*EPF416 04/11/2002
Text: Klosson Says "One Country, Two Systems" Works for Hong Kong
(U.S. Consul General Klosson's remarks in Seattle April 9) (4790)

China's "One Country, Two Systems" policy has, for the most part, worked well for Hong Kong, says U.S. Consul General Michael Klosson.

"The worst fears of the pessimists -- those who predicted Chinese sovereignty would mean an early end to Hong Kong as an international city -- have not materialized," Klosson told the Washington State China Relations Council during an April 9 speech in Seattle.

"With some exceptions noted in the State Department's annual reports to Congress, China has generally kept its fundamental promise to respect Hong Kong's autonomy," he said. "The Hong Kong people have responded to this experience with more positive attitudes towards China -- in some cases giving Chinese leaders higher approval ratings than they give their own leaders in Hong Kong. Moreover, the Hong Kong community has stood up for its freedoms and the rule of law, values fundamental to its prosperity and stability, which also set Hong Kong apart from other cities in China."

Great Britain returned its colony to China in 1997, and China made it a "special administration region" (SAR) for a duration of 50 years. Five years into the arrangement, the development of Hong Kong's "One Country, Two Systems" "is still very much a work in progress," Klosson said. Klosson stressed the importance of maintaining "the balance inherent in the arrangement," noting that the United States has "a significant stake in Hong Kong's autonomy and distinctiveness."

Hong Kong is America's 13th largest export market and 15th largest trading partner, Klosson said. The U.S. trade surplus with Hong Kong was $4.2 billion ($4,200 million) in 2001. Approximately 1,100 American companies have set up shop in Hong Kong. The United States has $23.3 billion ($23,300 million) dollars worth of direct investment in Hong Kong, and much more in funds and portfolios.

Hong Kong is expected to remain an important platform for U.S. business operating in the region, according to Klosson. The latest Business Outlook Survey released last December by the American Chamber of Commerce in Hong Kong shows "a high level of confidence" among Chamber members in Hong Kong's medium to long-term economic future, he said.

"Among the AmCham member companies with regional headquarters in Hong Kong, 82 percent plan to maintain their operations in the SAR, with 25 percent intending to expand their operations," Klosson noted. "For the year 2001, moreover, the Consulate General in Hong Kong provided on a per capita basis the highest number of American business matchmaking services of any U.S. diplomatic mission in East Asia."

The challenge facing Hong Kong, according to Klosson, is finding a way to balance interdependence with and autonomy from the mainland "without diluting its core values and without giving rise to international perceptions that Hong Kong has become just another city in China."

"If Hong Kong is to continue to prosper," Klosson said, "it will do so ... because it preserves its rule of law, its religious freedom, its free flow of information, its level playing field for foreign investment -- and hopefully moves towards a more fully democratic system of government."

Following is the text of Klosson's remarks, as prepared for delivery:

(begin text)

'97 + 5 = 2002: Hong Kong and the United States
Five Years after the Handover

Remarks by U.S. Consul General Michael Klosson
To the Washington State China Relations Council, Seattle, Washington
April 9, 2002

(As prepared for delivery)

I appreciate your invitation to speak today to the Washington State China Relations Council. Private organizations such as yours that promote business ties and educational and cultural relations between the United States and China are an important element in the overall relationship. Official government-to-government relations between the two countries have been prone to ups and downs over the years, but the growing web of personal and business relationships has been a steadying force which promotes greater understanding and commerce. The fact that your organization represents over 160 companies attests to the value of the trade support and information you provide. I hope I can add to your understanding of the small part of China I'm most familiar with -- Hong Kong.

It's hard to believe that nearly five years have passed since the Union Jack was lowered in Hong Kong and the five-star flag of the People's Republic of China was raised, alongside the bauhinia-flower flag of the Hong Kong Special Administrative Region. What has happened over the course of the past five years is significant, both for what it says about Hong Kong and what it says about China. And with China's recent entry into the World Trade Organization, the developments over the next five years promise to be no less significant. I'd like to review with you today the course of Hong Kong's transition, take a look at some of the factors that will shape its future evolution and discuss continued U.S. interest in what remains a unique "work in progress."

