Hong Kong’s role as the gateway to south China ended with the onset of the Korean War. The closing of the border between Hong Kong and the Mainland and the influx of vast amounts of human capital ushered in a new era in which Hong Kong became a standalone free market manufacturer and exporter, while the Mainland was isolated from the rest of the world. Hong Kong gradually advanced as the Mainland lagged behind in the third world, absorbed in its social revolution.


All of that began to change in 1979 when China opened its door. China showed how an impoverished, authoritarian, non-Western and Communist nation could change course and succeed, outshining the economic transitions being made in the old Soviet and Eastern European bloc, India, Indonesia, and Latin America. Hong Kong got the full impact of this transformation, and at warp speed, because of its location at the interface between China and the rest of the world. The opening of China also opened Hong Kong’s border with China and saw the divergent living standards between the two places start to narrow, after going down wildly different paths in the first 30 years of the People’s Republic.


Hong Kong’s ability to adapt to these changes depended on her capacity to respond with agility and resourcefulness. The private, market-driven sector moved quickly. Small and medium businesses were the first to respond and were the primary drivers of the rapid rise of the Pearl River Delta economy in the early period of its opening. The road connecting Dongguan and Shenzhen to Hong Kong became the main artery between the manufacturing base and its overseas markets, and propelled China into the role of the world’s factory.


Hong Kong as Tutor


At its peak Hong Kong employed 10 million workers in Guangdong alone. The owners of these small and medium enterprises were accustomed to operating in the most competitive global environment in the world and were uniquely placed to support the opening of China. They helped to build up not only the hard infrastructure of a modern industrial economy, but also more importantly the soft institutional infrastructure of a market economy. Hong Kong’s free market institutions and practitioners proved to be a unique asset and the best tutors China could hope to find.


Big business, which now occupies a prominent role in supporting China’s development, arrived later. Unlike small and medium enterprises, big business needed much more time to develop government business networks and mitigate the risks of operating in China’s uncertain and backward institutional environment. Political skills, as much as market skills, are essential to grow in markets that are heavily regulated. In almost every economy, it also commonly happens where big businesses dominate. Such environments tend to be highly unpredictable, even more than the volatile stock and commodity markets, because government officials and politicians come and go and often change their minds in response to popular pressure from below or executive intervention from above.


Big business therefore is both the reason for and consequence of market regulation. Hong Kong itself provides examples of this in such locally regulated sectors as container terminals, banking, insurance, heating fuel, electricity, domestic transportation, property development, etc. There are also international regulations governing such industries as garment and textile exports (which has ended with the phasing out of the Multi-Fiber Agreement), international air traffic, etc. Similarly in China, companies entering the market have to become familiar with a more complex policy environment.


Sitting alongside big business and the small and medium enterprises in China are the government and quasi-public sectors, which have been the slowest to respond or adapt to China’s opening. The latter includes health care, education, subsidized housing, domestic transportation, social welfare services, and the professional occupations. Their slow response is the result of, first, their mindsets being geared towards meeting local demand, second, their organizations and funding often being closely tied to the public sector; and third, numerous institutional rigidities and regulatory constraints that prevented or discouraged them from responding.


Social Welfare as Redistribution


The challenges these sectors have faced in the new environment are formidable. In contrast to the “light-handed approach” in economic affairs, the government plays a very large role in the provisioning and regulation of social services provided by these sectors. Although some measures have been adopted more or less as ad hoc responses to unanticipated crises, their cumulative effect has led to a social welfare system along the British model that is fundamentally redistributive in nature.


In other words, these sectors require more social income redistribution in order to grow. As a consequence, both service providers and their clients are organized to look inward at the domestic market. They are therefore ill suited to adapt to China’s opening and the new sources of growing external demand because their advocates and champions believe these sectors are too small and are naturally unwilling to meet external demand with domestic socialized resources.


Hong Kong’s social welfare system also co-exists alongside a light-handed approach to the capitalist market economy. While the market sector has welcomed China’s opening and relished the role it can play in supporting China’s integration into the global economy, the social sector has been anchored in a resourcing model that is primarily dependent on the state for funds and it has an “under siege” mindset. As a result those who pay for the social welfare system worry about having to pay more and those who are recipients worry they will get less.


