"Undervalued Chinese Yuan continues to increase U.S. Trade Deficit" (CIT

**                                                              **
                    W. Curtiss Priest, Ph.D.
          Center for Information, Technology & Society
              466 Pleasant Street Melrose, MA  02176
           E-mail: BMSLIB@MIT.EDU, Voice: 781-662-4044

                   (Kindly do not do a "reply all")


                        September 4, 2003

                        Public Issue #:110

                          CITS Debt Watch

  "Undervalued Chinese Yuan continues to increase U.S. Trade Deficit"

          Commentary by Dr. W. Curtiss Priest, Director:

The U.S. and other industrialized nations are in a struggle
to the death with China.

Treasury Secretary Snow just returned from a 2 day trip in
Beijing where he was basically told that China has no
intention to allow the Chinese yuan (currently pegged to the
U.S. dollar) to float any time in the near future.

"China is the largest economy whose currency isn't traded
on world markets (see article below)."

One source, the US National Association of Manufacturers,
says the official rate for the yuan is "40 percent too
low and gave the Chinese exporters an unfair price advantage
in the US market."

And, month by month, the U.S. trade deficit continues to
rise, largely out of ever increasing importation of Chinese
goods.

***

Were the yuan to be allowed to float, one might expect its
value to rise at least 40% and probably much more.

And if expected, one could hold yuans, FDIC insured, in
a U.S. bank such as Everbank (http://www.everbank.com).

More about ways to hold foreign currencies are well described
in an article Helen Huntley (also below).

***

The Chinese are clearly doing what Ravi Batra has described
in his books.  For a country to establish its own industrial
base, it must erect trade barriers.  Those barriers may take
the form of tariffs, or, in this case, artificially keeping
one's currency below its "free trade" value.  And, as Dr.
Batra noted, our country did exactly this -- it erected trade
barriers during the first century of our country's history.

An eminent economist in Peking said, "China's economy is
in transition, and its market system is incomplete.  So
you can't just let the rate be set by the market."

Meanwhile not only the U.S. but European countries are
asking if China's low wages aren't enough to permit the
yuan to float?

The overall result of this problem is that China is eating
everybody else's lunches.  Pick up nearly any commodity
except items like food and cars, and the words "made in
China" most often appear.

Some argue that we can have our cake and eat it too.  They
say that the loss of manufacturing jobs to China doesn't
matter as we do the higher value-added work of creating
designs and prototypes of those goods.

However, that is not all we are doing.  As we found with
the Japanese, in a very similar situation as China, about
thirty years ago, when we provide designs and prototypes
we are also giving away trade secret-like knowledge.  For
example, it was by U.S. automotive firms licensing Japanese
firms for the manufacture of automobiles that we educated
the Japanese in the design and making of cars.

And with the free market, including NAFTA, there is
a race to the bottom by multinational companies.  Always
seeking low cost manufacturing they sought out Japan
when their labor costs were much lower than ours, and, now,
they go to China.

An example.  A college professor bought 20 mini-staplers
for class use.  About half were "Swingline" and the
other half were "Boston."  The different designs of the plastic
bodies distinguished them.  But, inside was exactly the
same Chinese manufactured mechanism.

And, like the earliest days of Japanese goods, "made in China"
was a label on an inferior good.  If, say, a mechanic's socket
set was made in China, the steel was not hardened enough, the
clearances were too large, and the chrome would blister.

But, those differences have dissipated over the last ten
years to the point that even a Chinese VCR or DVD player
is well made and reliable.

Another example.  The Japanese name Ryobi is well respected
by construction contractors.  The Japanese listening to
Deming's lessons about providing quality.  Faults were not
allowed to accumulate as, say, Saab did with the 900 car,
such that years later, "one thousand" faults were fixed in
1999 with the introduction of the 9-3.  But Ryobi faced
rising labor costs and higher overheads.  So they contracted
with China to make their cordless drills, proudly saying
that they were made to their "rigid specifications for
quality."

But, what was really happening was Japan was now educating
the Chinese in their quality control methods, methods
that greatly exceeded the U.S.' quality controls.  (In
Google web search put: Japan "House of Quality" to see 1,390
web pages on this topic, alone.)

So the loss of manufacturing jobs is about two issues.  First,
it is about job losses and lower paying service jobs.  Second,
it is about giving away our secrets.  As long as there will
always be a "better mousetrap" we win in the U.S. maintaining
our knowledge and inventive lead.  But, as soon as a technology
suits everyone, further designs are needless.  The garbage
disposal in a 1950's house is, design-wise, indistinguishable
from one installed today.

