World Bank Says ‘Double-Dip’ Possible in Some Europe Economies

Some European nations may experience a second economic slowdown if the region fails to manage its debt crisis, threatening countries from Central Asia to Latin America, the World Bank said today.

“We’re expecting that growth in the second quarter is also likely to be disappointing, quite possibly seeing negative growth in several European countries and a double dip in some of these economies,” Andrew Burns, the World Bank’s manager of global macroeconomics, said at a press briefing telecast from Washington today.

Stocks have tumbled in the past two months on concern that the global recovery will be derailed by the European debt turmoil. Risks to the world’s economic outlook have “risen significantly” and policy makers have limited room to provide support to growth, International Monetary Fund Deputy Managing Director Naoyuki Shinohara said yesterday.

Government finances in high-income countries in Europe, France, the U.S. and the U.K. are currently on an “unsustainable path,” Burns said. Failure to manage a fiscal consolidation could lead to a loss of confidence among investors in sovereign debt, increasing the risk premium and shrinking capital available for developing countries, he said.

“Even in a less probable but more serious scenario, you could see a crisis occur similar in some senses to the East Asian crisis in some of these more highly indebted countries,” he said. “That could have substantial knock-on effects in Europe and elsewhere.”

Most at Risk

Economies most at risk from such a crisis are those in Eastern Europe, Central Asia, Latin America and the Caribbean, Burns said.

“There would actually be a double-dip in the high-income economies,” Burns said, without naming the economies that would be affected by the less likely scenario. “We estimate that growth there could fall by 0.6 percent in 2011. That’s going to have important knock-on effects in East Asia, particularly because it is a very heavy trading region.”

Asia’s export growth may ease to “more sustainable rates” as China‘s import demand cools and growth in Europe “continues to disappoint,” the World Bank said in its Global Economic Prospects report released in Washington late yesterday. Failure to resolve the debt crisis in Europe could hurt global growth and have “serious” effects on East Asia, where exports and investment are large shares of economies, it said.

The escalation of Europe’s debt crisis has forced the European Union and the International Monetary Fund to offer as much as 750 billion euros ($904 billion) to countries in danger of financial instability.

Germany this week announced a four-year, 80 billion-euro package of budget cuts and revenue-raising measures. Greece, Spain, Italy and Portugal are among euro countries with austerity programs in the works. France plans a three-year spending freeze.

“If markets lost confidence in the credibility of efforts to put policy on a sustainable path, global growth could be significantly impaired and a double-dip recession could not be excluded,” the World Bank said in its report.

Goldman sued by hedge fund over notorious CDO deal

By Steve Eder and Matthew Goldstein Reuters

An Australian hedge fund is suing Goldman Sachs Group Inc (GS.N) over an investment in a subprime mortgage-linked security that contributed to the fund's demise in 2007.

The lawsuit filed on Wednesday accuses Goldman of misrepresenting the value of the notorious Timberwolf collateralized debt obligation, which garnered a lot of attention during a recent congressional hearing.

Basis Yield Alpha Fund sued Goldman to recoup the $56 million it lost on the CDO, said Eric Lewis, a Washington-based lawyer for the fund. The suit also seeks $1 billion in punitive damages.

The litigation is the latest in a string of legal and public relations headaches for Goldman. In April, U.S. securities regulators charged the powerful Wall Street bank with civil fraud in connection with the structuring and sale of another CDO called Abacus 2007.

The Financial Times reported on Wednesday that the U.S. Securities and Exchange Commission was examining another Goldman CDO -- Hudson Mezzanine Funding -- that was not part of the April civil fraud lawsuit. The FT, citing people familiar with the matter, said the inquiry into the $2 billion CDO was part of a wider probe into the CDOs of Wall Street banks.

The Australian hedge fund decided to file suit after months of settlement talks with Goldman broke down. Reuters on Tuesday first reported on the likelihood of a lawsuit. The suit was filed in U.S. District Court for the Southern District of New York.

The 36-page complaint opens with a rhetorical flourish that repeats a Goldman executive's description of the Timberwolf CDO as "one shitty deal."