This tension has extended to attitudes towards the permeability of the border. Fears that a more open border would lead to the social welfare system being overwhelmed have bred a growing insular mentality that resists change. What is really needed is a more smartly allocated and rationed provision of benefits between residents and outsiders. The entire social welfare system, from the range of subsidized benefits to how these are allocated, should be fundamentally reformed given China’s opening. An intelligent consideration of the permeability of the border is not possible without a total review of our social welfare system. 


An alarming development is the rising share of the quasi-public social sector in GDP in Hong Kong. As the city looks more inflexibly inward and becomes more adamantly domestically oriented, it is as a whole less prepared to respond to new external sources of demand. For two thousand years Hong Kong thrived whenever China opened to the external world. But thirty years after China’s most ambitious and audacious opening to reclaim its global role, Hong Kong cannot agree within itself on the way forward. The dual legacy of the British social welfare system and “light handed” capitalist market economy is paralyzing public policy direction. Hong Kong is now a house divided.


Hong Kong Worries About Sharing Welfare


This situation can be traced back to the opening of China in 1979 and the ending of the “reach base” policy, which automatically accepted all arrivals from the Mainland to settle in Hong Kong. In 1980 and 1981, some 400,000 individuals from the Mainland crossed the border into Hong Kong. The impact on local labor market conditions was immediate. Real wages ceased to increase for several years, but Hong Kong’s labor-intensive manufacturing export sector received a life boost as competitiveness was swiftly restored with the injection of new workers.


The sudden influx quickly led the Chinese and British authorities in Hong Kong to agree to regulate and limit the flow of people to 75 individuals per day, later increased to 150 per day. The ending of the “reach base” policy was done without controversy and almost as an afterthought.


Tellingly, capitalists in Hong Kong welcomed China’s opening, but labor had serious misgivings. Concern over the competition for jobs provided labor unions with a powerful political agenda against imported labor and for limits on population inflows. The public was concerned about sharing government subsidized benefits in education, housing, health care and infrastructure services with newcomers. These concerns led to a new political voice emerging that advocates an expanded social welfare system and restricted access to outsiders.


For the first time in the history of Hong Kong, local uneasiness towards Mainland arrivals became blatantly enshrined in public policy. This mindset of “us” versus “them” has become openly tolerated. The issue today is not so much about displaced opportunities, as many jobs taken by the new arrivals are shunned by locals. Rather, the major concern is over the protection of generous benefits to local residents which are subsidized or provided by government. Although there are other issues at stake – such as those who have property and those who do not – the social welfare system is at the center of many concerns.


The opening of China therefore has exacerbated the contradictions in Hong Kong between a social welfare system and a free market capitalist ethic. This has resulted not only in more tensions, but also greater contradictions. It is ironic that after the border on the Mainland side started to re-open in 1979, the border on the Hong Kong side is trying to close in more than one ways.


Rent Control Impeded Development


Hong Kong has seen demand increase for various social services due to an ageing population and rising prosperity that is not broadly distributed. Ending the “reach base” policy reduced the inflow of people, but it also lowered the quality of those that were allowed to come. So the productive capacity on the supply side has worsened, but demand for social services continues to rise.


The historical genesis of this development can ultimately be traced to the sudden influx of a large refugee population in the late 1940s. Hong Kong was totally unprepared and its response took the shape of a series of ad hoc measures, with path-dependent consequences that led to the dominance of the state in a wide array of social affairs. These policy measures have exerted a powerful influence on social change, public attitudes, local politics, and even economic progress in many areas of Hong Kong.


The single most critical measure was the imposition of rent control in 1947 at the end of the war. Discrimination against outsiders was apparent. Rent control created conditions that made it impossible to redevelop the existing housing stock. This happened shortly before the most massive immigration wave into Hong Kong. The vast majority of those who arrived were accommodated in the pre-war tenement units, only a minority lived in the squatter settlements. Although it may come as a surprise to readers that people in the squatter units were better off than new arrivals housed in pre-war tenements, where overcrowding was more severe. Cantonese movies produced during this period reflected the overcrowded situation correctly.


