TNAG-1167-FCO40-1447-Future-of-Hong-Kong-1982 — Page 48

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FUTURE OF HONG KONG.

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1. I read your minute of February 3 to Mr Jay with interest. Perhaps it would be helpful, at this point, if I try to draw some preliminary conclusions from our useful exchange.

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2. With different shades of emphasis we are both agreed that the financial situation in Hong Kong is fragile and that a loss of business confidence would pose extremely serious problems for the UK. Your point about growing public concern and the expectation of an early deal is indeed well taken, and I share your view that the Prime Minister should have a flexible brief this autumn to allow as much substance on Hong Kong to be discussed as the Chinese will permit. It will be difficult, on the lease negotiations, to strike a balance between pressing for movement and avoiding a rebuff which might contribute to a decline in confidence in Hong Kong. In Hong Kong itself it will be important for the UK to foster an appearance of, movement, while simultaneously ensuring that expectations are not raised too high. My fear is that it may take some distress signals from the financial markets before China recognises that an early settlement is in its own interest.

3. My remaining area of concern is how, if at all, a slide in confidence could be handled. Despite the lease problem, Hong Kong's economy is still performing remarkably well, compared with much of the rest of the world. Given this relative strength, does it follow that a slide in confidence in, say, the next two or three years need inevitably be uncontrollable? Certainly the risk of things getting out of hand would be high and will grow higher with time in the absence of progress on the lease. We should also bear in mind that Hong Kong's importance as an international financial centre is such that a slide in confidence would have serious implications for the international financial system. But this surely reinforces the case for contingency planning, both in and outside Hong Kong. Can we really afford to take the view (paragraph 6 of your minute) that contingency plans are bound to be ineffective? Would it be worth asking our people for views on how well equipped the Hong Kong government is to cope with the financial and political consequences of a slide in business confidence? After seeing the response, we might consider whether an exchange of views with the Bank of England would be of value.

26 February 1982

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C LG Mallaby Planning Staff W11 233 4333

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