See http://www.scribd.com/doc/32779463/Complaint for a copy of the complaint.

The suit alleges that Goldman pitched the Timberwolf deal to Basis even as the bank's sales force and mortgage traders knew the market for CDOs could soon crumble. In June 2007, Basis paid $78 million for two pieces of the CDO with a face value of $100 million.

Basis, which financed the transaction with a loan from Goldman, said it lost more than $50 million when the bank began making margin calls on the product just weeks after selling the deal. Basis said the margin calls quickly forced it into insolvency.

"You can't say you are basically selling a strong performing high-yielding security that you know is going to tank," said Lewis, a partner with the law firm Baach Robinson & Lewis.

"MISGUIDED ATTEMPT"

Goldman called the suit "a misguided attempt by Basis ... to shift its investment losses to Goldman Sachs."

Michael DuVally, a Goldman spokesman, said, "Basis is now trying to recoup its losses based on false allegations that it was misled about aspects of the transaction and market conditions."

The $1 billion Timberwolf CDO and the aggressive tactics Goldman employed to sell the deal were a focal point of an April hearing by the Senate Permanent Subcommittee on Investigations. One of the documents unearthed by the panel was an email in which former Goldman mortgage executive Thomas Montag called Timberwolf "one shitty deal," just days after the firm completed the sale to Basis.

The hedge fund's lawsuit, which draws on other documents introduced by the Senate panel, alleges that Goldman misrepresented the value of the Timberwolf securities and failed to disclose that Goldman's trading desk had a role in working with Greywolf Capital Management in picking Timberwolf's underlying securities.

GOLDMAN COORDINATION

During the Senate subcommittee hearing in April, Goldman Chief Executive Lloyd Blankfein said the bank's employees are often unaware of what strategies are being employed elsewhere at the firm.

"We have 35,000 people and thousands of traders making markets throughout our firm," Blankfein said in response to a question from Senator Carl Levin. "They might have an idea. But they might not have an idea."

But the Basis lawsuit raises new questions about the coordination between Goldman's trading desks and its sales staff.

David Lehman, who joined Goldman in 2004 and worked as a managing director in Goldman's mortgage trading operation, met with representatives of Basis to convince them that the prices Goldman was selling the Timberwolf deal at were fair and legitimate.

The lawsuit alleges that Goldman's sales and trading desks worked together to sell the deal, while Goldman itself was betting against the performance of the CDO.

"This is not a bad case for dealing with the whole issue of how Goldman was conducting its business," said Lewis. "They were selling bonds like they were used cars, in that you say what you need to get it done."

MORE LAWSUITS?

Other investors in Goldman's CDO products are likely to keep a close eye on the Basis case.

"If they can prove there is some smoke there, many investors could feel they have a right to say they were also harmed in some way," said Matt McCormick, a portfolio manager and banking analyst at Bahl & Gaynor Investment Counsel in Cincinnati.

Still, lawsuits against firms over the marketing of toxic CDOs have been rare.

Scott Berman, a partner with Friedman Kaplan Seiler & Adelman who frequently represents institutional investors, said it's a bit of mystery that the financial crisis hasn't spawned more private litigation over CDOs and other exotic investments.

"Some of it may be being dealt with in private arbitration rather than litigation," said Berman. "It's also possible that many institutions are simply wary of suing each other."

The case is Basis Yield Alpha Fund (Master) v. Goldman Sachs Group Inc, U.S. District Court, Southern District of New York, No. 10-04537.

Higher expenses hurt Brown-Forman in 4th quarter

By BRUCE SCHREINER,

Liquor company Brown-Forman Corp. said Wednesday that higher expenses and continued sluggish sales to bars and restaurants watered down gains by its flagship Jack Daniel's Tennessee Whiskey and contributed to its fourth-quarter net income falling 9 percent.

Brown-Forman's profit has been hurt in recent quarters by the struggling economy as consumers have chosen less expensive brands — and by the company's increased spending on advertising to focus more on people who drink at home. Like other liquor companies, Brown-Forman hopes to take better advantage of the recession-born trend away from drinking in bars and restaurants.

