Not so long ago, Hong Kong's position as a global financial center seemed unassailable. Fears that Shanghai would overtake the former British colony had proven to be premature. Although Beijing vowed in 2010 to develop Shanghai as a global financial center by 2020, financial reform on the mainland has lagged over the past decade. As long as China's capital account remains closed and the yuan's exchange rate controlled, Shanghai won't be a hub for non-domestic finance. 

Prior to the spring of 2019, political instability occasionally rocked Hong Kong, but the city always rebounded. For instance, once the 2014 Umbrella Movement (a series of pro-democracy protests) waned, the city swiftly returned to its normal routine. Hong Kong people were not pleased that Beijing would not permit them to directly elect their leaders, but they also appeared resigned to their fate.

Within just a few months, the situation has changed drastically. Anger about a proposed law - since suspended - that would have allowed extradition of criminal suspects from Hong Kong to the mainland has morphed into a mercurial anti-government protest movement, the largest since the Cultural Revolution roiled Hong Kong in the late 1960s. Amidst the tumult, Hong Kong's status as a global financial center, and the premier financial hub in Asia, is in jeopardy.

Protesters decry what they see as Beijing's encroachment on Hong Kong's way of life and the ensuing erosion of the city's most vital institutions, like the rule of law and freedom of expression. The intense standoff between the protesters and Hong Kong's police force is increasingly destructive. Street fights, vandalism and arson are now commonplace in a city that has long been considered one of Asia's safest.

Worryingly, the window for a detente is fast closing. Having formally withdrawn the extradition bill, Hong Kong chief executive Carrie Lam's government has very little additional leeway. The ruling Communist Party in Beijing has made known its opposition to significant concessions. For their part, the protesters have insisted that the Hong Kong government meet numerous demands, such as amnesty for all arrested prisoners, an independent inquiry into allegations of police brutality, withdrawal of the term "riot" to describe the protests, and universal suffrage for elections of the city's chief executive and legislators.

Beijing's patience with the protesters is waning. The Hong Kong and Macau Affairs Office (HKMAO), which represents the central government in Hong Kong, in early October decried the protests as a "Hong Kong-style color revolution." Yang Guang, the HKMAO's spokesman, said in a statement that "the current chaos in Hong Kong cannot continue indefinitely."

At the same time, by stealthily boosting troop levels in Hong Kong, Beijing has signaled that is prepared to forcefully put down the protests. There are now an estimated 10,000 to 12,000 troops in the territory, up from 3,000 to 5,000 before the protests began, analysts say.

Amidst the unrest in Hong Kong, Chinese President Xi Jinping visited Nepal in mid-October. "Anyone attempting to split China in any part of the country will end in crushed bodies and shattered bones," Xi told Nepalese Prime Minister K.P. Sharma Oli, according to Chinese state media.

Maintaining the status quo

Regardless of how Beijing eventually responds to the protests, in the short and medium term, Hong Kong will retain its status as a global financial center. One of the main reasons for that is that no other city in the region can compete with Hong Kong yet.

"Hong Kong houses the pivotal financial firms and financiers which manage the exchange of capital in Asia-Pacific, and between that region and the rest of the global economy," noted David Meyer, a professor at Washington University's Olin Business School, in an October South China Morning Post commentary. "That management originated in the late 19th century and has survived wars, revolutions and economic depressions."

Business-friendly, law-abiding Singapore, ranked highest in the word for order and security in the World Justice Project's 2019 Rule of Law Index, could one day overtake Hong Kong as Asia's premier financial center. Yet, to do so, it would need to reorient its focus to the overall Asia-Pacific region from Southeast Asia.

Tokyo has the largest stock exchange in Asia but almost all of its companies are Japanese. Meyer notes that the financial sector in Tokyo is overwhelmingly focused on business in Japan or that involving Japanese companies overseas. Foreign financial firms have not historically used Tokyo as a regional base.

At the same time, Hong Kong's capital markets will likely benefit from the decoupling of the U.S. and Chinese economies. Chinese firms have long turned to U.S. exchanges - the world's most liquid - for their global fundraising needs. Most famously, Chinese e-commerce giant Alibaba listed on the New York Stock Exchange in 2014, raising $25 billion in what was then the world's largest ever public offering. Data compiled by Bloomberg show that 173 Chinese firms valued at $758 billion have primary listings in the U.S.

Yet, as the Sino-U.S. trade war spills into the financial sector, Chinese firms are rethinking that approach. To date, Chinese firms have been able to list on U.S. exchanges without providing regulators with access to the working papers from their audits. Beijing classifies such information as "state secrets" and forbids cross-border transfers of auditors' findings.