Squatter housing developments mushroomed around the fringes of the urban areas. It became impossible to develop land that was easily accessible, which made a difficult housing situation even worse. Hong Kong’s housing shortage was not the result of a rapid increase in demand caused by new arrivals but the inability of the market to respond effectively because of rent control. This problem has been repeatedly misunderstood and misinterpreted. Government did not appreciate the real cause of “failure” of the private market and started to intervene in housing supply.


Because the market was hindered by rent control, the government was compelled to provide resettlement estates as the only way to reclaim and clear land occupied by the squatters. The 1953 Christmas fire in Shek Kip Mei provided a convenient occasion for taking immediate action. If there had not been this fire, another occasion would have arisen on another day. This initial foray soon grew into the biggest government housing initiative in post-war history. The pace, scale, and standard of the provision was given a major boost by Governor MacLehose in the aftermath of the civil disturbances in the late 1960s.


China’s Opening A Valuable Opportunity


Large public housing estates were created in satellite towns, supported by city district officers and social welfare teams, and they represented a major government effort to build local community, reach out to people, understand their needs, and meet those demands. Subsidized and publicly provided education and health care followed, anchored to the housing developments. The basic infrastructure of the social welfare system took shape under MacLehose’s colossal effort and initiative.


The estates also formed the basic geographically based communities that would come to define and dominate local politics and political development to this very day.

Today half of Hong Kong’s population lives in these housing estates either as renters or quasi-homeowners. A critical characteristic is that the overwhelming majority of them never exit once they move in. Without a market there is very limited turnover of occupants. The estate residents become immobile, like the village inhabitants of pre-industrial agrarian societies or members of communes or quarters in communist societies. As an immobile geographic constituent they are a politician’s delight.


These residents are permanently captured by the politician that organizes them.

The demands and interests of residents are unambiguous. They want more generous provision of state subsidized services in general and especially in their own locality. Their service providers obviously recognize the occupants as their clientele and their political constituency. Many grassroots political organizations and advocacy groups have had their origins in the housing estates. The organizational structure of Hong Kong’s democratic political forces and their strong populist orientations are largely a legacy of these accidental housing estates, which arose as a consequence of rent control and blossomed under MacLehose’s social stabilization plans.


Many populist politicians and social advocates have toiled hard with the best of intentions to help residents caught in a changing Hong Kong. They have pressured government for more resources. They have tried to resist a more permeable border to protect their interests. They have now turned to finding fault with big business to help their cause. But their organization model is unable to create economic value for their constituents. In an era where meeting China’s development needs has to be a large component of what drives economic growth in Hong Kong, something serious is missing in their organization model.


They blame government, outsiders and big business for the plight of their constituents – for the perceived dwindling opportunities due to inflows and influences from across the border; for the so-called unfair playing field caused by the “hegemonic power” of big businesses working hand in glove with government; and for the failure of government to resolve the divisions. The impasse over Hong Kong’s political development has also worsened divisions in a society already cleaved by a social welfare system that co-exists with a free market economy.


The principle of “one country two systems” recognizes that Hong Kong’s history under British rule represents a unique past. It promises to preserve Hong Kong’s way of life and respect its history for the benefit of the Hong Kong people. The other end of the bargain is “one country”. The purpose of “one country two systems” is to respect the past in order to settle the future. But it remains unclear why and how a focus on the past alone can benefit the future. Demonstrating how it can be mutually beneficial into the future appears to be a highly sensible and desirable proposition, even if it may not be absolutely necessary.


Some Hong Kong residents have sought to defend “two systems” by chanting about Hong Kong’s “core values” as if these were a last moral stand. Others have pushed for an untried democratic system of government as a foolproof political barrier to insulate Hong Kong from Chinese influence. China’s history tells us that its opening should be embraced, not avoided. Hong Kong need not feel under siege if it can manage the permeability of its border more creatively and effectively. This will inevitably entail a reexamination of our social welfare system.


The intellectual and political challenges facing Hong Kong in managing the border are enormous. Only time will tell whether they can be met; and as Hong Kong’s own past history has shown, there may well be events that the territory cannot control or influence. Nonetheless, the reward for success would be to win over one-fifth of humanity. And that is a worthy goal.

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