Thirty-three years ago, China founded its first “commune of capitalism.” The special economic zone at Shenzhen, then still not much more than a fishing village on the border between Guangdong province and Hong Kong, was intended as a testing ground for the economic reforms that would deliver China three decades of double-digit growth. At the time, the experiment was viewed with much curiosity in Hong Kong — and some skepticism that Shenzhen would be able to challenge the then-British colony’s prowess in low-cost manufacturing. What it would do, in the event, would be to return Hong Kong to its traditional role as an entrepôt, providing commercial and financial services for southern China. The colony’s textile, garment and low-end manufacturers, meanwhile, would decamp up the Pearl River delta.
The advent of a free-trade zone in Shanghai intended as a test bed for China’s financial-sector reforms and the greater convertibility of the yuan has been met with similar suggestions that it does not pose a near-term competitive threat to Hong Kong. That may well be true. But in the long term, it will change both cities — though not by making one China’s financial capital at the expense of the other. The question is, simply, which will prove better at diversifying their economies from a reliance on shipping and finance into the knowledge industries of the 21st century?
For now, Hong Kong is indisputably regarded as the leading financial center of the two. Shanghai has a bigger stock market and a substantial insurance industry, both serving the huge industrial hinterland of the Yangtze delta, but Hong Kong is the more internationalized city and the place China’s companies go to get access to the world’s capital though public markets and private investment.
It is also Beijing’s designated market for promoting the internationalization of the yuan. More than 16% of China’s trade is now denominated in yuan, and an overwhelming majority of that passes through Hong Kong, boosting yuan-denominated banking and settlement businesses. The Bank of International Settlements records that yuan deposits now account for 10% of Hong Kong’s banking system. Trading volumes in the Chinese currency are greater than those in the local dollar.
Shanghai may have the ambition to usurp those advantages, and now — with its long-proposed free-trade zone being co-opted by prime minister Li Keqiang in the cause of national economic reform — it has the support of the central government. What company needs the window into China that Hong Kong has long provided when it can be in China directly? But Shanghai won’t attract business away from Hong Kong easily. As well as having a lot of China’s money flowing through it, Hong Kong also has, to borrow a phrase from technology, an installed base of financial markets, firms, people, and (perhaps most important) contract law that will not migrate as easily as a factory making plastic flowers. In that regard, both cities would be well advised to remember the words of the late American banker Walter Wriston: “Capital goes where it is welcome, and stays where it is well-treated.”
Even if Shanghai does eventually succeed in fulfilling its ambition of becoming China’s financial center — the city has set itself a deadline of 2020 to be on a par with London and New York as a global financial hub — its long-term challenge to Hong Kong will likely be that of a regional competitor, not of a disrupting neighbor. And that will merely part of the broader long-term change Hong Kong faces, from being a Special Administrative Region to just another big Chinese city, albeit one that is richer, more global and entrepreneurial than most.
In terms of financial services, the two cities will have to stake out their competitive advantages, just as, say, New York and Chicago and Boston have done. Hong Kong has the more internationalized and sophisticated financial markets and products; Shanghai’s are more domestically focused. For Hong Kong, building on that may be as simple as exploiting its existing global cachet, low and straightforward tax rates, family-friendly lifestyle, and the relatively clean air and water that make it the regional headquarters for five times as many multinational companies as choose Shanghai. More immediately, Hong Kong’s financial-services sector can draw some of the sting out of any future competition from Shanghai by becoming more cost-competitive.
Neither city, though, can rely on financial services alone — any more than the world’s two true global financial centers, New York and London, do. Both those cities have been through cycles of reinvention. So, too, in their ways have Hong Kong and Shanghai. Hong Kong in particular has since the 1997 Asian financial crisis being trying to develop high-tech industries and to broaden its service industries, if not with particular success. Yet if it is to be that Hong Kong or Shanghai eventually joins London and York as a global financial center, it will probably turn out to be the city was most successful in generating new creativity- and innovation-based industries and in diversifying their services industries. That is, not the one providing superior (but traditional) financial services.