As you all know, five years ago China set out to put into practice something that had never been tried before -- to incorporate under its sovereignty an entity with a different political and economic system, a different legal foundation and a different concept of individual rights and the freedoms of its citizens. So skepticism overseas is entirely understandable.

The Chinese describe the novel arrangement as "One Country, Two Systems." This four-word phrase was originally coined by Deng Xiaoping to describe the system under which the PRC might someday exercise sovereignty over Taiwan, but it came to be the name for Hong Kong's unique, highly autonomous structure, which is ensured for fifty years after reversion. Five years ago, this "One Country, Two Systems" arrangement was just a bare-bones outline described in the Sino-British Joint Declaration and the Basic Law, Hong Kong's mini-constitution. Today it is a living reality, constructed bit by bit through the accumulation of all of the decisions, actions and events of the past five years.

For those of us who live in Hong Kong, we experience the concrete reality of this novel arrangement in our daily lives. When I flew out of Hong Kong International Airport a couple of days ago, my passport was stamped by an officer of the Hong Kong Immigration Department, not by the PRC border police. The newsstand at the airport offered a wide variety of Hong Kong publications -- newspapers offering uncensored news, along with political commentary and critical opinions. If I bought one of those papers -- using Hong Kong dollars and not Chinese renminbi -- there could have easily been an article about the latest protest by the Falun Gong, a spiritual movement that is banned on the mainland but still allowed to practice and assemble peacefully in Hong Kong. If I turned on a short-wave radio, I might have heard Chinese labor activist Han Dongfang broadcasting his message freely from Hong Kong into China on Radio Free Asia. For Chinese human rights activist Lu Siqing, Hong Kong's special status means he can run his Information Center on Human Rights in China from a tiny office in Hong Kong, his rights protected by Hong Kong's independent legal system. Indeed, politically sensitive activities such as these provide one of the most credible expressions of Hong Kong's distinctiveness and constitute one litmus test of the integrity of its new status.

Over the past five years, "One Country, Two Systems" has gained strength through the decisions of Hong Kong's Independent Commission against Corruption, which has gone after wrongdoing by all companies operating in the SAR, including mainland companies there. It has been bolstered by the actions of Hong Kong Customs, which applied Hong Kong's laws and regulations and impounded a shipment of military equipment transiting Hong Kong when the mainland shipper failed to follow the proper export control procedures.

Hong Kong people pay not a penny of tax to mainland authorities. Hong Kong's public finances are completely separate from the PRC, and the modest taxes that Hong Kong residents pay go to support local infrastructure and administration. The day-to-day management of Hong Kong is entirely in the hands of Hong Kong people.

On the international stage, Hong Kong's autonomous personality is also reinforced when it speaks with its own voice in organizations in which it holds separate membership, such as the WTO, APEC and the World Customs Organization. It has even played a leadership role through its chairmanship this year of the Financial Action Task Force, a key component in the global campaign to combat terrorist financing and money laundering.

On the other hand, some events since 1997 have raised concerns. For example, two years ago a senior PRC official based in Hong Kong publicly exhorted the local news media not to report the views of Taiwan independence advocates as "normal news," and another said that Hong Kong firms should not trade with certain Taiwan firms that are perceived as supporting Taiwan independence. While the Falun Gong remains legal and free to practice in Hong Kong, the group has been criticized by PRC and Hong Kong officials; it has also found it difficult to rent facilities for public meetings. And in the recent selection process for the second-term Chief Executive, pro-democracy opposition politicians, who decided not to compete, criticized Beijing's early expressions of support for the incumbent as discouraging other candidates from entering the process. More complications are likely to come, for example, as Hong Kong proceeds at some future time to enact legislation against subversion and sedition, which is mandated by its mini-constitution, the Basic Law, but which human rights supporters fear could become a device to limit discussion or activities deemed sensitive to the mainland.

