HONG KONG 2005

Notwithstanding the surge in oil prices, the return of global interest rate hikes and the strengthening US dollar during the year, merchandise exports performed well. Total exports of goods (both re-exports and domestic exports) recorded double-digit growth for the third year in a row, at 11.4 per cent in real terms, following a 15.3 per cent surge in 2004. Re-exports remained the key growth driver of exports, rising by 11.6 per cent in real terms in 2005, after a 16.3 per cent surge the previous year. The pace of growth was maintained evenly throughout the four quarters, thanks to the sustained expansion in the global economy and the Mainland's strong trade flows. The robust performance in re-exports also reflected the external competitiveness of Hong Kong as a trade conduit for both the Mainland and the region.

Domestic exports picked up further, growing 7.6 per cent in real terms in 2005, from a 2.4 per cent growth in 2004. However, their growth profile over the four quarters was very volatile with marked decreases in the first two quarters followed by a sharp rebound in the ensuing two quarters. Heightened uncertainties over possible US and EU safeguard measures against the Mainland's T&C exports prompted some increase in clothing production in Hong Kong later in the year. Domestic exports recovered but it was not entirely due to T&C because there were also exports of such non-clothing items as office machines, electrical machinery and appliances, and telecommunications equipment. The recovery indicated that Hong Kong manufacturers had established certain niches in the international market, despite the relatively high labour cost.

In 2005, the Mainland and the United States were the two largest markets for Hong Kong's total exports (including domestic exports and re-exports), accounting for 45 per cent and 16 per cent respectively. Other major markets included Japan (5 per cent), Germany and the United Kingdom (both at 3 per cent), Taiwan (2 per cent), the Republic of Korea (2 per cent), and Singapore (2 per cent).

Imports rose again — by 8.5 per cent in real terms in 2005, following a 14.1 per cent increase in 2004. While imports for re-export surged throughout the year, growth in retained imports also picked up steadily along with the increasingly entrenched economic recovery. Retained imports edged up by 0.8 per cent in real terms in 2005, as the decline in the first half was more than offset by the increase in the second half of the year. Retained imports of capital goods surged during most of the year, particularly towards the end as many companies replenished or upgraded their machinery and equipment to cater for the expansion of production capacity and an improvement in efficiency. Growth in retained imports of consumer goods accelerated in late 2005, possibly prompted by the need to replenish stock after several quarters of drawdown. On the other hand, retained imports of raw materials and semi-manufactures recorded a moderate decrease, mainly due to the fall in intake of electronic parts and components earlier in the year (Chart 7).

With the increase in the value of exports of goods exceeding that of imports, the visible trade deficit reckoned on a GDP basis narrowed in absolute terms, to $59.3 billion or 2.6 per cent of the value of imports of goods in 2005, from $72.5 billion or 3.5 per cent in 2004.

There was a substantial increase in invisible trade again with exports of services growing by 8.7 per cent in real terms in 2005, following a strong increase of 17.9 per cent in 2004. Exports of trade-related services, including the offshore trade in particular, were boosted by the Mainland's strong trade flows. Exports of travel services also increased appreciably, albeit at a less rapid pace than in 2004, along with the further expansion of inbound tourism. The number of incoming visitors hit a new high of 23.4 million in 2005. Particularly noteworthy is that the number of long-haul visitors, who usually have higher per capita spending and longer length of stay, showed a greater increase in 2005. Robust external trade coupled with the growth in inbound tourism likewise benefited exports of transport services. The continued upturn in business together with a buoyant financial market, also served to support exports of finance, business and other services.

Imports of services rose solidly by 2.9 per cent in real terms in 2005, after surging 14.6 per cent in 2004. Imports of travel services showed a marginal decline, reflecting the more moderate increase in the number of residents travelling abroad. In contrast, imports of trade-related services and transportation services rose in tandem with the strong trade flows. Imports of finance, business and other services also grew solidly amid the continued upturn in business activities and a more active financial market.

As exports of services rose faster than imports of services, the invisible trade surplus reckoned on a GDP basis expanded further to $231.6 billion or 92 per cent of the value of imports of services in 2005, from $187.1 billion or 77.1 per cent in 2004. This more than offset the visible trade deficit to yield a combined surplus of $172.3 billion in 2005, equivalent to 6.7 per cent of the total value of imports of goods and services in that year, as compared to $114.5 billion or 4.9 per cent in 2004 (Chart 8).

Local consumer spending grew solidly during 2005, indicating stronger consumer sentiment on the back of improving employment and labour income, as well as the generally positive attitude towards economic and employment prospects. Private consumption expenditure (PCE) grew by 4.1 per cent, 2.4 per cent, 3.6 per cent and 3.4 per cent respectively in real terms in the four quarters over a year earlier, giving a 3.4 per cent growth for 2005 as a whole, compared to a 7.3 per cent growth in 2004. On a seasonally adjusted quarter-to-quarter comparison, PCE grew by 0.4 per cent, 0.5 per cent, 1.3 per cent and 0.9 per cent in real terms in the four quarters.