WCP

***

For 2,080 various accounts on the Chinese yuan, the last
one, at this moment from Newsday, 6 minutes ago, visit
Google News:

http://news.google.com/news?hl=en&ie=ISO-8859-1&edition=us&q=yuan+%28china+OR+chinese%29&btnG=Search+News
[please rejoin this address if it splits]

***

For prior issues of the CITS Debt Watch:

http://groups.google.com/groups?hl=en&lr=&ie=ISO-8859-1&scoring=d&q=%22cits+debt+watch%22+%22debt-financed%22
[please rejoin this address if it splits]

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China stands pat on yuan
Makes no promises to US on changes
Associated Press
Boston Globe, 9/4/2003, p. C2

BEIJING - Brushing off American pressure for a freer currency,
China's premier offered U.S. Treasury Secretary John Snow no promises
Wednesday and reiterated his assertion that a stable yuan benefited
both nations.

The outcome Wednesday of Snow's two-day trip to Beijing offered little
concrete hope for manufacturers in the United States and elsewhere,
who believe the yuan is being deliberately undervalued to keep China's
exports competitive. China says it's simply good financial sense for
all involved.

While saying he had been assured that progress would come, Snow
indicated the Chinese offered no timetable and wouldn't likely be
moving soon.

"I was repeatedly assured that interim steps are being taken and there
will be further progress," Snow told reporters.

When asked whether President Bush was disappointed in the Chinese
stance, White House spokesman Scott McClellan said: "I think it was
important just in an of itself that we're bringing this issue up, and
that we're raising the issue, and that's progress."

State media said Premier Wen Jiabao told Snow that freeing the yuan
remained China's ultimate goal, but that changes would happen only
when the economy was ready.

"Maintaining the stability of the exchange rates of the yuan benefits
both China and the United States," Wen was quoted as saying by the
official Xinhua News Agency.

"This system accords with China's reality," he added.

Despite its huge role in global trade, China is the largest economy
whose currency isn't traded on world markets.

The yuan - also known as the renminbi, or "people's money" - has been
fixed at about 8.28 to the U.S. dollar since 1994. It is allowed to
fluctuate, but only in tiny increments - a fraction of 1 percent - and
in closely regulated trading by official agents.

Last month, the U.S. National Association of Manufacturers said that
official rate was 40 percent too low and gave Chinese exporters an
unfair price advantage in the U.S. market.

Chinese economists, however, say the country can't afford to set the
yuan loose until China's hybrid socialist-market system develops
stronger institutions to guard against damaging currency speculation.
Such activity crippled many regional economies in the 1997-98 Asian
financial crisis.

And while China's foreign trade is surging, unemployment is rising and
the financial system is wobbling under a load of bad debts. Those
problems could get much worse if a stronger yuan raised costs for
exporters and slowed economic growth, Chinese economists say.

"China's economy is in transition, and its market system is
incomplete. So you can't just let the rate be set by the market," said
Li Qingyun, an economist at prestigious Peking University.

Li also disputed claims that the weak yuan was responsible for China's
export competitiveness, citing China's low labor costs and cheap
overheads. Imports from the United States and elsewhere would rise
once scheduled tariff cuts go into effect, he said.

In the meantime, Li said, preferential policies for U.S. goods could
be instituted to reduce political pressure on China to allow the yuan
to rise.

"Full trading is the goal," he said, "but the conditions now aren't
ripe."

Strict controls keep most dollars, yen and other foreign currencies
that flow into China from leaving the country. The government has
piled up more than $350 billion in foreign reserves - a figure Chinese
officials cite as a buffer against fiscal crisis.

Although they've offered no timetable for freeing the yuan rate,
Chinese leaders have been easing controls on the movement of money to
help businesses and guard against the rise of the yuan. Such moves are
seen as steps to prepare their financial industry and economy for a
free-floating exchange rate.

Snow urged those steps be expanded and new initiatives taken,
including liberalizing long-term debt transactions and developing open
capital markets.

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Declining dollar makes foreign investments lucrative Investors
putting their money into foreign funds in the past year have been
richly rewarded. Market watchers say the trend is far from over.

By HELEN HUNTLEY, Times Staff Writer

c St. Petersburg Times published March 30, 2003

U.S. foreign policy isn't the only thing that has taken a beating in
Europe. The dollar has been battered, too. Since its peak a
year-and-a-half ago, the U.S. dollar has lost nearly a fourth of its
value against the euro, the 4-year-old European currency.

The downhill slide was particularly severe this winter as
international tensions grew. The dollar and the euro were an even
exchange in early December, but by the time the dollar hit bottom
March 10, it took $1.17 to buy a single euro. Even with a rebound as
war against Iraq began, the dollar remains well below December levels.

But bad news for the dollar is good news for some U.S. investors, who
are discovering ways to capitalize on the dollar's weakness and the
higher interest rates available overseas.

