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Hong Kong protests

Hong Kong's special trade status with the US: Five things to know

City's preferential position for trade and technology at stake

U.S. Secretary of State Mike Pompeo has said Washington will no longer treat Hong Kong, flag on left, as autonomous from Beijing. (Nikkei Montage/Reuters) 

HONG KONG -- U.S. Secretary of State Mike Pompeo's announcement on May 27 that Washington would no longer treat Hong Kong as autonomous from China has not immediately changed the city's relationship with the U.S., but it could have a major impact on trade and investment ties.

The U.S. is set to announce penalty measures in response to China's adoption of a Hong Kong national security law that threatens free speech and other liberties in the city. Until now, Washington has largely treated Hong Kong as it did when it was under British rule before 1997, granting it greater privileges than other Chinese territories.

Toru Kurata, a politics professor at Tokyo's Rikkyo University, said U.S. President Donald Trump's "first step could be a lighter one, leaving more for later measures."

Here are five things to know about Hong Kong's special status.

What is Hong Kong's special status?

Under the terms of handover agreements with Britain, China governs Hong Kong under a formula known as "one country, two systems." Beijing made a fundamental pledge to maintain a "high degree of autonomy" for the city until at least 2047, and this forms the basis for the international community to continue granting the city special privileges.

This has allowed Hong Kong to maintain its position as a free port, attracting companies from around the world to establish regional hubs there. The city maintains its own open financial system, with a currency linked to the U.S. dollar and no capital controls -- further attractions for foreign companies. Hong Kong maintains its own border controls, and its citizens have different passports from mainlanders, giving them much looser visa arrangements with the U.S. and many other countries.

Angered by police abuses against protesters in the city, Washington last year passed the Hong Kong Human Rights and Democracy Act. This requires the U.S. secretary of state to certify that the city remains autonomous enough to merit special treatment. Pompeo, however, said, "No reasonable person can assert today that Hong Kong maintains a high degree of autonomy from China, given facts on the ground."

Could exports be affected?

In general, goods from Hong Kong face far lower import tariffs on arrival in the U.S. than products from mainland China. But since most of the items shipped to America originate in China, they are treated as Chinese goods.

"Tariffs on goods produced in Hong Kong wouldn't make much difference," said Mark Williams, chief Asia economist at Capital Economics. The U.S. accounted for about 8% of the city's overseas shipments in 2019, of which 77% were re-exports from China, according to Morgan Stanley.

Still, depending on how shipments are arranged, a change in Hong Kong's status could raise the valuation on which U.S. tariffs are levied, making the city less attractive as a transit point. Such transit goods now account for a major portion of the cargo traffic handled by the city's port, airport and flagship carrier Cathay Pacific Airways.

Could technology imports from the U.S. be affected?

Companies in Hong Kong benefit from much looser controls on U.S. technology imports than counterparts in mainland China. This is because Washington and other governments are wary of giving Beijing free access to products that could bolster its growing military prowess.

Nigel Inkster, formerly the assistant chief and director of operations and intelligence for Britain's Secret Intelligence Service, said thousands of mainland Chinese companies have long maintained a presence in Hong Kong to benefit from the city's privileged access to American and other foreign technologies. "Hong Kong has been used to import technology China would be unable to directly," said Inkster, now an associate of research company Enodo Economics.

A former U.S. Commerce Department official said the loss of Hong Kong's preferential status would also affect universities and other organizations that import equipment and technology from the U.S. But he added that most ordinary trade in technology goods would continue unimpeded. Another former U.S. official said that a status change could make a difference for companies choosing to locate between, for example, Singapore and Hong Kong, given higher rents and other issues with Hong Kong.

Could Hong Kong lose its status as a global financial center?

A loss of special status, if seen to reflect doubts about the continuing independence of the city's judiciary or adherence to global governance standards, could start to undermine the city's role as a global finance and wealth management center.

Still, many analysts say the city is becoming an even more important center for raising equity and debt for Chinese companies and handling their international transactions as the U.S. tightens access to its financial markets. Alibaba Group Holding last year raised $12.9 billion in adding a Hong Kong stock market listing to its existing one in New York. Game developer NetEase and online retailer JD.com are set to follow next month.

"If Hong Kong maintains free capital flow and strictly protects private property rights, its status as an international financial center should remain," Jefferies analyst Edison Lee said in a recent note. Wei Zongyou, a professor specializing in international affairs at Fudan University in Shanghai, said Beijing has few alternatives to Hong Kong for now for its financial needs, noting, "It will take a while for Chinese cities such as Shanghai and Shenzhen to catch up."

How could Hong Kong's status change affect China?

The potential impact for China from Hong Kong's loss of special status goes beyond trade and finance, as the global political environment has been souring for Beijing. A rare joint statement of concern issued by the U.K., Canada, the U.S. and Australia over the national security law points to the emerging formation of a coalition against China.

The Japanese government, which has been rather indifferent to human rights issues involving China, has expressed "deep concern." Beijing's move has also hardened the stance of Taiwan's China-skeptic president, Tsai Ing-wen, against the "one country, two systems" formula for political unification with the mainland.

The aggressive way Beijing and its diplomats have dealt with the deteriorating circumstances has added to its woes. "China has become so isolated in the international arena," said Rikkyo's Kurata.

Additional reporting by staff writers Coco Liu, Nikki Sun and Narayanan Somasundaram

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