But Don Berg, Brown-Forman's chief financial officer, said out-on-the-town drinking — which the industry calls "on premise" consumption — has shown early signs of renewal.

"While it appears that consumers are returning to restaurants and bars, their spending seems to be greatly reduced," Berg said in a conference call with industry analysts. "Over time, we believe the on-premise channel will rebound as unemployment decreases and the global economy improves."

Berg said those sales account for about one-fourth of the company's total distilled-spirits volumes.

The company previewed new packaging Wednesday, along with plans for line extensions, executives said they hope to expand the Jack Daniel's brands overseas.

The company's Class B shares rose 93 cents, or 1.6 percent, to close Wednesday at $58.11.

The Louisville-based company reported strong sales of ready-to-drink products — mostly cocktails like its Lynchburg Lemonade — popular with consumers who don't patronize bars and restaurants.

In the three months that ended April 30, Brown-Forman's net income fell 9 percent to $72.7 million, or 49 cents per share. A year earlier, it was $79.6 million, or 53 cents per share. Revenue rose 7 percent to $733 million from $683 million.

The company's results were hurt by higher compensation expenses and one-time costs related to the health care overhaul.

Analysts polled by Thomson Reuters, who typically exclude one-time items, on average predicted earnings of 53 cents per share on revenue of $694.1 million.

For the year, net income rose 3 percent to $449.2 million, or $3.02 per share, from $434.4 million, or $2.87 per share last year.

Revenue rose 1 percent to $3.23 billion from $3.19 billion last year.

The company expects a "moderately better" global economy in fiscal 2011 and said its net income will be $2.98 to $3.38 per share. Analysts expect a profit of $3.30 per share.

Berg said the past year was difficult as consumers traded down to cheaper brands and competitors discounted their prices. He said he hoped industry discounting will be "less pervasive" in the next year.

Looking ahead, the company said it sees opportunities to increase market share for Jack Daniel's both in developed markets such as France — where the flagship Jack Daniel's Tennessee Whiskey brand has just a 2 percent share of the whiskey category — and in emerging markets such as Russia, Poland and Mexico.

The company said it plans to expand several lines in the U.S., including the premixed Southern Comfort Lime and Southern Comfort Lemonade.

The company also said Wednesday that its board has approved a plan to buy back up to $250 million of its outstanding shares by December.

Bonds: Avoid the next great bubble

By Paul J. Lim CNN Money

As manias go, this one is different. Your neighbors aren't coming up to you at cocktail parties bragging about making a killing in bonds. No one is flipping fixed income for quick profit. And no talk-radio guru is shouting that bonds will be the only investment left standing after the next financial Armageddon.

Don't let the lack of fanfare fool you. A projected $380 billion will pour into bond funds this year, more than went into domestic stock funds in the past decade. That's on top of a record $376 billion last year.

"The bond market is a bubble," says Robert Froehlich, senior managing director of the Hartford Financial Services Group. "And it's getting ready to burst." One major reason: Despite the recent rally in treasury bond prices and slide in yields -- due to fears over the European debt crisis -- the long-term direction for interest rates is headed higher.

What's inflating the bubble

Like all financial manias, this one is being fueled by a combination of fear and greed.

James Stack, a market historian and president of InvesTech Research, notes that many baby boomers who have stampeded into bond funds did so in reaction to their stock losses since the financial crisis began in 2008.

"It's post-traumatic shock," he says. Even with the rebound in equities since March 2009, "investors fear putting money into the stock market because they have a newfound respect for the risk equities pose."

Over the past decade, holding bonds was considerably safer than holding stocks. After the tech bubble burst in 2000 and equities lost almost half their value over the next three years, corporate bonds surged nearly 50%. And when the global financial crisis erupted two years ago, U.S. Treasury bonds were just about the only investment to retain value. The flight to safety in recent weeks, driven by concerns over Europe's mounting budget problems, has moved investors back into treasuries for the time being yet again.

