healthcare, such that their recurrent expenditure were to be adjusted only for demographic and price factors, government expenditure would grow by 5.3 per cent per annum during the projection period. Because the growth rate of government expenditure exceeds that of government revenue at 4.5 per cent per annum, a structural deficit would surface in 15 years' time;
(b) if services were to be enhanced further for the three areas by one to two per cent per annum on top of adjustment for demographic and price factors, government expenditure would grow at an average of 6 to 6.7 per cent per annum. In that case, a structural deficit would surface in eight to 10 years' time; and
(c) if services were to be enhanced following the historical trends at about three per cent per annum for the three areas, on top of adjustments for demographic and price factors, government expenditure would grow at an average growth rate of 7.5 per cent per annum. In that case, a structural deficit would surface in seven years' time.
134. The projection results and analysis of the Working Group spark off a clear warning and call for serious attention. If government expenditure keeps growing and outpacing economic and revenue growth, a structural deficit would be inevitable.
135. The Working Group recommends that Government should implement a combination of measures, including containing expenditure growth, preserving the revenue base and saving for future generations, to cope with the fiscal challenges ahead.
136. We should neither take the problem lightly nor over worry. Our public finances are still in good shape. Our economy will continue to grow in the coming 20 to 30 years. This implies that our revenue will continue to rise and we can still afford expenditure increases. Nevertheless, the growth in public expenditure must be commensurate with that of the economy and government revenue. I believe that as long as we take timely, resolute and effective actions, we can prevent the projected results from surfacing, and avoid subjecting our future generations to irreversible fiscal plight.
Containing Expenditure Growth
137. The Working Group recommends that public expenditure be controlled at or around 20 per cent of GDP. It is a suitable level as it ensures that Government will not consume excessive social resources and that government expenditure will be kept at a level commensurate with government revenue. In fact, government revenue exceeded this level in only seven out of the past 40 financial years.
138. It is incumbent upon Government to strictly contain the growth of expenditure. When preparing annual budgets, Government would hold fast to the forecast nominal GDP growth rates over the medium term as planning ceilings for total government expenditure. We should uphold fiscal disciplines, and put in place a more vigorous internal control and monitoring mechanism for assessing and prioritising competing funding priorities with appropriate offsettings from different programmes.
139. Government departments and the public sector should conduct expenditure reviews and introduce efficiency measures with a view to doing more with less. In response to community needs, Government will continue to increase recurrent spending. But we must be wary that it is always easier to increase than to cut recurrent expenditure, and their cumulative financial impact cannot be ignored. All government departments should consider how best to consolidate their services and funding schemes, and phase out outdated and redundant items.
Preserving Revenue Base
140. The second major recommendation of the Working Group is that Government should preserve, stabilise and broaden the revenue base. I am all for it. Having regard to the competitiveness of Hong Kong and the impact on the community, there is little room for major tax hikes. In principle, I shall not rule out any means to increase tax revenue. However, I also understand that it will be controversial to propose any new taxes, which need thorough consideration and public discussion. At the present stage, Government's priorities are to overcome the constraints posed by the ageing population on our economic growth, keep moving our economy up the value-added chain, and increase and preserve our revenue. Meanwhile, we have to ensure that our expenditure growth keeps pace with economic and revenue growth. We should also strive to forge a consensus in the community on preparing for Hong Kong's fiscal challenge in the short, medium and long term.
141. To prevent revenue loss, the Inland Revenue Department (IRD) will draw on international experience, step up tax enforcement and make better use of IT to combat tax evasion and avoidance, thereby recovering tax payable. The IRD has recovered over $14 billion in taxes over the past three years. We should preserve our indirect taxes such as rates and business registration fees, because they are broad-based and stable revenue sources.
142. Fees and charges is an important source of government revenue. Last year, I asked government departments to review their fees and charges, beginning with items which did not directly affect people's livelihood. After a review of more than 1 300 fees and charges, more than 200 increases have been proposed. These will reduce the loss of public revenue by around $60 million per year. We shall review other fees and charges this year, including water charges, which have not been revised for 19 years, the fees for use of leisure facilities and services, and charges relating to environmental hygiene services.
Saving for the Future
143. Our fiscal reserves currently stand at over $700 billion. Of this amount, $220 billion is the balance of the Land Fund and $130 billion is held in funds with designated uses. Only the remaining $400 billion or so, held in the General Revenue Account, may be flexibly deployed to meet the day-to-day operation of Government. We can consider setting up a savings scheme to prepare for the future having regard to the experience of other economies. One example is the setting up of a "Future Fund" comprising the Land Fund and a portion of future surpluses. Government may draw on this contingency fund in the event of sustained budget deficit to finance strategic infrastructure projects conducive to Hong Kong's future economic development.
144. An ageing population will pose sustained challenges to public finances. The conclusions and recommendations of the Working Group have provided a scientific and objective basis for the community to better understand the issues, and consider rational and pragmatic options ahead. We should take early action to address the challenges ahead when our public finances are still healthy. My colleagues and I shall examine the options in detail considering views from various sectors of the community, and take forward appropriate measures. I hope the experts and scholars in the Working Group will continue to tender their valuable advice to Government.
(To be continued)
Ends/Wednesday, February 26, 2014
Issued at HKT 12:21
NNNN