Those bold enough to make the move last year have been richly
rewarded. In the past year, international bond funds were up an
average of 19 percent, second only to gold funds among the mutual fund
sectors tracked by Morningstar.

While predicting currency movements is never a sure bet, many market
watchers say this trend is a long way from being over.

"We believe we're about one year into a multiyear decline in the U.S.
dollar," said Frank Trotter, president of Everbank, an online bank
that specializes in foreign currency accounts. The unusual bank, which
has its headquarters in St. Louis, offers accounts in euros, Norwegian
krone, Mexican pesos and many other currencies.

Trotter said the bank's foreign-denominated deposits have doubled in
the past year to $165-million. The six-month CD offerings recently
available included the Japanese yen at 0.01 percent, the euro at 2
percent, the New Zealand dollar at 5 percent, the Mexican peso at 8
percent and the South African rand at 11.75 percent.

Although it is among the lower-yielding offerings, the euro is by far
the most popular choice, Trotter said. That's because most investors
who open accounts are only secondarily concerned about interest
earnings. Their primary goal is to make money on changes in the
exchange rate, by holding the favored currency until they think it's
an opportune time to convert back into dollars. They pay an exchange
fee of 0.75 percent in each direction. To them the euro looks
strongest.

In effect, the euro has become a default choice for investors who do
not want to hold Japanese yen or U.S. dollars.

"It's the lesser of three evils," said Ian Kelson, who manages the
$1.2-billion T. Rowe Price International Bond Fund from London. "The
case for the weak dollar and the strong euro is not at all to do with
anything very good in (the economy of) Europe, which if anything has
weaker growth than in the U.S."

Part of what's wrong with the dollar is the political and economic
upheaval created by the threat of terrorism and war with Iraq.
However, the reasons for the dollar's fall go much deeper and are not
likely to be quickly resolved.

"Usually when there is some sort of conflict, the dollar is seen as a
safe haven -- except when the conflict involves the U.S.," said Scott
Brown, economist for Raymond James & Associates in St. Petersburg.
"Venezuela, Iraq and North Korea are all U.S. problems. If we get a
solution to the Iraq conflict, things clear up in Venezuela and we get
some dialogue with North Koreans, we could get some short-term
improvement in the dollar. But long-term trends will be in place for a
while."

Some describe the dollar's decline as inevitable. Like a pendulum, the
dollar could go only so far in one direction before it had to swing
back the other way. As the dollar strengthened, U.S. goods became
increasingly expensive overseas, exports fell and manufacturers
suffered. The weakening dollar has begun to produce a pickup in
foreign sales, although that is being tempered to some extent by weak
economies around the world.

"This is a natural process," said Michael Hasenstab, portfolio manager
of the Franklin Templeton Hard Currency Fund in San Mateo, Calif.
"Revaluation of the U.S. dollar could be beneficial to the U.S.
economy by helping export growth. These macro adjustments tend to move
toward equilibrium. We don't know when we will reach that equilibrium,
but the pressures that have driven the U.S. dollar to these levels are
still in place."

At the root of the dollar's woes is the current account deficit, the
government's way of tracking money flowing into and out of the country
through trade and investment. So many more dollars are flowing out
that the deficit has now reached 5 percent of U.S. economic output,
high enough to make investors nervous. Europe, by contrast, has a
surplus.

Three big trends have contributed to the problem:

-- The balance of trade is off because U.S. manufacturers cannot sell
enough U.S. goods overseas to keep pace with the U.S. consumer's
appetite for foreign goods.

-- For years the trade deficit was offset by foreign investors making
equity investments in the United States, buying stocks and direct
interests in U.S. companies and real estate. In effect, the extra
dollars we sent overseas to buy foreign goods came back to us as
equity investments. But after three years of stock market decline,
accounting scandals and a weaker economy, the equity inflows have
dwindled.

-- U.S. interest rates are so low that foreign investors are losing
their appetite for U.S. bonds. At the same time, the federal budget
has moved from a surplus to a deficit, creating a need to sell more
bonds. Ultimately that imbalance could lead to higher interest rates,
although at least for now, U.S. investors are making up the difference
by putting their money in bonds instead of stocks.

"At precisely the time that people lost confidence in the U.S. economy
and stock market and became less willing to make equity investments,
yields on U.S. assets fell to very low levels," said Kelson at T. Rowe
Price. "Low interest rates are absolutely right for the current U.S.
economic climate, but they're not at all helpful in promoting a dollar
recovery."

Interest rates also have been coming down in Europe; the European
Central Bank has lowered rates partly because of concerns that the
strong euro will hurt manufacturing exports. But the rate decline has
not occurred as quickly as in the United States, which means European
rates still have room to fall. If they do, that could give foreign
bonds another boost.

