Two months ago, there was concern that Hong Kong was overheating. Now, a technical recession – defined by two consecutive quarters of negative real GDP growth, QoQ – is suddenly on the cards (Hong Kong’s GDP in 2Q contracted by 0.5% on a sequential basis). For the typical Hong Konger, this is against intuition. Take a stroll along the streets of Tsim Sha Tsui and one will understand why. Hong Kong’s retail sales numbers were very resilient in July, increasing 29.1% in value terms and 22.4% in volume terms, beating market expectations. This buoyancy is expected to continue in August and September, meaning that private consumption is likely to garner strong growth on the year in 3Q. Unfortunately, it is exports that are casting a pall over the economy.

Exports-to-real GDP was typically more than 200%, so a small deterioration in exports can knock many points off GDP growth. The fact that more than 20% of exports are directed to USA and EU does not augur well for Hong Kong. At the end of August, the IMF notched down growth forecasts for the US and EU to 1.6% and 1.9% respectively, from 2.5% and 2.0% for 2011. Indeed, exports to the USA have contributed negatively to export growth on the year for three consecutive months already.

As gloomy growth prospects steal the spotlight, inflation seems to be able to take a backseat. Even as the composite CPI is expected to be within 7.5%-8.5% for the rest of 3Q, mainly due to a low base, Hong Kongers have found ways to cope by buying higheryielding currencies or changing their spending patterns, N.B., not necessarily amounts. The effect of locals’ belt-tightening, if any, is hard to discern because tourist spending has been very resilient. More importantly, if a global recession is to hit, property prices will likely fall, and inflation expectations will also drift south in tandem.