On top of that, few investors know what it's like to live through a true bear market in bonds. Fueled by falling interest rates (long-term rates were as high as 15% in the early '80s), the current bull market has lasted for 30 years.

The resulting sense of safety -- the belief that bonds don't go bad -- is contributing to this feeding frenzy in fixed-income funds and ETFs. And all that money flowing in has made bonds very expensive.

You can see how frothy Treasuries are by calculating a P/E of sorts for bonds; just divide the bond's price by its current yield, not by earnings. At a price of around $100 and a yield of 3.3% -- up from 2% in december 2008 -- 10-year Treasurys have a P/E of 30. That's around twice their historical level.

It's true that bonds are less volatile than stocks. But in fact they lose money just as often as equities do. "I don't think the public understands they can lose money in bond funds," says James Swanson, chief investment strategist at MFS, an asset-management firm in Boston.

So that's the fear part. The greed part comes from an entirely different group of people: safety-loving folks who normally park their money in cash, such as bank savings accounts, CDs, or money-market funds. Fed up with the meager interest rates those accounts are paying these days -- the average taxable money-market fund yields 0.03% -- they're venturing into short-term bond funds to eke out a bit more yield.

Why the bubble could burst
One part of the bubble is already leaking air: long-term government bond funds. Because they invest in supersafe U.S. Treasuries and other forms of government-backed debt, they were a popular place to hide during the mortgage meltdown.

But when the economy began improving and rates on 10-year Treasurys began rising (from about 2% at the end of 2008 to as high as 4% in April before slipping to 3.3% today), these funds started suffering. In fact, the Vanguard long-term Treasury bond fund fell 12% in 2009 and, despite the recent run up in Treasury securities, is still down 5% since the end of 2008.

Experts say that's just the beginning. Here are the major factors that could harm bonds further.

Rising interest rates. "Rising rates are the biggest concern out there for bonds," says Mario De Rose, fixed-income strategist for the brokerage Edward Jones in St. Louis. That's because they make older, lower-yielding bonds that you or your funds own look less attractive compared with newer securities.

Let's say you bought a 10-year Treasury at the current rate of 3.3%. If rates rose to, say, 4.3%, the price of the bond would fall by nearly 8%, according to T. Rowe Price. So even though you'd be earning interest income, your actual total return would be 4%.

Alas, even if rates continue to tick down for a bit, the long-term trend is up. Economists at Standard & Poor's think the yield on 10-year Treasuries will jump to 5.3% by 2012; Froehlich of Hartford predicts it could hit 6.5% much sooner than that.

In a rising-rate environment, individual bonds have an edge over bond funds. You can simply hold individual bonds to maturity, at which point the issuer promises to give you back your original investment in full. That's impossible with funds, which hold lots of issues and are constantly buying and selling. Fixed-income funds can still make sense for a lot of reasons. But "they are the worst investment when it comes to rising rates," says InvesTech's Stack.

The return of inflation. Even individual bonds are no match for the power of an overheated consumer price index. Bonds tend to do well in periods of falling, not rising, inflation. From 1980 to the end of 2009 -- when the annual growth in the consumer price index fell from nearly 14% to virtually nil -- bonds delivered higher-than-average returns of nearly 10% a year, according to Ibbotson Associates.

With the federal deficit now projected to exceed $1 trillion this year and next, the Federal Reserve has little choice but to effectively crank up the amount of money in circulation. So there's a real chance that inflation -- nonexistent now -- could start running as hot as 5% in the next few years. If that happens, the real return on any bond yielding below 5% would be wiped out entirely.

Lingering doubts about the economic recovery. Most experts believe that the global economy is on the mend. But ongoing struggles in the housing market, a rise in mortgage defaults among owners of commercial properties, or a spread of the debt crisis in Europe are still possible, says Jeremy Grantham, chief investment officer of GMO, an asset-management firm in Boston. Any of those could damage the financial health of the countries or companies that issue bonds.

If investors become concerned that certain bond issuers are less creditworthy, their debt will become less desirable, weighing down bond prices. For example, thanks to growing worries about the debt crisis in Greece, Spain, and Portugal, many funds that specialize in European bonds are down so far this year. American Century International Bond, with around two-thirds of its assets in debt issued from European countries, has fallen more than 7%.

