Hong Kong’s resurgence of protests is worrying – but a US-China financial war would be far worse for its economy

Hong Kong has been Beijing’s entry point into western finance. It has been extraordinarily successful. But if tensions escalate further, it will get caught in the crossfire

On Tuesday China celebrates the 70th anniversary of the People’s Republic of China. On Sunday, in Hong Kong, protests were building up into the most violent protests to date. The Hong Kong government has said that Carrie Lam, the city’s leader, will be out of town for the event, despite having issued the invitations for the official celebrations. It is not helpful to speculate from a distance as to how that decision was reached or how the Chinese authorities will respond to the protests. But the harsh truth is the protests in Hong Kong are becoming a factor in the reset of the entire relationship between the US and China.

That relationship took a turn for the worse over the weekend, with the suggestion that Donald Trump might force Chinese companies with quotations on the New York markets to delist. What would happen would be that any investor wanting to buy or sell shares in the 150 or so Chinese companies listed in the US would have to do so on one of the Chinese exchanges, typically Hong Kong or Shanghai, instead.

It is not the end of the world, and it may not happen, but it would restrict the ability of Chinese companies to raise money outside China. So a third front would be opened in the tussle for global economic dominance. There is the trade war; the technology war (witness the US effort to exclude Huawei from 5G networks); and now a financial war.

The problem with a financial war is that the consequences are unpredictable. The world has a remarkably unified financial system. The flaws and excesses are obvious. We all know about those. Much less obvious is the way in which global trade and investment continues to be financed, despite huge political ructions. For example, at the height of the Cold War, Russia was still able to borrow on world markets – actually, it had rather a good credit rating. Right now the US depends on foreign investors buying dollar-denominated securities to cover its twin deficits: the fiscal deficit and the current account one.

China is the second-largest foreign holder of US treasury securities with some $1.11 trillion of them, just behind Japan, which has $1.13 trillion. At the beginning of the year, China held more than Japan, but I don’t think there is any political motive in its selling some of its stock of US debt, or at least not yet. Russia never used its financial clout, which was relatively much greater in the Cold War years than it is now, to further political aims.

But once you start to unpick one bit of a system, you weaken others. What may happen is that the world will split into two competing zones in trade, technology and finance: a US zone and a Chinese zone. Hong Kong has been China’s entry point into western finance. It has been extraordinarily successful, usually ranking number three behind New York and London as an international financial centre. China has needed Hong Kong as this entry point, but also because it used to be such a large part of the Chinese economy. Back in 1997 at the handover, its GDP was $177bn. That compared with $962bn for mainland China. So it was equivalent to nearly 20 per cent of China’s economy. You can see both why China wanted control, and the “one country, two systems” deal that gave Hong Kong huge autonomy made so much sense.

Since then Hong Kong has grown solidly, but with the extraordinary boom in China, it is equivalent to only 4 per cent of the mainland’s economy. Hong Kong is still useful as an entry-point into the global financial system, but China has rival financial centres, notably Shanghai. And in sheer financial power, Hong Kong is much less important than it was relative to the mainland.

Actually, I think Hong Kong is still important to the rest of China as a beacon of how to build a fully developed, cutting-edge advanced economy. Even the richest parts of China have a lower GDP per head than Hong Kong. The danger for China is that it gets caught in what economists have dubbed the “middle-income trap”, failing to make the difficult transition that Hong Kong has successfully achieved. The danger for Hong Kong is that if there is a financial war between China and the US, it will get caught in the crossfire. The next few days will be tough for all. Fingers crossed.