James Lau JP, Secretary for Financial Services and the Treasury, argues that high corporate governance standards will be crucial for maintaining Hong Kong’s role as a premier international financial centre.
Chapter 54 in Mainland China’s 13th Five-Year Plan has a dedicated chapter on Hong Kong and Macau. Can you share with us the latest developments relating to the increasing integration of the Hong Kong and Mainland financial markets?
‘The dedicated chapter on Hong Kong and Macau has actually been augmented by the promulgation of the Outline Development Plan for the Guangdong-Hong Kong-Macau Greater Bay Area (the Outline Development Plan) in February, which goes beyond the promotion of Hong Kong as an offshore renminbi (RMB) centre and quality growth.
First, I would like to clarify that Hong Kong has not been passively pulled into this plan by the Central Government. We actively presented our competitive advantage, and the Outline Development Plan, together with other wider policy initiatives, have put Hong Kong in a unique position to preserve and deploy its core strengths and values. Improving market access to Mainland China also leaves us in an advantageous position to develop our financial services and better connect with the Greater Bay Area and the rest of the Mainland.’
What will be Hong Kong’s future role under the Outline Development Plan?
‘There are four roles for Hong Kong that are clearly identified within the Outline Development Plan. These relate to Hong Kong’s role as an established international financial centre, an offshore RMB centre, an asset management centre and a risk management centre.
These four roles are crucial. Let’s take the second role first, that of Hong Kong’s role as an offshore RMB centre. In 2004, we started the modest opening of bank accounts for RMB deposits for individuals, then gradually there were corporate accounts and remittance too. We started from the banking business and then moved onto debt issuance – such as the RMB-denominated dim sum bonds issued by multinationals, corporations and multilateral development banks.
The bond market in Mainland China is the third largest in the world – today it is worth about US$13 trillion but international participation in this market is probably less than 2%, which is very low. Usually global bond markets move up and down in sync, but Mainland China’s economy and markets are quite different. They have a low correlation with the developed markets so they provide a very good alternative investment for bond investors.
Now that the RMB is fairly steady, we are seeing more interest in the bond market. The Bloomberg Barclays Global Aggregate Index included Mainland China bonds from 1 April this year, and, over the next 20 months, they are going to include Chinese government bonds and those of policy banks like the China Development Bank. Their bonds would account for 6% of the Index, making the RMB the fourth largest currency component and much of this development of the RMB as an international currency has been facilitated by us.
Expanding Hong Kong’s offshore RMB role is not only about getting more business for Hong Kong, it is also about the internationalisation of the RMB. This is important because Mainland China has been opening up, starting with reforms on trade and liberalising the services sector over the last 20 years, and that has been the source of growth and prosperity for Hong Kong. If you take the securities market, more than 80% of our stock exchange daily turnover is in Mainland companies, and close to 70% of the market capitalisation is Mainland sourced. In this context, you can see why it is so important that Mainland China is making the transition from a primary and secondary into a tertiary economy.’
How serious an impediment is the absence of capital account convertibility to the internationalisation of the RMB?
‘Beijing brought in reforms to the fixing of the RMB exchange rate in 2015. Unfortunately, that triggered a fall in international investor interest in the RMB, reflecting the problem of the lack of capital account convertibility and the restrictions on cross-border flows. Hong Kong’s role in the “four connects” is crucial in providing a type of “sandbox” for capital account convertibility. In 2014, we launched the Shanghai-Hong Kong Stock Connect and in 2016 we added the Shenzhen-Hong Kong Stock Connect. In between, in 2015, we had the Mutual Recognition of Funds arrangement and then the Bond Connect in 2017. The internationalisation of the RMB through the availability of these connects is vital. With the creation of these channels for RMB denominated financial products, there will be more interest from international investors and central banks.
For investors in Mainland China, Stock Connect has a qualification threshold which requires them to have half a million RMB in their securities and cash accounts. There is a huge demand for investment products for wealth management, however, and the Outline Development Plan mentions that there is room for such wealth management products to be marketed in both directions. We have also been discussing for some time the possibility of creating an Exchange Traded Fund (ETF) Connect. We are trying to broaden the scope of these closed circuit connects. There are some technical issues being addressed and we will also need to consider the scope of the ETFs to be included.’
More broadly, what other measures are being considered to further integrate the Hong Kong and Mainland markets?
‘There have been recent changes to tax arrangements designed to encourage the cross-boundary flow of workers. Globally, the general practice is that if you live in a place for 183 days you become a tax resident. The change is that when you do the tally on your stay in the Mainland, the first day and the last day of your stay won’t count, because normally these won’t be complete days. That means if you stay there five days, it will be counted as three days for the purpose of computing tax residency.
If you live in Mainland China continuously for six years you become liable for taxation on your global income, but another new rule states that, if you have been outside Mainland China for a continuous period of 30 days during a year, then that year won’t be counted for the purposes of tax residency. There is considerable interest in being liable for Hong Kong, rather than Mainland, taxation since the tax rate in Hong Kong is normally 15%, but in Mainland China it is 40% plus.
These incentives will encourage cross-boundary flow of professionals and they will also help with cross-fertilisation and cooperation in technology, innovation, artificial intelligence and biotechnology within the Greater Bay Area, since teachers and researchers working cross-boundary will not be caught in the Mainland China tax net so long as they are paying Hong Kong salaries tax.