Panic selling. In today's low-rate environment, some bond fund managers -- even those who run short-term funds -- are taking extra risks "to reach for extra yield," says Russel Kinnel, director of fund research for Morningstar.

For instance, they might invest in bonds issued by entities of questionable financial health. The results aren't always pretty. In 2008 several short and ultrashort funds posted staggering losses (35% in the case of Schwab YieldPlus) as the credit crisis crushed bonds that they held.

Remember all those Johnny-come-latelies who recently moved from money-market funds to bond funds? At the first sign of trouble, many of them are likely to flee back to cash, warns Marilyn Cohen, president of Envision Capital Management, an advisory firm in Los Angeles that manages bonds for individual investors.

If the selling is severe enough, fund managers could be forced to dump bonds to meet redemptions, making other bond investors' losses worse. That risk is especially high with bonds that trade infrequently. Holders might accept fire-sale prices to get out in a hurry -- that rush to sell exacerbated losses suffered in the credit crisis.

How to protect yourself
Does this mean you should junk your bond holdings? No. If used properly, bonds will help you diversify your portfolio and generate much-needed income. Instead, try these strategies to protect yourself from the worst effects of a bond meltdown.

Shorten your durations. "Duration" measures how sensitive an investment is to interest rate changes. If a bond or bond fund has a duration of five years, for example, its price is likely to rise around 5% if interest rates fall by one percentage point. Conversely, if rates rise by one point, the price will fall by around 5%. The longer the duration, the higher the risk of losses. In this rising-rate environment, MFS's Swanson advises investors to stick with durations of around four years or less.

If you own a long-term government bond fund, consider replacing it with a shorter-term one with a duration in Swanson's target zone. Also check out the duration of the intermediate- and short-term funds you already own. You can do so by going to Morningstar.com, typing in your fund ticker, and clicking the Portfolio tab.

There can be significant variation within categories. While the average duration of a typical intermediate-term government bond fund, for example, is about four years, that of Managers Intermediate Duration Government (MGIDX) is only 2.9 years.

Buy TIPS rather than regular Treasuries. Treasury Inflation-Protected Securities yield significantly less than regular Treasury bonds right now (around 1.3% for 10-year TIPS vs. 3.3% for regular Treasuries of similar maturities). But TIPS have one big advantage: The interest they pay is adjusted to reflect changes in the consumer price index.

Jason Brady, a managing director at Thornburg Investment Management in Santa Fe, points out another plus. When interest rates rise (which is typical during periods of higher inflation), demand for TIPS is likely to be stronger than for plain-vanilla Treasuries. That means TIPS' prices are unlikely to fall as far.

These days it makes sense to buy individual TIPS rather than mutual funds that hold them. For one thing, it's easy to buy the bonds directly from Uncle Sam at Treasurydirect.gov. You'll pay no commissions or other fees. And the minimum investment is just a hundred bucks. As for maturity, choose one of no more than 10 years. And make sure you won't need the principal back before the end date.

Shift some short-term money to floating-rate bank funds. These funds invest in short-term, adjustable-rate bank loans made to corporations. Because such loans often reset every one to six months, "you get more income as rates rise," says Brady. The average bank loan fund has returned around 3% so far this year, compared with 2% for the average short-term bond fund.

But banks make many of these floating-rate loans to companies with less-than-pristine balance sheets. Stick with funds that focus on more creditworthy companies, such as those whose debt is rated BB -- just a couple of notches below "high quality" -- or above. One example: Pioneer Floating Rate (FLARX). Check a fund's credit quality at Morningstar.com.

Raise the credit quality of your munis. Battered municipal budgets will improve eventually, assuming the economy continues to heal. But historically, states and cities are among the last financial entities to emerge from a downturn. "I am not worried about credit risk among corporations, but I am worried about it in the muni space," says Envision Capital's Cohen.

To lower that risk, go with funds that invest mostly in municipal bonds rated AA or higher, like Fidelity Intermediate Municipal Income (FLTMX).