Nevertheless, the overall picture is indeed a positive one. The worst fears of the pessimists -- those who predicted Chinese sovereignty would mean an early end to Hong Kong as an international city -- have not materialized. With some exceptions noted in the State Department's annual reports to Congress, China has generally kept its fundamental promise to respect Hong Kong's autonomy. The Hong Kong people have responded to this experience with more positive attitudes towards China -- in some cases giving Chinese leaders higher approval ratings than they give their own leaders in Hong Kong. Moreover, the Hong Kong community has stood up for its freedoms and the rule of law, values fundamental to its prosperity and stability, which also set Hong Kong apart from other cities in China.

Only five years into a fifty-year arrangement, however, the development of Hong Kong's "One Country, Two Systems" arrangement is still very much a work in progress. It bears continued watching, since the United States has a significant stake in Hong Kong's autonomy and distinctiveness. It is important that the balance inherent in the arrangement -- "One Country, Two Systems" -- be maintained.

While dealing with this political transition, Hong Kong's leaders have also had to navigate two separate economic challenges since 1997. The first came with the Asian financial crisis, which brought a sharp downturn in regional trade, the bursting of Hong Kong's real estate bubble and a plunge in the stock market. Fortunately, unlike some of its Asian neighbors, Hong Kong's financial stability was never in doubt. Its banks are well regulated, the government's finances are sound, and it could rely on large fiscal and foreign currency reserves. However, because Hong Kong's economy is so dependent on Asian trade, when the region's economy collapsed in 1997-98, Hong Kong was inevitably pulled downward. The result was the first recession in a generation and a sharp blow to the confidence and sense of possibility that for so long characterized the Hong Kong business community.

The Hong Kong economy bounced back in late 1999, and enjoyed one of the world's fastest growth rates during 2000, though the benefits of this recovery were spread unevenly and many Hong Kongers did not see improvement in their economic situation. To a greater degree than any place else, Hong Kong's prosperity depends on trade between China and the West -- and in particular, the United States. Hong Kong is the world capital of the toy business, for instance, so if Christmas sales are off in American shopping malls, Hong Kong exporters feel the pinch. Hong Kong is also a key player in consumer categories like apparel, home electronics and holiday accessories. When the U.S. economy ground to a halt last year, it didn't take long for the effect to be felt on Hong Kong's loading docks and on the balance sheets of its trading companies. Those effects aggravated the deflationary pressures Hong Kong has been experiencing for over three years stemming from its growing cross-border interaction with the Pearl River Delta area.

The Hong Kong downturn became even more pronounced after the September 11 terrorist attacks, when nervous buyers started canceling orders, the air travel system was disrupted, and U.S. tourists and business travelers postponed their plans. Thankfully, the U.S. downturn appears to be behind us, and my friends in the export business are reporting increased orders as the U.S. market comes back. However, 2001 was a tough year for Hong Kong and it only narrowly averted its second round of economic contraction since the hand-over. Financial worries, especially for the government, have extended into this year, and the latest budget envisions a cut in civil service salaries.

For Hong Kong traders and business people, one of the few real bright spots in 2001 was China's final accession to the WTO. When the China market first started to open in the early 1980s, Hong Kong investors were some of the first through the door. In the process, they helped build China's Pearl River Delta into a powerhouse of assembly and export-oriented manufacturing. Today, Hong Kong's economic influence penetrates deep into southern China, with some 50,000 Hong Kong companies employing some six million mainland workers. Despite the advent of American and European competitors, Hong Kong still accounts for nearly half of outside investment in China and still accounts for more than 40% of China's foreign trade.

