Deflation (2)

inSight

21 Nov 2002

Deflation (2)

This second article in a series on deflation looks at microeconomic policy responses to the phenomenon.

Last week I identified six causes of deflation in Hong Kong. Let me this week turn to the microeconomic policy response to deflation and leave the appropriateness of a macroeconomic response to next week. At the microeconomic level, there is I think scope for specific policy responses, at least to some of the deflationary factors identified. Where this is the case, I believe that the Government is already addressing them, although the HKMA has no direct involvement in them.

For example, last week a set of measures was announced aimed at stabilising the property market. Many are, of course, cynical about these initiatives. But just as it was considered desirable to address overshooting when prices rose to unsustainable and unaffordable levels that could only be explained by speculation, the same argument for intervention applies when prices overshoot in the downward direction to levels that are destabilising to society and perhaps even risk destabilising the financial system. Any responsible Government would intervene, notwithstanding the moral hazard of doing so. There are of course those who, perhaps rather simplistically, favour leaving the market alone. This is a convenient and attractive position to take, invoking and defending the free market philosophy that Hong Kong has been so famous for. But they cannot ignore the fact that, whether we like it or not, the Government is the monopolistic supplier of land. The property market is consequently not a free market, at least not of the textbook type where both those who supply and demand the product are so numerous that they behave competitively by taking the market price. In any case, the set of measures has a strong flavour of the Government reducing its involvement in the property market.

There seem also to be a few interesting microeconomic policy responses concerning the deflationary influences of economic integration with the Mainland. Factor price equalisation with asymmetric factor mobility has proven to be a painful process, although, when equilibrium is achieved, we will be able to benefit much more fully than now from the rapid economic expansion of the Mainland. Given the clear and probably irreversible direction of the Mainland towards liberalisation, the policy response in Hong Kong, in the circumstances, should strategically be aimed at addressing the asymmetry of factor mobility, through encouraging faster liberalisation.

In respect of the asymmetric mobility of people, as consumers and as investors, again the HKMA has no direct involvement, but the talk about a population policy, which must include arrangements for admitting investment immigrants, not necessarily just from the Mainland, is quite encouraging. So are the initiatives to facilitate the greater flow of tourists from the Mainland: they are, to judge from the recent figures, clearly having a beneficial effect on our economy.

In respect of the asymmetric mobility of capital, we in the HKMA do have a direct involvement, in trying to open up channels for the greater flow of capital from the Mainland and, crucially if these are to be successful, in also promoting robust arrangements to manage the associated risks. We have also paid attention (and this is more a strategic move in consolidating Hong Kong's status as the international financial centre of China than an initiative for relieving deflationary pressures) to the construction of the necessary financial infrastructure to support the greater flows that will surely come. We have put concrete proposals on the table. I am sure you are already aware of them. I await further developments.

I shall next week talk about the appropriateness of a macroeconomic policy response to deflation.

 

Joseph Yam

21 November 2002

 

Related Viewpoint Article:

Deflation (1): Causes, 14 November 2002

 

Click here for previous articles in this column.

 

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