Lower the credit quality of your corporates. Move some of your corporate bond stash to high yielders. That's right: junk bonds.

This strategy isn't as crazy as it sounds. Junk bonds aren't as sensitive to rising rates as investment-grade bonds are, in part because their higher payouts provide a cushion if bond prices start to fall. In the past three periods when rates rose -- 2005, 1999, and 1994 -- high-yield bonds outperformed Treasuries by an average of 10 percentage points, according to an analysis by T. Rowe Price.

Moreover, if rates are rising because the economy is improving, demand for these bonds will climb. "A small positive change in the economy could have big changes in the fundamentals of these types of companies and their ability to pay back their debt," says Carl Kaufman, manager of the Osterweis Strategic Income fund.

That said, if investors fear the economy is headed into another storm -- as was the case in recent weeks -- high-yield funds could sink along with the broad stock market. In fact, the average high-yield fund has fallen nearly 4% over the past month (though it's still up more than 25% over the past year).

Given that the global economy hasn't fully recovered, stick with relatively conservative high-yield funds that avoid companies with the ugliest balance sheets. One such fund is Vanguard High-Yield Corporate (VWEHX). The typical bonds in this fund are issued by companies with ratings of BB or higher.

Don't give up on foreign bonds. The recent Greek tragedy may have you wondering if it's time to repatriate your entire fixed-income portfolio. Resist the urge.

As we've mentioned, Greece's debt problems have hurt the price of government bonds from Portugal and Spain. (Long-term Greek bonds now yield more than 8%, a reflection of how risky they are.) But those from many other European countries, including Germany and Britain -- whose government bonds yield almost exactly what U.S. Treasuries do -- have held up decently.

You should be looking beyond just Europe anyway. It's smart to diversify your fixed-income stake around the world because interest rates in different regions are expected to climb at different rates.

Another plus: If rates rise because of hotter inflation as expected, bonds from commodity-driven countries such as Australia, Brazil, and Canada will do well, says Thornburg's Brady. At the very least, they're highly unlikely to spoil your portfolio.

Honda hit by second strike in China

Honda has had to halt production at two of its four car assembly factories in China after another strike by workers at one of its Chinese parts facilities.

The Japanese firm said work had stopped on Wednesday because of industrial action at exhaust-maker Foshan Fengfu Autoparts, which it part-owns.

It is the second time in two weeks that its Chinese production has been hit by a walkout over pay at a local supplier.

The earlier strike at a gearbox plant closed all four of its China factories.

Growing pay disputes

Honda said the walkout at the Foshan Fengfu facility, which is 70%-owned by its Chinese subsidiary Yutaka Giken, started on Monday.

Negotiations to resolve the dispute are now continuing.

The two strikes to hit Honda come as labour disputes over pay are growing in number in China.

Honda runs three of its four car assembly factories in China as joint ventures with Chinese carmakers to supply the domestic market.

It has two factories in association with Guangzhou Automobile and one with Dongfeng Motor Corporation.

Honda's fourth Chinese factory makes its Jazz small car model solely for export.

The Japanese firm currently makes 650,000 cars a year in China, and intends to increase this to 830,000, as the Chinese car market continues to grow strongly.

Russia Fights for World Dominance—in Wheat

By Maria Kolesnikova and Tony C. Dreibus Bloomberg

On May 28, Egypt, the world's biggest importer of wheat, bought 180,000 metric tons from Russia for $178.50 per ton, about $13 less than the U.S. price. The deal is one of many signs that Russia is challenging America's supremacy in the global wheat market. In the past 11 months Russia has won 58 percent of Egypt's regular purchases of wheat, compared with 40 percent the year before. The U.S. share of Egypt sales fell to 8 percent from 13 percent over the same period, says Egypt's General Authority for Supply Commodities.

For Russia, it's an extraordinary turnaround. As recently as the 1990s, it had to buy wheat from U.S. farmers to feed its people, so inefficient were its farms after decades of ruinous Soviet practices. Then Russian investors slowly started buying land and introducing modern farming in the country's fertile "black earth" region near Ukraine and the Black Sea. In 2002 the country emerged as a major exporter for the first time in decades by selling 15.6million tons abroad. "Exports suddenly became profitable," says Arkady Zlochevsky, president of Russia's Grain Union, a lobby group.