U.S politicians and corporate governance proponents have long opposed making such an exception for Chinese firms, as it undermines U.S. capital markets' reputation for robust financial oversight. They point to the many cases of accounting fraud and other irregularities in Chinese firms listed on U.S. exchanges. Addressing those concerns, legislation proposed in June by a bipartisan group of U.S. lawmakers would require foreign firms listed on U.S. exchanges to accept comprehensive audits. If the legislation passes, Chinese firms who refuse full disclosure will be forced to delist from U.S. exchanges after a three-year grace period.

"No one would accept Goldman Sachs Group Inc. or Tesla Inc. being able to access U.S. capital markets without regulatory oversight. So it’s indefensible that Chinese companies listed on the Nasdaq or New York Stock Exchange enjoy this privilege," wrote Christopher Balding, an associate professor at Fulbright University Vietnam and expert on the Chinese economy, in an October Bloomberg commentary.

In late September, U.S. media reported that U.S. President Donald Trump’s administration might force Chinese firms to delist from U.S. stock exchanges, citing unnamed sources. The Trump administration has denied the reports.

"The delisting is not on the table. I don’t know where that came from,” Larry Kudlow, director of the National Economic Council, told reporters in Washington in October. 

Given uncertainty about the prospects of Chinese firms in U.S. capital markets, Hong Kong will likely benefit. Alibaba is reportedly planning a secondary listing in Hong Kong, seeking to raise up to US$20 billion, and waiting for the political tension in Hong Kong to ease before formally announcing its plans, analysts say. While Alibaba has no current plans to exit the NYSE, it would be handy to have that secondary listing in Hong Kong should the need ever arise.

An eventual decline

In the years ahead, provided that Chinese capital keeps flowing into the city, Hong Kong will not fade into obscurity. Yet, the political unrest of 2019 will have lasting repercussions on the city's reputation.

Firstly, the extradition law has threatened to undermine the independence of the Hong Kong judiciary, which is arguably the city's greatest strength as a center for global finance. Without the rule of law, Hong Kong is no different from a city on the mainland.

Regardless if the extradition law was the personal initiative of chief executive Carrie Lam or not, it manifested the possibility of the mainland legal system extending its jurisdiction into Hong Kong. That's why the normally pliant Hong Kong business community vehemently opposed the legislation. They worried that Beijing could order Hong Kong to hand over businesspeople it disliked to the mainland authorities. Businesspeople who run afoul of the Chinese Communist Party on the mainland are sometimes detained on trumped-up charges of financial crimes.

Although the law has been suspended, the damage has been done. As of mid-October, violent protests remain ongoing and rumors are swirling about the Hong Kong government preparing to declare martial law. It already enacted emergency powers to ban face masks, which protesters use to conceal their identities.

"Not sure why nobody has just come out and said this yet, but Hong Kong as an international business and financial center is no more," wrote Dan Harris, founder of the global law firm Harris Bricken, on The China Law Blog in August. Harris reckons that companies choosing between Singapore and Hong Kong for Asia headquarters will increasingly choose the Lion City, fewer contracts will be drafted with Hong Kong as the venue for arbitration and companies will eventually move personnel and bank accounts out of Hong Kong.

Goldman Sachs estimates that up to $4 billion in investment has moved from Hong Kong to Singapore since the start of the protests in June.

In two years, Harris expects the city to be "a very different place than it is today" and "hardly recognizable" as the Hong Kong most of us know within five years.

Harris's forecast is decidedly pessimistic. Yet, without a cataclysmic shock, it's hard to imagine the traditional financial sector making any bold moves to exit Hong Kong or reduce its exposure to the city. Entrenched retail banks, private banks, private-equity firms and hedge funds aren't going anywhere just yet. Nor are the law firms and consultancies that support them.

However, fintech firms, which will play a decisive role in shaping the future of banking, will think twice about basing their Asia-Pacific headquarters in Hong Kong. With comparably halcyon Singapore as an option, fintechs have little reason to base their regional headquarters in a hotbed of political unrest. To be sure, many will have a presence in Hong Kong, but the city will not be crucial to their operations in the way it is to traditional financial firms.

For fintechs, Singapore has the added bonus of proximity to Southeast Asia, where digital banking is booming. While China restricts foreign investment in its fintech companies - rendering Hong Kong of little use as a gateway to the mainland fintech market - Indonesia, Vietnam, the Philippines, Thailand, Cambodia and Myanmar are relatively open by comparison.