Hong Kong’s Productivity and Competitiveness in the

Two Decades of 1980-2000

Kui-Wai Li*

City University of Hong Kong, Kowloon, Hong Kong

Email:  EFKWLI@CITYU.EDU.HK

Abstract

By using a growth accounting framework for the period of 1980-2000, this paper estimates Hong Kong’s total factor productivity and unit labor cost of twenty industries classified into three economic sectors of tradable goods, tradable services and non-tradable services. The results show that Hong Kong’s total factor productivity has fallen in the 1990s. The competitiveness of the tradable goods, tradable services and non-tradable services has increased, remained competitive and dropped, respectively, in the last two decades. Policy recommendation for Hong Kong will be to minimize the increase in unit labor cost in non-tradable services, while focusing more resources in the expansion of the other two sectors.

Key Words:Hong Kong, total factor productivity, growth accounting, labor productivity, economic sectors, industries.

Journal of Economic Literature Classification Numbers: O11, O47, O53.

First draft: September 2002.

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* The author would like to thank Mr. Eric Kwok for his excellent research assistance, the APEC Study Center and the Research Center for International Economics of the City University of Hong Kong for the funding support. The author is responsible for all remaining errors.

IIntroduction

Various approaches have been used to explain Hong Kong’s economic success. In additional to such conventional explanations as export-led and laissez-faire economic policies, a paradigm of economism that encompasses various different economic attributes, behavior and government policies to explain the growth of Hong Kong and three other East Asian economies since the 1950s has been advocated (Li 2002). On total factor productivity, a number of studies on Asian economies (for example, Fu, Huang and Knox-Lovell 1999, Chen 1997, Hsieh 2002) show that total factor productivity in some Asian economies has remained high, other studies, typically Young (1992, 1995), Kim and Lau (1994) and Krugman (1994) find a distinction between factor quantity and productivity. This paper bring the total factor productivity debate to the distinction between the tradable and non-tradable sectors, especially non-tradable services, as they tend to show a high degree of cost rigidity.

By the late 1970s, Hong Kong has become an international financial center and has achieved a fairly matured industrial base that supported domestic exports. Economic reform in Mainland China since 1978 provided Hong Kong with a number of new economic roles (Sung 1991). For example, re-export business was not only revitalized but grew rapidly in the 1980s. Since the 1990s, structural transformation in the Hong Kong economy tilled towards the rapid growth of services. Geographical proximity and the low factor cost in the Special Economic Zones of Southern China attracted Hong Kong’s investment. By the late 1980s, a growing number of light manufacturing activities migrated, causing a situation of industrial hollowing or de-industrialization in Hong Kong.

Hong Kong’s robust economic performance since the conclusion of the Sino-British negotiation over the post-1997 Hong Kong in 1982-1984 had led to wealth appreciation and expansion. The strong presence of a short-term investment behavior, however, exhibited itself excessively on speculative activities in stocks and real estates. The gradual built up of an economic bubble was featured by the expansion of nominal economic activities coupled with shrinkage in real economic activities. By the mid-1990s, a falling level of domestic exports and high cost characterized the Hong Kong economy. Statistics on wage increase show that in the period 1981-1997, tradable goods had twice experienced a 2-digit wage increase in both real and nominal terms, while non-tradable services, such as electricity and gas, transportation, and storage and communication, experienced a total of four and five occasions of 2-digit real and nominal wage increase, respectively (Li 2001).

Hong Kong’s macro-economy, as shown in Table 1, generally performed better in the 1980s than in the 1990s, and the first half of the 1990s is better than the second half of the 1990s. The strong re-export growth lasted till the early 1990s. Growth in domestic investment remained robust in the 1986-1995 decade. Export of services maintained at a high level. The average real GDP growth maintained at five percent for the two decades. Beginning from the early1990s, despite the large total export to GDP ratio, domestic export could not keep pace with its growth rate, and unemployment edged upwards even though it was considered low before 1996.

