BIG IDEA | ‘The United States’ inability to make China regret—much less reverse—its transgressions in Hong Kong suggests that financial separation, sanctions, and economic barriers are less reliable tools than many in Washington believe.’

‘Foreign governments have few tools to specifically punish China for its broken promises to Hong Kong without simultaneously hurting their own national interests and damaging the livelihoods of innocent bystanders in the territory.’

• ‘The way things are playing out in Hong Kong demonstrates just how hard it will be for Washington and its partners to carry out a comprehensive “strategic competition” with China.’

‘The contradiction in Hong Kong’s political and economic circumstances reflects the fact that politics only narrowly affects the core incentives that guide financial and business decisions.’

• ‘The gravitational pull of large economies is a powerful force—maybe even strong enough to resist the growing antagonism between China and the West.

‘There is little doubt that the political risk of doing business in Hong Kong is higher now than it was several years ago.’

• ‘Recent surveys of foreign business organizations in Hong Kong show that perhaps one-third of companies that do business there but are headquartered in countries belonging to the G-7 are contemplating a reduction in personnel or operations, mostly because of concerns raised by the new National Security Law, which has dramatically changed previous perceptions of the city as a freewheeling and cosmopolitan business center.’
• ‘But to date, concerns about the rule of law have not prompted much downsizing by other major foreign firms, which seem to believe that Hong Kong’s core legal traditions, as applied to commercial law, remain for the most part unchanged.’

‘And there is no practical way to make financial sanctions Hong Kong–specific: any actions against a major Chinese bank would quickly escalate into a full-scale attack on China’s financial system.’

• ‘Such an attack, therefore, would lead to global financial instability, lost national savings for the United States, and redoubled Chinese efforts to create an alternative to the dollar-dominated SWIFT payments system.’
• ‘All of those developments would significantly damage the U.S. economy.’

‘Take, for example, the Hong Kong Autonomy Act, which the U.S. Congress passed in 2020, authorizes the U.S. Treasury Department to levy punishments against Chinese banks that do business with Chinese officials who have been tagged in a special State Department report for harming Hong Kong’s autonomy.’

• ‘To date, however, Treasury has not punished any banks under the act.’
• ‘One reason is that the banks that might have been targeted have unwound their relationships with problematic individuals.’

‘But Treasury also knows that slapping sanctions on major Chinese banks could trigger significant instability in the international payments system, by interrupting the huge volume of financial transactions between the world’s two largest economies.’

• ‘That would in turn harmS. financial markets and the perceived reliability of the U.S.-centric global payments system.’

‘The Hong Kong paradox presents a dilemma for Western governments that would prefer the city’s fate to be more of a cautionary tale than a success story.’

• ‘The uncomfortable truth is that Hong Kong, despite the hollowing out of its democratic system, remains tremendously useful to the United States and other Western powers, and its continued success as a financial market and economic gateway to China remains important for the global economy.’

‘The situation in Hong Kong usefully illustrates the practical limits of pursuing economic separation to support geopolitical competition.’

• ‘The United States’ inability to make China regret—much less reverse—its transgressions in Hong Kong suggests that financial separation, sanctions, and economic barriers are less reliable tools than many in Washington believe.’
• ‘Washington and its partners should lower their expectations and abandon the illusion that the right mixture of punishments will prompt a reversal in Chinese policy.’