Hong Kong’s security law could damage the city’s position as a financial center

Paul Chan, Hong Kong’s top financial official, traveled to Paris, London, Frankfurt and Berlin last September to lure foreign investors. Last month he abolished taxes on real estate purchases in Hong Kong by foreigners. And soon he will organize an international art exhibition, as well as conferences for major funds and advisors of wealthy families.

Mr. Chan’s rapid pace of work represents an attempt to strengthen Hong Kong’s role and image as Asia’s financial center. But that effort is now clashing with an attempt by the city’s Beijing-appointed leaders to further tighten their crackdown on the city’s remaining political freedoms.

Hong Kong’s legislature passed broad security legislation on Tuesday. City leaders described the law as necessary to stop foreign interference in local politics, but critics characterized it as a sweeping attempt to silence dissent.

Under its top leader, Xi Jinping, China has exerted greater influence over Hong Kong’s laws and prosecutors over the past four years. That has raised alarm among American and European companies that use the city and its open financial markets as a gateway to China. The mainland’s own economic struggles, especially in real estate, have further damaged confidence in Hong Kong as a place to put money.

Many investors and companies have already started moving their operations to Singapore, a rival that has the advantage of being an independent country 2,000 kilometers southwest of China.

“The new national security rules have eroded Hong Kong’s distinctiveness for foreign companies and Chinese exporters – its comparative advantage is less clear than it once was for many companies,” said Mark Wu, director of the Fairbank Center for Chinese Studies at Harvard University.

Shiu Sin-por, former head of the Hong Kong government’s policy review bureau and now a senior adviser to Beijing on Hong Kong issues, said the legislation would have no practical effect on trade or financial markets. “It might cause an image problem, but for ordinary investors it wouldn’t make any difference,” he said.

The crackdown coincides with an already difficult time for Hong Kong’s economy and financial sector. The city’s close ties with the mainland’s economy have been the city’s greatest strength – and have now become a problem as China’s economic activity slows. The city’s stock market has lost almost half its value in three years. Dozens of mainland property developers have defaulted on bonds issued in Hong Kong, causing billions of dollars in losses to investment funds in the city and damaging the image of the bond market.

To make matters worse, interest rates in Hong Kong have soared, roughly in line with those in the United States. That’s because the city’s currency is closely linked to the dollar and is fully convertible into dollars – a monetary policy central to the city’s role as a global financial center. But high interest rates have damaged the city’s vast real estate sector.

Hong Kong has imposed lengthy quarantines during the pandemic, eroding its role as an air travel hub. Mainland Chinese cities such as nearby Shenzhen have built extensive, state-of-the-art container ports, erasing Hong Kong’s leadership in logistics.

Beijing has also introduced extensive duty-free shopping on China’s Hainan Island. That has eliminated much of the need for mainland shoppers to cross the border into Hong Kong to avoid the mainland’s combination of high import duties and high sales taxes.

Banks and consultancies have already started moving staff to Singapore for politically sensitive activities such as assessing the performance of the mainland Chinese economy. Hong Kong’s new law also poses a further challenge to the city’s once vibrant media sector, which now faces the threat of prosecution for sedition for criticizing the government.

Hong Kong was a British territory from 1842 until 1997, when London brought it back under the control of mainland China. The city has a legal system based on the British common law system.

Many mainland Chinese companies continue to sign contracts under Hong Kong law. The city’s courts are seen as free from political interference in commercial matters, although critics warn that the Hong Kong government is now appointing pro-Beijing judges.

Hong Kong’s legal code since 1997, known as the Basic Law, requires the city to pass legislation against sedition, secession, treason, subversion and theft of state secrets, and to ban foreign political organizations from engaging in political activities in Hong Kong. The city’s leaders tried to pass the legislation in 2003, but withdrew after a major street protest. Beijing then imposed its own national security law in 2020, following a wave of protests the year before.

Regina Ip, a senior member of Hong Kong’s Cabinet, said the new law would allow leaders to focus on the economy. “We are 26 years late, and more importantly, we must focus on boosting the economy in the next phase of our development,” she said.

Ms Ip’s point was echoed by Leung Chun-ying, a senior adviser to Beijing’s leaders and former Hong Kong chief executive, who served in the government’s top role. “It is time for Hong Kong, not Beijing, to take action,” he said.

International criticism of the new law was broad and fierce.

“It could lead to significant restrictions on freedom of expression, freedom of assembly and the right to express dissent,” said Nicholas Burns, the US ambassador to China.

Hong Kong’s leaders argued that the law was portrayed as more drastic than it actually was. They said what Hong Kong did to limit foreign interference was less extensive than recent efforts by countries like China Singapore and Australia, two of the main destinations where many companies and investors move.

Hong Kong law allows a broad role for the judiciary in reviewing government decisions on national security matters, Mr. Leung said in an interview in Beijing.

Businesspeople in Hong Kong say many of the activities banned by the new legislation could already be considered illegal in some form under Beijing’s laws in 2020, so they are watching to see how the new law is implemented.

“It’s fair to say that most of the changes are already baked in,” says Steve Vickers, CEO of Steve Vickers and Associates, a regional business risk consultancy in Hong Kong.