HK's future

HK really has to think hard to find its right place in a more open China, instead of waiting for Beijing’s implicit subsidies. Otherwise it would lose its future pretty quickly. The 20 some percent high school graduates entering college is extremely low and the 20% poverty rate is extremely high. The future might move past HK pretty quickly.

But the tycoons do not care, as long as they can keep paying no taxes on capital gains, from which they draw most of their income, while charging high prices on everything in HK, from which they make a lot of money.

• HEARD ON THE STREET
• Updated April 11, 2012, 12:02 p.m. ET

China Gets in the Zone for Luxury

By LAURIE BURKITT And TOM ORLIK

China's government departments are locked in a battle over whether to cut the country's luxury tax.

The Ministry of Commerce wants to drop a roughly 30% tax that drives shoppers to Hong Kong and Paris to buy their Prada handbags and Chanel sunglasses. The Ministry of Finance is suspicious of a plan that threatens to lower tax revenue. The outcome could be a boon for the luxury brands themselves.

One possible compromise is the creation of special luxury zones— urban centers where the normal high taxes are lowered. If that plan gets off the drawing board, the big loser would be Hong Kong, where mainland shoppers arrive in droves to take advantage of zero luxury taxes. Around 28.1 million arrivals from China made up more than two-thirds of the visitors last year.

Inbound visitors spent about 253 billion Hong Kong dollars (US$32.6 billion) in 2011, equivalent to 13.4% of gross domestic product. Queues of mainland shoppers outside Hong Kong's most expensive stores testify that a big chunk of that spending is from luxury tourism.

As a style center and shopping hub, Hong Kong is akin to China's New York. But losing its price advantage over mainland cities would hurt its retail sector. A downturn in luxury shopping trips from the mainland could have a meaningful impact on hotels and airlines as well.

The big winners would be the luxury companies. To be sure, the big brands have already established networks of stores in China, so a change in the tax regime wouldn't necessarily make luxury goods physically more accessible for Chinese consumers. Aaron Fischer, luxury expert at CLSA, downplays the impact of relaxing the tax laws. Chinese demand for luxury goods hit $46.9 billion last year, of which $27.1 billion was spent abroad; the main impact of lowering taxes or creating luxury zones would be to drag some offshore sales onshore, Mr. Fischer argues.

Still, the creation of luxury zones on the mainland would bring luxury goods closer to home for parts of China's rising middle class that don't want the hassle and expense of a trip to Hong Kong. More importantly, lowering the taxes gives the luxury houses an enviable choice for ratcheting up the profitability of their mainland businesses. They can lower prices and generate more volume or keep prices high and reap higher margins. Either way, they win.

 

Write to Laurie Burkitt at laurie.burkitt@wsj.com and Tom Orlik at Thomas.orlik@wsj.com