Overall investment, after a weak start, improved in the second and third quarters of the year, and improved distinctly in the fourth quarter. This was mainly attributable to a surge in machinery and equipment acquisition, particularly in the fourth quarter, supported by the continued brisk pace of business expansion and strengthened investor confidence. In contrast, building and construction activity remained slack all through 2005 putting a heavy drag on the growth of overall investment spending, although the rate of decline narrowed from that in 2004. The lacklustre performance was mainly due to the scaling back of the Public Housing Programme earlier as well as the relatively few large-scale infrastructure projects and private sector building projects in progress. Because of the building and construction weak spot, overall investment spending in terms of gross domestic fixed capital formation recorded only a moderate 4.1 per cent growth in real terms in 2005, although it was up from 3 per cent in 2004 (Chart 9).

In 2005, the service sectors as a whole remained the dominant driving force of overall economic growth. In 2005, its net output or value-added rose markedly by 7.9 per cent in real terms over 2004. Among the constituent service sectors, transport and storage, import and export trade, financing and insurance, and communications showed the best performance, growing by 14.5 per cent, 12.1 per cent, 11 per cent and 10.8 per cent respectively in 2005. Meanwhile, the manufacturing sector also showed a small increase in net output of 2.1 per cent in 2005, supported by the recovery in domestic exports in the second half of the year. In contrast, the net output of the construction sector remained in decline, falling by 6.6 per cent in 2005.

After a year of distinct improvement in 2004, the labour market continued to fare strongly in 2005 under the influence of a sustained recovery in overall economic activity. Total employment trended upward over the course of the year, reaching a new high of 3.43 million in the fourth quarter, while the seasonally adjusted unemployment rate dropped to 5.3 per cent, the lowest level since July-September 2001. Taking the year as a whole, the unemployment rate fell markedly by 1.2 percentage points to 5.6 per cent. Unemployment declined not only on a broad front, but also in terms of intensity, as manifested by a reduction in its median duration from 97 days to 83 days and the number of people unemployed for six months or more which dropped from 83 100 to 61 100. The underemployment rate also moved lower to 2.5 per cent in the fourth quarter.

As in 2004, employment growth outstripped the labour supply growth in 2005 — employment increased 2.3 per cent while labour supply grew 1 per cent. In absolute terms, the number of employed persons surged by 84 500, which was broadly similar to the average employment growth recorded during the economic upturn in the early 1990s. At year-end, total employment hit a new high of 3.43 million. When compared to the trough in mid-2003, there was a significant jump of 242 400, far outpacing the increase of 116 400 in the labour force over the same period. Employment gains, while occurring almost across the board in terms of economic sector and occupation category, were found mainly among people with upper secondary education or above.

Chart 11

Total labour force and total employment

(year-on-year rate of change)

Total employment continued to grow at a faster pace than the labour supply in 2005.

Within the corporate sector, the main impetus to employment growth continued to come from the service sectors, with an increase of 3.3 per cent in 2005. This outweighed the decreases of 2 per cent recorded for the local manufacturing sector and 10.6 per cent for the building and construction sites. While employment gains were observed extensively across many major service sectors, the increases were more apparent in finance, insurance, real estate and business services, community, social and personal services and import/export trades.

Job vacancies in the private sector, another indicator of labour demand, exhibited double-digit growth throughout 2005, rising by 26 per cent for the year as a whole. A sizable proportion of the vacancies were found in the lower segment of the labour market, mainly in such sectors as retail, import/export trades, restaurants and business services.

Amid the tightened labour market conditions, overall labour earnings began to increase again from the beginning of 2005, reversing the downward trend of the preceding three years. Labour earnings, as measured by payroll per person engaged in the private sector, rose by 3.5 per cent in money terms or 2.4 per cent in real terms in 2005 over a year earlier. There was a widespread increase in earnings among workers in the service sectors both in money and real terms, save for those engaged in community, social and personal services which were still subject to the spill-over from the pay cut of civil servants in January. Meanwhile, the earnings of manufacturing workers edged up both in money and real terms.

The property market continued to flourish alongside the continuing economic upturn in the first half of 2005, but turned much quieter — especially in the residential property market — as interest rate hikes accelerated in the second half. After being buoyant for more than a year, both sales activities and transacted prices eased off from their earlier peaks. Yet as market fundamentals stayed positive, prices for different types of properties increased by varying degrees for 2005 as a whole. Meanwhile, the leasing market improved steadily across the board amid solid user demand.

In the home sales market, flat prices rose to a five-year high in the second quarter of 2005, sustaining the upward trend established in the latter part of 2003. Market sentiment continued to be underpinned by the sanguine economic outlook, improving employment situation, and low interest rate environment prevailing then. Yet acquisition interest cooled off subsequently as the rise in best lending rates by major banks accelerated, bringing a cumulative total of 2.75-3 percentage points for the whole year. Against this backdrop, flat prices declined during the second half of 2005, particularly prices for small and medium-sized flats. Nevertheless, overall flat prices in the fourth quarter of 2005 were still 8 per cent higher than a year earlier. During the same period, flat rentals increased steadily by 12 per cent, along with progressive improvement in leasing demand (Chart 13).