Other incentives relate to the insurance sector. The increased flow of persons across the boundary has highlighted the need for cross-boundary insurance for motor vehicles, for example. In Switzerland, you can drive across the border to France, Germany or Hungary without needing separate insurance coverage. In Hong Kong if you drive to Macau you need separate insurance cover from a Macau-based insurance company, and the same would apply to Zhuhai. That is very inconvenient. If you could have one insurance policy covering your visit, it would be more user-friendly and sensible.
The Outline Development Plan also mentions medical insurance. The coverage, scope, exclusions and pricing mechanisms of medical insurance policies in Mainland China, as well as the claims processing, can sometimes be quite problematic. Hong Kong provides much more user-friendly medical coverage polices and we are keen to expand cross-boundary business in insurance products to serve the Greater Bay Area.’
What roles can company secretaries and governance professionals play in this?
‘For members of the Hong Kong Institute of Chartered Secretaries, both the international and also the Mainland China dimensions are quite crucial. In Hong Kong we have earned our reputation by the importance we attach to corporate governance and compliance. It is vital that company secretaries continue to perform their critical role in ensuring compliance, upholding corporate governance standards and ensuring the general awareness of the importance of accountability.
The reason many Mainland companies want to list in Hong Kong is precisely because of governance. Companies in Mainland China are very used to their own way of doing things and there is nothing wrong with that when they remain domestic. If they want to go global, however, such companies would not be benchmarked against the domestic standard but by international standards in terms of governance and compliance.
So the role of company secretaries is crucial for listed corporations, and the initiatives of the Financial Services and the Treasury Bureau (FSTB) and the creation of the Financial Reporting Council (FRC) are also an important part of maintaining our standards. Currently, we are improving the process for the auditing of listed companies, for example.
I would also mention environmental, social and governance (ESG) issues. For me the areas of sustainable development, the environment and climate change are as important as the well-established areas of compliance and traditional corporate governance. People are saying that, while Fintech (financial technology) will be taking jobs away from accountants, there are some jobs you cannot take away and one example is ESG. Looking after ESG governance issues is less mechanical, less procedural and less likely to be replaced by AI.’
Significant differences remain between the capital markets and the regulatory philosophies of Mainland China and Hong Kong – are there limits to how far market convergence and regulatory cooperation can proceed?
‘There are regulatory differences and that is precisely why the Mainland wants to connect with Hong Kong. Mainland China knows that our standards are benchmarked against world standards and the whole point of improving the connections between the markets is to dovetail with those standards. Mainland China is trying to migrate to higher governance standards.’
Would that affect Hong Kong’s competitive advantage?
‘Hong Kong is a very strong international financial centre. This is a significant achievement for a city with a population of around 7.4 million people. Of the top 100 global banks, 77 are in Hong Kong. Of the top 20 insurers, 13 are in Hong Kong. The total balance sheet of the banks in Hong Kong is US$3 trillion. Our stock exchange has a market capitalisation of US$4.3 trillion, that is about 11 times our GDP. If you look at fund management, in 2017 the total assets under management was US$3.1 trillion, although, compared to Mainland China, that is still small.
Hong Kong is so unique and so important to Mainland China. It would be difficult to try to find another Hong Kong. Even with the liberalisation of the capital account, Shanghai and Shenzhen would not become Hong Kong overnight because we have built up our market infrastructure and governance over hundreds of years.
That is why I am quite confident of Hong Kong’s future role. Hong Kong is small but it is in a very fortunate position because it is placed under the “One Country, Two Systems” arrangement. We have access to the markets in Mainland China and we can keep our own currency, markets, the rule of law and regulatory framework – everything necessary. Some people have been talking about the loss of our identity, or our being forced into the Outline Development Plan, but nothing could be further from the truth.’
Could we discuss your own personal and professional background? Were there any particular events that have shaped your career?
‘I worked initially with an airline for five years before going to university. Working at Japan Airlines as a reservations clerk, I learned the nitty gritty of doing work at a very basic level. My job was to pick up the telephone and do seat reservations, book hotels, send telegrams, telex and so forth. That taught me that the details can be very minor but you still have to make sure they are handled properly and conscientiously.
After that I went to the University of Waterloo where I studied computer science and statistics. These technical subjects trained me to think analytically. In computer science, you cannot feed some garbage into a programme and hope that something good will come out. We call it “garbage-in, garbage-out”. We all have to put in the best of our efforts to do things properly and an analytical mind helps in doing my job today.
After university I joined IBM for two years and then the Hong Kong government. A major and unique experience was my four years of work in Geneva as Hong Kong’s deputy trade negotiator. I was handling Uruguay Round negotiations in trade in services and also market access under the General Agreement on Tariffs and Trade. Then I came back and joined the Monetary Affairs Branch for three years, and subsequently moved to the Hong Kong Monetary Authority. All of these jobs were instrumental in shaping me, giving me the experiences and the know-how, making me the person I am today.’
James Lau JP was interviewed by Sharan Gill, journalist, and Mohan Datwani, Senior Director and
Head of Technical & Research,
The Hong Kong Institute of Chartered Secretaries.