After weeks of massive protests, the Hong Kong government (called Legislative Council, or LegCo in short), led by Carrie Lam, felt obliged to shelve a bill that would allow extraditions from the city to mainland China, be they Hong Kong residents or foreigners. In 1997, when Hong Kong was handed over to China under the now famous “one country, two systems” framework, the law excluded extradition to China (and Taiwan) because its courts were deemed not to be fair and impartial, instead being under guidance of the communist party. Protesters dodged rubber bullets, tear gas and heavy beating by police to get their point across. Though Ms. Lam shelved the bill, she did not withdraw it (although later she did say that “the bill is dead”), triggering further protests that also called for her resignation. Unfortunately, a small group, carrying the Union Jack (a grave insult to China’s leadership), ransacked the LegCo building (seemingly allowed by the authorities as police was mysteriously absent to prevent the break-in), thereby possibly alienating the majority of peaceful demonstrators and providing China a context to frame the protests as one of a small violent mob (“ultra-radicals”) whipped up by Western ideas. Sadly, three of the protesters committed suicide thereafter in the belief that they would end up in prisons in the mainland.

Where is the party…?

The demonstrators’ concerns are real. Under Xi Jinping many of his (political) opponents have been eliminated through the courts based on trumped up charges. Indeed, in an article in the Qiushi Journal (the main theoretical mouthpiece of the party) in February of this year, he stressed the importance of the party’s leadership over China’s legal system and openly rejected judicial independence. It is likely that Ms. Lam was instructed to get the bill through LegCo in order to allow China to exert greater control over insubordinate activists (Ms. Lam denies this). Mr. Xi is not known for his kindness to people with opposing views, especially if it relates to human- and civil-rights. Hong Kong’s citizens want to protect their democratic rights, even if these rights have been eroded since Mr. Xi came to power. For example, a discord about the election process of LegCo’s chief executive led to the “umbrella” protests in 2014 as citizens felt these elections neither to be free nor fair (they were only allowed to elect a pre-screened loyalist to the communist party). The planned extradition bill awakened Hong Kong’s democratic spirits to challenge Mr. Xi’s authoritarian one-party state philosophy.

In itself it is puzzling why the authorities pushed the bill in the first place and did not wait a bit longer until 2047 when the territory would fall under Beijing’s full control (and same arbitrary laws) as they already have been waiting since the 19th century for that event to occur. The extradition bill brings only a few minor benefits to the Chinese which probably could be achieved in other, less contentious, ways as well. In any case, Chinese agents are perfectly capable of bringing people from Hong Kong territory to mainland courts if China’s leaders wish to do so. In 2017, for example, Xiao Jianhua, a tycoon with mainland business interests, was abducted from Hong Kong’s prestigious Four Seasons hotel where he was residing. Likewise, leaders of the peaceful umbrella protests in 2014 ended up in jail for causing “excessive inconvenience and suffering”, most likely at the express instigation of Chinese authorities.

Hong Kong’s BFF…

The developments in Hong Kong are keenly followed in Taiwan, which is offered the same “one country, two systems” framework by China. The clumsy way in how China wants to impose its will on Hong Kongers presents a tailwind for president Tsai Ing-wen of the pro-independence Democratic Progressive Party. Ms. Tsai is facing elections in January 2020 and, as usual, the one-China principle features heavily in the campaign. In Taipei, rallies in solidarity with Hong Kong were organized and Ms. Tsai spoke of support for Hong Kong’s protesters. The mainland-friendly Kuomintang’s unification agenda looks suddenly less appealing to most Taiwanese. So, Mr. Xi seems to have scored an own goal.

Even when the current protests fizzle out (as is likely, in our view), we certainly will witness new protests in Hong Kong (and these protests should remain peaceful in order to be effective) in the coming years, for example when Carrie Lam’s term expires in 2022 (or resigns) and a successor is elected (or, rather, anointed by Mr. Xi). Most Hong Kongers will resist new attempts by China to trample on their democratic rights. However, it is also inevitable that China will not tolerate a challenge to its authority and, if required, is likely to use force (again) to get its way.

We don’t think the West can do much about the situation in Hong Kong. First, because Hong Kong is not as important to China as it was in 1997 when China did not have access to WTO and its economy still had to lift off. Second, because the agreement between Britain and China will expire in 2047 anyway at which time China can enforce its own, arbitrary, rule of law based on party ideology. Obviously, Western leaders should tell China in diplomatic terms to respect the Sino-British Joint Declaration, which was registered by both countries at the UN in 1985, and the subsequent Hong Kong Basic Law based on that declaration. The U.S. could revoke privileges granted to Hong Kong or impose sanctions (a favourite tool of its manically tweeting president), but this would hurt the very people that fight for democratic rights and, thus, seems rather inefficient to us. The strongest pressure on China could be exerted by international investors as China is opening up its capital markets to foreigners to finance future current account deficits whereas index providers include or plan to include China’s local bond markets to their benchmarks. Investors should consider to set country portfolio weights based on the degree to which basic democratic rights are adhered to, for example by using the democracy index compiled by EIU. J.P. Morgan already publishes ESG-adjusted indices (with the catchy JESG label) for benchmark huggers. However, the likelihood that investors will punish countries for poor governance and absence of basic rights is very low as money talks whilst ethics walks.

Although we would like to think differently and encourage Hong Kongers to carry on with peaceful protests, the odds are that Hong Kong eventually will lose its democratic rights, with or without Carrie Lam…