Sept. 30 (Bloomberg) — Having prospered through the handover to China, Asia’s financial crisis and the SARS epidemic, Hong Kong’s resilience is being tested again.Stocks slumped and the near-term economic outlook deteriorated after weekend clashes between police and pro-democracy demonstrators on a scale not seen since the 1960s. Tens of thousands poured back into the streets yesterday evening to press demands for free and open elections and the resignation of Chief Executive Leung Chun-ying.

“If we see an escalation of disturbances to the point where growth is weakened or where confidence in the territory’s basic stability is endangered, then that could be a negative rating trigger,” Andrew Colquhoun, head of Asia-Pacific sovereigns at Fitch Ratings, told Rishaad Salamat on Bloomberg Television yesterday. “A question for the credit outlook, for the economy, for all sorts of other issues is, to what extent that the two sides on this issue can find common ground.”

Respect for private contracts, a stable exchange rate, proximity to China’s manufacturing hinterland and an educated workforce are among the territory’s enduring strengths. At the same time, the longer the demonstrations continue, the bigger risk to an economy already stagnating, with gross domestic product unexpectedly shrinking in the second quarter.

The city’s benchmark Hang Seng Index fell 1.3 percent at 1:06 p.m. local time, extending the four-day drop to 4.1 percent.

‘Quite Resilient’

Hong Kong has overcome past challenges. While its economy shrank in U.S. dollar terms in five of the six years after the handover to Chinese rule, growth in nine of the following 10 years has resulted in GDP expansion of 55 percent since 1997.

“Hong Kong’s unique selling points are quite resilient,” said Declan O’Sullivan, managing director of Singapore-based recruiter Kerry Consulting, citing its user-friendliness, commercial services and rule of law. “It’s unlikely that China would want to see Hong Kong seriously damaged, so I would expect Beijing to tread somewhat carefully.”

Fitch said yesterday that the weekend protests didn’t “significantly affect” its AA+ rating, which is bolstered by the strength of the authorities’ balance sheet and economic flexibility.

Hong Kong has seen pro-democracy protests flare since the British handed over to China in 1997. More than half a million took to the streets in 2003, triggered by anti-subversion legislation and an economic slump, and in 2004, when marchers called for direct election of the chief executive and legislature. In March 2005, Chief Executive Tung Chee-hwa resigned, having failed to win over local opinion.

Vetting Candidates

The current protests were spurred by the Chinese government’s decision last month that candidates for the 2017 election of chief executive be vetted by a committee. The pro-democracy forces say the system is designed to produce a new leader effectively handpicked by the government in Beijing.

The latest protests “will heighten the already delicate executive vs. legislative relation of the Hong Kong government,” making it difficult to pass key pro-economic policies, Adrienne Lui, a Hong Kong-based analyst at Citigroup Inc., wrote in a report yesterday. “Investors are increasingly building in higher operational risks, fearing that future protests could escalate and turn more frequent.”

The latest bout of instability spurred speculation the Pearl of the Orient stands to lose out to Singapore, with its cleaner air and cheaper office space, and Shanghai, where financial liberalizations are undercutting Hong Kong’s gateway-to-China status.

Singapore Rivalry

Hong Kong and Singapore have long jostled for prominence. Singapore has the lead in petrochemical refining, foreign-exchange trading and pharmaceuticals, while Hong Kong’s $3.7 trillion stock market is the world’s fifth-largest, with more than half the companies on the Hang Seng Index from the mainland.

Singapore, with 5.4 million people, boasted GDP of $298 billion in 2013, according to World Bank data. Hong Kong, with a population of 7.2 million, had GDP of $274 billion, the data show.

“If this does escalate to a whole new level, questions will be raised about Hong Kong’s role as a financial center,” said Chua Hak Bin, a Singapore-based economist at Bank of America Corp. That would “definitely” make Singapore appear as a more stable alternative, Chua said.

Another alternative financial center is Shanghai, where moves to internationalize the yuan and a year-old free-trade zone are making it easier for western companies to do business.

Lose Advantage

“As China’s onshore market is increasingly liberalized, Hong Kong will start to lose its unique advantage as a gateway to China,” Australia & New Zealand Banking Group Ltd. economists Raymond Yeung and Louis Lam wrote in a note.

The unrest may disrupt plans ahead of tomorrow’s start of China’s week-long National Day holiday, when hundreds of thousands of mainlanders usually travel to Hong Kong, snapping up luxury products from brands including Prada, Louis Vuitton and Patek Philippe.

“If this keeps going and becomes a recurring phenomenon, we’ll probably see some businesses pulling out of Hong Kong,” said Nader Naeimi, head of dynamic asset allocation at Sydney-based AMP Capital Investors Ltd., which manages about $125 billion. “Singapore will be a great place for these businesses to relocate.”

To contact Bloomberg News staff for this story: Kevin Hamlin in Beijing at khamlin@bloomberg.net

To contact the editors responsible for this story: Malcolm Scott at mscott23@bloomberg.net Scott Lanman