By 2008 global grain prices were reaching record levels, and Swedish, British, Chinese, and Korean investors were piling into Russian farmland. Today Russia exports 14 percent of the world's wheat, up from 0.5 percent in 2000. The U.S. share of wheat exports has slipped from 26 percent to 19 percent.

Moscow is now making dominance of the wheat market a goal, and it has a shot: The U.S. Agriculture Dept. predicts that Russia will become the top wheat exporter by 2019. President Dmitry Medvedev last year ordered the creation of a state company, United Grain, to modernize the storage and shipment of wheat in a $3.3 billion overhaul. United Grain will also pursue export deals in Southeast Asia and Latin America, says CEO Sergei Levin. Those regions are traditional strongholds for Australian and U.S. grain exporters.

U.S. farmers are worried. "The Black Sea region is becoming a bigger competitor for us," says Dean Stoskopf, 54, a wheat grower near Hoisington, Kan. Up to now, he says, U.S. farmers have commanded premium prices for higher quality—U.S. wheat generally has higher protein content than Russian grain and suffers less from insect infestations. That may change, Stoskopf fears, as the Russians improve their growing practices and storage facilities.

Some members of Congress want Washington to do more. "I would not rest on the attitude that we have a great product," says Senator Mike Johanns (R-Neb.), who was Secretary of Agriculture from 2005 to 2007. "Price is a factor. We should be working on free-trade agreements or very quickly we'll find ourselves behind." Free-trade agreements in certain parts of Latin America and Asia would open up new markets for U.S. wheat. Russia is part of a bigger problem, says Jason Britt, president of Central States Commodities in Kansas City, Mo. Wheat futures on the Chicago Board of Trade have fallen 32% in the past year as stockpiles have grown.

Kirill Podolsky, 39, is CEO of Valars Group, Russia's No. 3 wheat exporter. "We are completely opportunistic. We ship anywhere there is demand," he says at his headquarters in Taganrog by the Sea of Azov, which connects to the Black Sea. Valars will supply a third of the shipment in the Egypt deal. Podolsky founded Valars in 2006 and has spent $250million on farmland and $108million on equipment.

Vasily Pechersky, 64, who runs Valars' 41,230-hectare Sarmat farm, north of Taganrog, says his winter wheat yield was 4.4 tons per hectare, on a par with U.S. yields. He credits his U.S.-made New Holland tractors and harvesters as well as higher use of fertilizers and new technologies. "One New Holland harvester stands in for two Russian-made ones," he says. Russian-made tractors sit to one side, covered in rust.

The Russians still have challenges to overcome. Investors such as Podolsky bought land at top prices right before the global financial crisis and are struggling to pay off debts. Valars may sell shares on the market to repay $500 million of debt before investing anymore in farming: Wheat-growing brought "zero" profit last marketing year after a plunge in prices, says Podolsky. The Grain Union is asking Moscow for $320 million in subsidies to improve the profitability of exports. Such state aid could help Russia's growers compete even more ferociously with the U.S. on price.

China wage hikes boost costs but might help sales

By JOE McDONALD

The cost of hiring Chinese workers who supply the world with inexpensive furniture and toys is climbing. But workers with more money to spend is good news for foreign companies that see them as customers, not just factory labor.

Areas throughout China have raised local minimum wages and some foreign employers have given out hefty pay hikes. That, combined with an expected rise in China's currency against the dollar this year, will squeeze exporters of clothing and other low-margin goods, possibly forcing thousands to close or move to cheaper countries such as Vietnam.

"It is very difficult for us," said Danny Lau, chairman of the Hong Kong Small and Medium Enterprises Association. He said some 2,000 to 3,000 of an estimated 50,000 Hong Kong-owned factories in southern China's Pearl River Delta, an export hub, might close this year.