The initial announcement of a deal on China's WTO accession sparked concern that Hong Kong would lose its traditional role as the gateway of choice to the mainland. In some ways, it has worsened a confidence problem arising from economic difficulties and compounded by the political transition. There has been considerable hand wringing -- often expressed in terms of fears that Shanghai will soon displace Hong Kong. At this stage, the overwhelming consensus of the forward-thinking Hong Kong bankers, business people and analysts I speak with is that China's WTO accession poses challenges, but will ultimately be good overall for Hong Kong. Indeed, Hong Kong's Trade and Industry Department estimates that by 2010 Hong Kong's Gross Domestic Product will rise by an additional 5 1/2 percent as a result of China's WTO entry. Nor does China's accession alter the fundamentals -- the rule of law, free flow of information, level playing field -- that make Hong Kong attractive to the international community as a venue for regional headquarters and a platform for accessing the mainland.

Just as Hong Kong companies were the first to seize the opportunity of China's economic opening in the early 1980s, Hong Kongers now hope to take advantage of their geographic proximity and linguistic and cultural affinity with the mainland to ride the wave of China's WTO-led economic growth. Though their task will not be easy -- and Hong Kong business will have to adapt with steps up the value-added chain -- these people recognize that Hong Kong has no choice but to respond to the new economic reality created by China's WTO accession.

We believe that Hong Kong will remain an important platform for U.S. business operating in the region. An exhaustive study by a Hong Kong University academic that drew on responses from over 1,000 companies, for example, found that Hong Kong has a dominant position as a regional business center. Thirty-five percent of the companies have put their Asian regional headquarters in Hong Kong, more than any other location, and over half of these operations have responsibilities that extend beyond China and Taiwan to Japan and even as far afield as Australia.

Consider also findings from the latest Business Outlook Survey released last December by the American Chamber of Commerce in Hong Kong. It shows a high level of confidence among Chamber members in Hong Kong's medium to long-term economic future. Although survey respondents are somewhat pessimistic regarding the rest of 2002, 78 percent anticipate a "good" or "satisfactory" economic outlook for 2003, and even more -- 93 percent -- are similarly optimistic about 2004. Among the AmCham member companies with regional headquarters in Hong Kong, 82 percent plan to maintain their operations in the SAR, with 25 percent intending to expand their operations. For the year 2001, moreover, the Consulate General in Hong Kong provided on a per capita basis the highest number of American business matchmaking services of any U.S. diplomatic mission in East Asia. So, I think that these numbers show that U.S. companies retain a strong commercial interest in Hong Kong and for the most part are not investing in the mainland at the expense of their operations in Hong Kong.

Hong Kong's attractiveness to U.S. companies is based on the factors that have traditionally made Hong Kong an economic success -- its free-market philosophy, entrepreneurial drive, absence of trade barriers, well-established rule of law, low and predictable taxes, transparent regulations, free flow of information, level playing field and complete freedom of capital movement. Five years after the hand-over, these factors remain strong.

Geographic proximity combined with cultural and linguistic ties, especially to the Pearl River Delta in neighboring Guangdong Province, means that Hong Kong traders and distributors are uniquely positioned to help American businesses access the burgeoning China market. China is Hong Kong's largest trading partner, and Hong Kong is the principal transshipment point for mainland Chinese exports.

Although the focus these days is on the China factor, Hong Kong itself remains a place where the United States has important economic interests at stake. The SAR is our 13th largest export market, and our 15th largest trading partner, and the U.S. trade surplus with Hong Kong was $4.2 billion in 2001. Approximately 1,100 American companies have set up shop in Hong Kong. The U.S. has $23.3 billion dollars worth of direct investment in Hong Kong, and much more in funds and portfolios. With the second highest per capita income in Asia, Hong Kong offers good opportunities for U.S. exporters and service companies. Telecommunications products and services are a promising area as the SAR continues to liberalize its telecommunications market. Interest in computers and other information technology products should also grow over the next few years as Hong Kong companies find ways to use high technology to do better the things they've always done. Hong Kong is also paying significant attention to its environmental problems, so demand for pollution control and monitoring equipment, along with a range of scientific equipment, should continue to be high. Increasing consumer sophistication is also leading to growth in areas such as cosmetics, insurance services, medical equipment and franchising.