This paper poses two related hypotheses on Hong Kong’s productivity. One hypothesis is that the high cost has eroded Hong Kong’s overall competitiveness, resulting in a drop in Hong Kong’s total factor productivity. The second hypothesis is that while the tradable service sector has expanded, it is the uncompetitive non-tradable services sector that has contributed to the fall in Hong Kong’s competitiveness. This is because a great number of domestic services are non-tradable and shielded from foreign competition. Non-tradable services exercise a considerable degree of price rigidity and many belong to low-productivity activities. Despite the shrinkage in the tradable goods sector, mainly the manufacturing sector, it is likely that the most productive manufacturing activities have remained in Hong Kong. Productivity differentiation can be seen in various sectors: increasing in the manufacturing sector, but falling in the non-tradable services.

By using economic data from the two decades of 1980-2000, this paper first uses the national accounting approach, as in Kim and Lau (1994) and Imai (2001), to work out Hong Kong’s economy-wide total factor productivity. The economy-wide capital stock will then be disaggregated to examine the total factor productivity of major economic sectors (tradable goods, tradable services and non-tradable services). To consider Hong Kong’s competitiveness, the paper examines the labor productivity and unit labor cost of the three economic sectors and twenty individual industries to see if differences in unit labor cost between the tradable and non-tradable industries can explain Hong Kong’s competitiveness. Section II uses the national accounting framework to work out the economy-wide total factor productivity. Section III uses a similar framework to examine the total factor productivity of eight official industry classifications and the three economic sectors. Section IV looks at the competitiveness of the three economic sectors and twenty individual industries. Section V suggests policy recommendations and concludes the paper.

IICalculation of Total Factor Productivity

In the Cobb-Douglas production function, aggregate output (Y) depends on the capital stock (K), the quantity of labor (L) and the level of technology (A), specified as follows:

Y = f (A, K, L).(1)

Differentiating Equation (1) with respect to time, and dividing the result by Y, the production function becomes:

.(2)

F_K and F_L are the factor marginal products and g represents technological progress or an estimate of total factor productivity, commonly known as the Solow residual. Let s_K = F_KK/Y and s_L = F_LL/Y represent the shares of capital and labor factor payment in total output, respectively. A constant return to scale is assumed, meaning that . The value of g can thus be calculated from Equation (2) if all the other variables are known.

The data for Hong Kong’s capital, labor and output, and the two factor payments have to be constructed. Hong Kong’s aggregate output is measured by the production-based real GDP. The GDP deflators are used to deflate the nominal production-based GDP figures to obtain the real figures expressed in constant 1990 prices (Gross Domestic Product 2001, Census and Statistics Department, Tables 2 and 12-14). The capital stock figures are constructed from the accumulation of gross investment. Real gross investment consists of the gross fixed capital formation in the private sector, which includes non-residential building, other construction, real estate developer’s margin and all machinery and equipment, and change in stocks, expressed in constant 1990 prices. The capital stock figures are estimated from the following equation:

K_t = K_t-1 + RNI_t.(3)

RNI is real net investment, which is real gross investment less depreciation. The analysis makes two assumptions, as in Kim and Lau (1994, Appendix I), that a depreciation rate of 5 percent is applied, and the capital stock in 1966 (the earliest year when the gross fixed capital formation figures are available) is set equal to five times the value of the gross fixed capital formation.

The labor input is measured by the number of working hours (H). Employment in each time period is simply the size of the registered labor force (l) less the unemployed. The total number of labor hours is total employment multiplied by the average number of hours worked per time period. Thus, the labor variable is constructed (see Appendix 1), with u indicating the unemployment rate, as follows:

L = l (1 – u) . H.(4)

Table 2 shows the data for output, capital stock and labor force. Between 1980 and 2000, production-based real GDP increased by 183 percent, while capital stock and labor increased by 341.5 percent and 43.4 percent, respectively.

Table 2 Aggregate Date for Productivity Accounting