But putting more money in workers' pockets will help turn them into consumers and accelerate China's growth as a major market for imports from Boeing jetliners to Brazilian soybeans.

"This is good news. It's going to start driving consumer spending," said Standard Chartered economist Jinny Yan.

Beijing and other Chinese cities have raised minimum wages by up to 20 percent as part of efforts to narrow a yawning income gap that communist leaders worry is fueling political tensions. It was the first rise since the minimum wage was frozen in 2008 to help exporters hold down prices amid the global crisis.

Communist authorities who normally bar independent labor activity have allowed workers to demonstrate and sometimes carry out brief strikes for higher wages.

On Sunday, Taiwanese-owned Foxconn Technology Group announced the second in a series of raises that would increase pay by up to 65 percent at its factories in the southern city of Shenzhen. The company employs 300,000 people there making iPhones and other goods for Apple Inc., Sony Corp., Dell Inc., Nokia Corp. and Hewlett-Packard Co.

The wage hikes fit Beijing's economic strategy, which calls for encouraging China's own consumers to spend more in order to reduce reliance on exports and investment to drive growth.

The ruling party also is trying to shift more money down the economic ladder to defuse public anger that Chinese workers have gotten too little out of a boom that has created dozens of billionaires.

Wages as a share of China's gross domestic product have fallen steadily since the 1980s, from 56.5 percent in 1983 to 36.7 percent in 2005, according to figures from the umbrella group for legally permitted unions, the All-China Federation of Trade Unions, reported by the government newspaper Global Times.

Even at that level, rising incomes made China the biggest auto market last year by vehicles sold and a leading market in industries from air travel to fast food. Retail sales in April were up 18.5 percent from a year earlier.

"Demand is picking up because people have more money in their pockets," said Jing Ulrich, JP Morgan's chairwoman for China equities. She said higher wages could boost demand for products as varied as fast food and sporting goods.

Foreign companies' focus on China as a market was highlighted by a survey released in April by the American Chamber of Commerce in China. It found the top priority for 58 percent of its member companies was producing in China for sale to local consumers. Only 14 percent said their priority was to produce for export.

The wage hikes are likely to hit employers hardest in China's southeast. The area has thousands of factories
many owned by Hong Kong or Taiwanese investors that compete in global markets. Many have razor-thin profit margins and little power to pass on higher costs to customers.

The region was battered in 2008 by the collapse in global consumer spending. Thousands of factories closed and the government said as many as 30 million people were thrown out of work.

Wei Senchuan, general manager of Suzhou Hong Sheng Printing Co. in the eastern city of Suzhou, which makes housings for computers bound for export, said the minimum wage rise will add 6 to 7 percent to his costs.

Asked whether he could pass that on to customers, Wei said, "impossible."

Even after the latest increases, Chinese wages are still a fraction of those in the United States or Europe. Foxconn says pay for its employees in Shenzhen will be about 2,000 yuan ($293) a month.

"We don't see an end to an era of cheap Chinese goods," said Yan of Standard Chartered.

The minimum wage hikes should raise growth in domestic consumption by about 0.2 percentage points this year, according to Jun Ma, chief China economist for Deutsche Bank. He said that would come at the cost of a 0.4 percentage point rise in inflation and a 0.6 percentage point decline in exports.

The wage hikes "will serve as an important impetus to speed up the income distribution reform and economy upgrading," Ma said in a report.

Taiwanese companies had invested an estimated $122 billion and employed 14.4 million people on the mainland as of last year, according to Hung Chia-ko, a researcher at Taiwan's National Chengchi University.

Some are shifting operations to Southeast Asian nations such as Vietnam and other low-wage economies. But many are too dependent on China's networks of distributors and materials suppliers, say economists and company managers. And even in such places as Vietnam, with 80 million people, the labor pool seems small by comparison.

"Vietnamese workers go on strike every day," said Andrew Yeh, head of the Dongguan Business Association of Taiwan Investors in Dongguan, a city near Hong Kong, and the boss of a company that makes computer cables.

"And you have to be close to the market," Yeh said. "How do you set up your base in Vietnam and export to China?"