At the Consulate General, we put a lot of effort into promoting U.S. business in Hong Kong. In 2001, the Consulate's Commercial Section arranged business matchmaking services in Hong Kong for over 70 American companies, typically providing each company with six to eight meetings. Our commercial consuls offer a range of services that include matchmaking, market research, company profiles, business counseling, assistance with trade disputes and detailed market briefings.

But our interests in Hong Kong go far beyond the economic sphere. About 50,000 Americans live in the city, and many Hong Kong residents have personal ties to the United States. About 10,000 Hong Kong students are studying in the United States. We have had a Fulbright program with Hong Kong for over fifty years that has brought 180 American academics to Hong Kong. Just this year, the U.S. Consulate General teamed with the Hong Kong's Research Grants Council to inaugurate the Fulbright Hong Kong Scholar program, which will ensure a more regular two-way flow by sending 4 local academics to the U.S.this year.

We have long enjoyed close cooperation with Hong Kong's professional law enforcement agencies. The importance of this cooperation was never more evident than in the aftermath of September 11 when Hong Kong readily answered the call of the international campaign against terrorism. Immediately following the attacks, there was a huge outpouring of sympathy in Hong Kong and widespread recognition that those were attacks not just on Americans but on values we held in common. Hong Kong swiftly took measures to protect the safety of local Americans. Chief Executive Tung affirmed Hong Kong's total opposition to terrorism in any form. Together with 150 other jurisdictions, Hong Kong has directed its own financial regulatory system to ensure that it does not become a platform for terrorist financing. The Government is moving forward on legislation that will implement UN resolutions directed against terrorism financing, and a senior Hong Kong official is chairing the international Financial Action Task Force's efforts to cut off terrorist financing around the globe.

Although the United States and Hong Kong see eye-to-eye on many -- perhaps most -- major issues, there are some areas where there is plenty to talk about when we get together. In the area of civil aviation, for example, we are working hard for a more liberal air services agreement that would enhance competition, expand cargo and passenger flights, and benefit both business and consumers in Hong Kong and the U.S. Hong Kong's ability to capitalize on the mainland's growth depends in part on the strength of its international connections, especially via Chek Lap Kok airport. Successful conclusion of these negotiations could thus expand those connections, secure Hong Kong's position as a regional cargo hub, and boost its economy. Unlike many of our other East Asian partners, however, Hong Kong has so far taken a more restrictive approach. It remains to be seen whether we will be able to achieve the kind of win-win agreement we are looking for that comes from extensive liberalization.

Another area of interest in our bilateral relationship with Hong Kong is the protection of intellectual property rights. Here I'm pleased to report genuine progress over the past five years. Hong Kong has become the regional pacesetter for sound legislation and tough IPR enforcement. The government's crackdown on the manufacture and sale of pirated CDs and software has transformed Hong Kong into a regional model that the Office of the U.S. Trade Representative now cites regularly to others in Asia.

We also keep a close eye on Hong Kong's system to control the export of sensitive technologies, and we hold regular talks with the Hong Kong authorities. Based on the most recent set of talks that took place in March, Hong Kong continues to maintain an effective and transparent export control system.

So that's the look backwards. What lies ahead? The next five years will see more challenges for Hong Kong, both political and economic.

One has to do with governance. Hong Kong's governing structure was established more than a decade ago and served Hong Kong well in ensuring a smooth transition. But in the years since the Sino-British Joint Declaration and Basic Law were drafted, popular expectations have increased, pluralistic politics have emerged and experience has shown the need to look at the issue of governmental accountability. In response, the Chief Executive has pledged strengthened governance in his second term and is proceeding to implement a new political appointment scheme at the top level of government. While this scheme could strengthen the government's ability to tap community sentiment and press forward a coherent agenda, it is not clear how this institutional reform relates to the gradual expansion of democracy provided by the Basic Law.

