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San Jose Mercury News,Sunday, October 17, 2004  

The China Effect

Economic, Manufacturing Boom Drive up U.S. Prices

Oil, building materials in strong demand  

BY KARL SCHOENBERGER, Mercury News  

Motorists are paying more for gas. Contractors are forking out more for cement. Taxpayers may get a bigger bill for the new span of the Bay Bridge. 

Why? For one reason, look on the other side of the planet -- to China. 

The Chinese manufacturing boom has long meant that Americans can enjoy lower prices on consumer goods ranging from clothes to electronics. But China's success as a manufacturing juggernaut is also beginning to have a less welcome impact on other parts of the global economy, creating a feverish demand for basic commodities that is sending prices skyward. 

China's rapid growth comes with a voracious thirst for imported oil that is helping push up gas prices in California. And its construction bonanza is causing a huge demand for building materials like steel and cement, jacking up costs in the Bay Area. 

''Customers complain, but I can't do anything about it,'' said Ray Giovannoni, sales manager for the East Bay steel distributor Albany Steel. ''China is booming and they can't keep up with demand over there, so our prices double here. That hurts.'' 

As much as a third of new demand for crude oil on international markets this year can be attributed to China, according to the International Energy Agency. China's imports of petroleum were a major factor behind the price of oil breaking the $50 per barrel mark at the end of September, analysts say. 

A surge in Chinese demand also helped drive up the price of steel plates by almost double on world markets over the past year. That spike affected everything from giant public works projects such as the Bay Bridge seismic upgrade to small commercial building projects. 

Michael Achkar, a principal at A.M. Star Construction in San Jose, said the leap in steel prices happened over a three-month period at the beginning of the year, and caught him short. 

''When you land a $1 million contract and you have to turn around and buy the steel, all of a sudden you realize you're going to lose money in the deal because the price of steel is out of control,'' said Achkar, who is supplying steel for an airplane hangar project at South County Airport in San Martin. 

''They say China was building a huge dam or something and everybody was selling them steel,'' he said. ''It's all a chain reaction. Next year when you buy your next car, the cost of steel is going to make it a lot more expensive.'' 

Economic chain: China pours moneyinto manufacturing 

The rising prices reflect the increasing complexity and back-and-forth ties of a global economic chain that stretches from China to Silicon Valley and beyond. 

China's growing demand for international commodities comes partly from years of intensive foreign investment in its manufacturing base. Last year, contracted investment in Chinese manufacturing increased 36 percent to $81 billion. 

With all that money pouring in, China's economy has been growing at a rate of about 9 percent a year. The Chinese are rushing to build new factories and office buildings, and domestic sources of steel and cement can't keep up. Nor can the country's reserves of crude oil and coal support the demand for electricity and gasoline to power millions of cars and trucks cranked out every year. 

So China is rapidly expanding its reliance on foreign sources. In the meantime, U.S. steel mills and steel fabricators and their foreign competitors don't have the capacity to meet the extra demand. 

The result: Higher prices for some commodities in the United States. 

But in the yin-yang of global economics, China is seldom the only reason for higher prices -- and in any case, more demand is not always a bad thing. 

For example, China's demand for oil is expected to increase by as much as 13 percent this year, after growing 11 percent last year, said Kang Wu, a researcher

specializing in China's energy policy at the East-West Center, a federally funded think tank in Honolulu. But the war in Iraq and political instability in the Middle Eastand Nigeria have also contributed to higher prices. 

''China is important, but it's not the whole story,'' said Wu. He added that in fact, the steady demand for oil from China has helped to balance the volatile market. 

Bay Bridge: Demand isn't only reason for costs  

Similarly, China's demand for steel is one reason projected costs are rising for the new span of the Bay Bridge -- but hardly the only reason. 

The Bay Bridge project would require 100 million pounds of steel over the next three years, according to Robert Luffy, CEO of American Bridge, based in Pittsburgh -- a bidder on the Bay Bridge project. Luffy's $1.4 billion bid is nearly double the amount budgeted by Caltrans. 

''But the value added, the engineering design and the fabrication, exceeds the price of the raw steel,'' Luffy said. ''If the price of steel went back down to 35 cents a pound it would have an impact, but it still wouldn't get the cost of the project below $1 billion.'' 

There's a danger, for sure, that singling out China as the sole cause behind higher prices of oil or steel could feed into rising tensions over U.S.-Chinese trade. With the bilateral trade deficit expected to rise from$125 billion in 2003 to $160 billion his year, the situation is ripe for ''China bashing,'' similar to the ''Japan bashing'' of the 1980s. 

Already there have been reports of contractors telling customers that higher prices of lumber in their home renovation projects are because of heavy demand for plywood in China. 

Rich Rose, a contractor in Los Gatos who builds custom homes and additions, said he's been hit hard by rising lumber prices. A sheet of half-inch plywood that cost $9 two years ago is $18 today. 

But Rose doesn't blame China. He blames low interest rates and the boom in housing construction in the past several years. 

''When we bid and the price goes up, we just have to eat the difference,'' he said. 

Shawn Church, editor of the lumber industry trade publication Random Lengths, based in Eugene, Ore., said he has heard China blamed for the high price of lumber.

But there's no need to look beyond domestic supply and demand factors, he said. ''It's what you might call an urban legend,'' Church said. 

Global market: Supply-demand curve has changed  

China's demand for many other critical commodities can't be so easily dismissed, however. 

For example, the rising prices of cement and roofing insulation -- as well as steel I-beams and connectors -- has sent the cost of commercial construction up by about 10 percent over the past year, said Neil Platz, director of purchasing for the $7 billion Turner Construction Company, an international building contractor based in New York. 

''The Chinese have changed the whole supply-demand curve over the past couple of years,'' he said. ''Right now we're having difficulty with the availability of ships, because they've all been diverted to take steel scrap to China . . . We have to realize we are completely in the global market for supplies, because we don't have the capacity to supply ourselves on our own.''

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