Similarly, market sentiment on non-residential properties turned more cautious in mid-2005 under the influence of higher interest rates, but there was less pressure to moderate prices. In the sales market for office space, prices eased back by only 1 per cent in the fourth quarter from the third quarter, after rising for nine consecutive quarters. Market confidence was supported by strong leasing demand along with the continued expansion in business activities. A-grade office rents in particular, showed a marked rise. Rents were also affected by anticipation of limited new office supply in prime locations in the near future. In the fourth quarter of 2005, the price of office space leaped by 21 per cent over a year earlier. Rentals moved up even more over the same period, by 29 per cent in overall terms and by 36 per cent for A-grade office space (Chart 14).

Chart 14

Prices and rentals of office space

(1999=100)

Office rentals soared in 2005 as leasing demand strengthened alongside an increase in business activities. Supported by higher rental yields, the pressure to moderate office prices near year-end was limited.

The sales market for retail space also cooled off in the latter part of 2005. On a quarter-to-quarter comparison, prices eased back by 3 per cent in the third quarter before reverted to a small 0.1 per cent increase in the fourth. However, premises in prime locations with secure long leases continued to attract considerable acquisition interest. Prices of retail space rose by 11 per cent in the fourth quarter of 2005 compared the previous year. The leasing market continued to fare well amid sustained growth in inbound tourism and local consumption. Renewed leases in some renovated shopping arcades, in particular, showed a marked increase.

Industrial property sales stayed buoyant with solid investment demand being supported by attractive rental yields and the desire to convert factory space for other commercial uses. Prices continued to rise over the course of the year, though the increase slowed near year-end. In the fourth quarter of 2005, prices of flatted factory space surged by 36 per cent over a year earlier. Leasing activities were relatively quiet, with rentals moving up at a modest pace. In the fourth quarter, rentals of flatted factory space were 6 per cent higher than a year earlier.

Only a moderate number of new properties were completed in 2005 reflecting the delayed impact of the slack building activity in earlier years. Completions of private residential property shrank by 33 per cent to 17 300 units during the year. However, after taking into account the unsold units of completed projects and units under construction not yet sold or not yet offered for sale, the supply of new private residential flats was substantial at 55 000 units by the end of the year, 2.5 times the average annual primary sales of private residential flats during 2001-2005. Completions of non-residential properties in terms of internal floor area fell by 57 per cent to 161 400 square metres in 2005, with the decrease in office space outweighing increases in retail and industrial space. The sustained growth in demand prompted a drop in vacancy rates in all types of property in the private sector. By the end of the year, residential flats' vacancy rates had fallen to 6 per cent; office space, 8.7 per cent; shopping space, 10.3 per cent; flatted factory space, 7.3 per cent; and industrial-cum-office space, 9.8 per cent.

The number of property transactions, as measured by agreements for sale and purchase of property registered with the Land Registry, rose by 16 per cent in the first half of 2005 over a year earlier, but fell by the same amount in the second half as prices began to fall. The total number of property transactions thus remained virtually unchanged from the previous year. Yet in value terms, property transactions still rose by a substantial 12 per cent, a reflection of the property price increases from one year to the next. Transactions in residential property increased by 3 per cent in number and 13 per cent in value, with the increases occurring entirely in the secondary market. Nonresidential properties transactions fell by 11 per cent in number but rose by 10 per cent in value (Chart 15).

After the return to positive inflation in late 2004, consumer price inflation continued to climb over the course of 2005, in tandem with the increase in wages and rentals and the economic upswing. Although, inevitably, there was some pressure on domestic costs they were contained throughout the year, especially seen in conjunction with the very strong economic growth over the previous two years. The imminent pressure on economic resources was mitigated by solid expansion in production capacity and rapid labour productivity growth. The soaring oil prices had some effect but, overall, the outside pressure on prices was limited owing to the modest appreciation of the Hong Kong dollar after the first quarter, and also some reduction in oil prices in late 2005.

Reflecting these underlying developments, consumer price inflation in terms of the Composite Consumer Price Index (CPI) climbed modestly from 0.4 per cent in the first quarter of 2005 to 0.8 per cent in the second quarter, then rose further to 1.4 per cent in the third quarter and 1.8 per cent in the fourth quarter. For the year as a whole, Composite CPI inflation was only a modest 1.1 per cent, the first year of inflation since 1999. (The respective figures for the fourth quarter and for 2005 as a whole are 1.3 per cent and 1.0 per cent by reference to the new 2004/05-based series). The decline in the GDP deflator, a broad measure of overall changes in prices, tapered off in the first half of 2005, turned positive by the third quarter and then picked up slightly in the fourth quarter (Chart 16).