Once the economy begins to improve, interest rates are expected to
pick back up, both in the United States and abroad. If that happens,
bond prices will fall since interest rates and bond prices move in
opposite directions. The longer the term of the bond, the more its
price is affected by interest-rate swings.

"I think U.S. bonds are the most vulnerable, but European bonds are
potentially vulnerable too," Kelson said. "Our view is that this is
not the moment to be very aggressive in terms of duration. It's much
nearer the end game in terms of the interest rate cycle."

One way to skirt interest rate risk is to stick with very short-term
investments, such as the Everbank CDs or the Franklin Templeton Hard
Currency Fund, which keeps the average maturity of the securities it
owns at 120 days or less.

"We're not looking to take interest rate risk," portfolio manager
Hasenstab said. "Our financial advisers are showing this fund to
clients as a hedge against the U.S. dollar" declining. He said the
fund is making its biggest bets on the euro, the Swiss frank, Danish
Krone and New Zealand, Australian and Canadian dollars.

Investing in foreign currencies and bonds remains a foreign concept
for most U.S. investors.

"So far investors are not clamoring for it," said Greg Ghodsi, a
stockbroker with Robert W. Baird & Co. in Tampa. "But in doing
portfolio reviews, some ask what's going on with the dollar."

Investors who want to bet against the dollar have to be prepared for
fluctuations in the value of their investments. The Everbank CDs carry
FDIC insurance against bank insolvency, but there is no protection
from losses if the dollar strengthens when you bet it would get
weaker.

Some types of investments are more volatile than others. Broker Ghodsi
said the safety-conscious investor should avoid individual foreign
bonds, which have big price swings and may be difficult to sell.

"I don't think the typical investor would want to buy something at 100
(dollars per $100 of face value), see it go to 40 and then back up to
80," he said.

Ghodsi prefers mutual funds for foreign bond investments. He suggests
investing through closed-end bond funds, which trade like shares of
stock on the New York Stock Exchange and other exchanges. Because they
do trade, it is possible to limit losses by setting up a standing
order with a broker that will trigger the sale of the bond fund if the
share price falls below a certain level.

Before buying any bond fund, investors should check to be sure its
investing style matches their objectives. Some foreign funds hedge
against currency fluctuations so you don't get big losses on the
dollar's movements, but neither do you get big gains.

Foreign bonds and bond funds have not been particularly popular with
U.S. investors for good reason: When the dollar was strong, they lost
money. In addition, many investors prefer to keep their money closer
to home.

For those willing to take the risk, putting some money in foreign
income investments will diversify a portfolio since foreign bonds do
not move up and down in synch with U.S. investments.

-- Helen Huntley can be reached at huntley@sptimes.com or (727)
893-8230.

* * *

Think the dollar is still on the downswing? Here are some ways to play
your hunch. Just be prepared for losses if the dollar strengthens.

Bank accounts

* Everbank WorldCurrency CDs

CDs of up to 12 months available in a variety of foreign currencies.
Minimum deposit $10,000. Currency conversions 0.75 percent each way.
Go to www.everbank.com or call toll-free 1-888-882-3837. This St.
Louis bank has no branches; all transactions handled online. Accounts
have FDIC insurance to cover bank insolvency but not currency losses.

Open-end mutual funds

These funds may be purchased directly from the fund companies and
through many brokerages.

* Franklin Templeton Hard Currency Fund (ICPHX)

Fund invests in short-term money-market instruments and currency
contracts. Minimum investment $1,000. Initial sales charge 2.25
percent. Up 17.2 percent in 2002 (not including sales charge). Go to
www.franklintempleton.com or call toll-free 1-800-632-2301 (press *0).

* American Century International Bond Fund (BEGBX)

Fund invests in government and corporate debt. Minimum investment
$2,500. No sales charge. Up 23.5 percent in 2002. Go to
www.americancentury.com or call toll-free 1-800-345-2021.

* T. Rowe Price International Bond Fund (RPIBX)

Fund invests in government and corporate debt. Minimum investment
$2,500. No sales charge. Up 21.8 percent in 2002. Go to
www.troweprice.com or call toll-free 1-800-225-5132.

Closed-end mutual funds

These funds trade like stocks and may be purchased through a
brokerage. They may sell for more or less than their net asset value.

* Templeton Global Income Fund (GIM)

Fund invests in debt securities, about two-thirds in Europe. Trades on
New York Stock Exchange. Up 30.5 percent in 2002. Go to
www.franklintempleton.com.

* PIMCO Strategic Global Government Fund (RCS)

Fund invests in mortgage-backed securities and debt securities. Trades
on New York Stock Exchange. Up 22.9 percent in 2002. Go to
www.rcsfund.com.

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