On the economic front, in addition to the Asian financial crisis and more recent downturn, Hong Kong's economy is also now undergoing structural changes caused by the inexorable pressures of globalization, intensified competition, and deflationary pressures from its cross-border interaction with the mainland. As in the United States, managers are discovering their jobs are no longer secure, workers are finding they must upgrade their skills, and those without higher education or technical abilities are having increasing difficulty landing well-paying positions. So economic reform and educational reform -- to better equip workers for the knowledge-intensive economy of the 21st century -- are pressing priorities.

Reacting to China's continued economic growth while Hong Kong's economy has stalled, Hong Kong business are now pressing the government to further streamline traffic across the busy Hong Kong-mainland border, lower other barriers to trade, better coordinate infrastructure development on both sides of the border and find other ways to capitalize on China's new economic openness. Such steps are understandable as Hong Kong seeks to tap even further its hinterland on the mainland as a new source of economic growth. Some of these initiatives, however, will take Hong Kong -- and the "One Country, Two Systems" relationship -- into new territory. For instance, a proposal to speed border crossings by placing Hong Kong and mainland customs and immigration officials under one roof will raise hard questions about jurisdiction and the relationship between the two separate legal systems. Such issues will require careful handling because they could have a crucial impact on the "One Country, Two Systems" relationship and the kind of place Hong Kong becomes.

Similar issues surround Hong Kong's recent proposal for a free trade pact with mainland China -- what they've labeled a Closer Economic Partnership Arrangement, or CEPA. Against the backdrop of the current economic downturn, Hong Kong officials hope they can use a CEPA deal to enable Hong Kong companies to enter the China market before the rest of the world, thereby giving them a crucial edge in the race to take advantage of new market opportunities arising from China's WTO accession.

Here too, Hong Kong is venturing onto new ground. The two sides have made it clear that Hong Kong will retain its separate economic identity and that whatever deal they strike will comply with WTO rules for such agreements. In fact, some have even suggested that the NAFTA is a good template for Hong Kong's negotiations with China. But the negotiating process will not be easy. Take for example, the issue of how to define a "Hong Kong company." Some voices in the business community have called for a restrictive definition to ease PRC fears that CEPA would open up a backdoor for companies from around the world to enter China ahead of WTO-agreed transition schedules. Hong Kong officials, however, have made clear that a narrow definition based on residency or nationality of shareholders would be inconsistent with GATS. The issue remains open and we are watching closely.

These two issues -- border streamlining and the China free trade negotiations -- point to the fundamental dilemma that Hong Kong now faces: How to strike the proper balance between deeper economic interdependence with China and maintaining Hong Kong's political, cultural and economic distinctiveness. All sides agree that whatever form this deeper economic interaction takes must fit within the framework of the "One Country, Two Systems" relationship. But "One Country, Two Systems" is a work in progress -- with no clear roadmap as to how the arrangement should adapt to a changing China.

The challenge for Hong Kong is to accomplish this balancing act between interdependence and autonomy without diluting its core values and without giving rise to international perceptions that Hong Kong has become just another city in China. In this regard, it's important to remember what makes Hong Kong special, what makes it a model of how free societies and free markets work and a window on China's hopeful future. If Hong Kong is to continue to prosper, it will do so not just because it happens to sit at the mouth of the Pearl River Delta, but because it preserves its rule of law, its religious freedom, its free flow of information, its level playing field for foreign investment -- and hopefully moves towards a more fully democratic system of government.

Against this background, it's encouraging to see the Hong Kong government's new moniker of "Asia's World City." Hong Kong's future, as this slogan reminds us, lies not just in its role as the richest city in China. Hong Kong aspires to be something more -- the most globalized city in Asia, and a city where the principles of economic and political freedom are just as much part of life as icons like the Star Ferry and I.M. Pei's soaring Bank of China building.

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(Distributed by the Office of International Information Programs, U.S. Department of State. Web site: http://usinfo.state.gov)

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