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Another Shot Across Asia's Bow

Premier Wen Jiabao says China's growth is 'unstable.'

A shocking announcement by China's Premier Wen Jiabao that his country's growth was "unstable and environmentally unsustainable" sent markets in Asia into the red Friday, reversing earlier gains. Since the beginning of the year, China's premier has become increasingly critical in public of the country's economy. But Friday's comments included the most severe criticism yet.

"China's investment growth is too high, lending growth too fast, liquidity excessive, and trade and international payments very imbalanced," Wen said,


reports. "The biggest problem in China's economy is that the growth is unstable, imbalanced, uncoordinated and unsustainable."

The timing of the announcement is reminiscent of Wen's Chinese New Year holiday declaration at the end of February to crack down on corruption and fraud on local stock exchanges. Many say that was responsible for the massive 8.8% declines in the Shanghai stock exchange on Feb. 27, as fears brewed over the holidays while the markets were shut.

Asian markets closed down tamely Friday considering the severity of Wen's comments, prompting fears that the real impact will be felt early next week. As was the case in February, investors will have two days to mull Wen's latest announcement, which many see as compounding uncertainty over the valuation of China's markets.

The Hang Seng ended the day down just 0.08% at 18,953.50, the Nikkei shed just 0.69% to end the week at 16,744.15 and the Shanghai Composite Index was down 0.72% to 2930.48. The dip into the red followed gains in intraday trading, where the Hang Seng reached 19,130.10, the Nikkei capped 16,939.43 and the Shanghai Composite gained slightly to 2979.71 before sliding back.

The SSE 180 -- an index comprising Shanghai's top 180 companies -- has most surprised investors this week, climbing above the pivotal 6000 mark, where it dropped off on Feb. 27. The index ended the day down 1.72% to 5922.07. The 6000 benchmark is seen as less important, however, than the 3000 level for the Shanghai composite index.

In Hong Kong, investors were speculating over the potential effects of the debacle surrounding subprime mortgages in the U.S. and revisiting the importance of the yen carry trade -- the borrowing of yen to finance investment in higher-yielding assets elsewhere. The broadest consensus is that the subprime mortgage deterioration, despite constituting less than 10% of America's mortgages, will prompt banks to tighten credit standards. That could undermine U.S. consumer spending and prove a drag on Asian exports.

Chisato Haganuma, a senior Japan strategist for Nomura Bank in Hong Kong, says Asian exports -- a crucial source of income to the region -- will "soften considerably" and that the second-quarter outlook for the region is "gloomy".

Just as appetites for risk were starting to normalize again, fears that the U.S. subprime dilemma may have a further destabilizing impact on exports are prompting renewed concerns about an unwinding of the carry trade.

Weakening exports could potentially prompt a further unwinding of the carry trade, which could send shares spiraling even more, depending on how quickly and to what extent the subprime mortgage situation is resolved. (Friday's news that

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agreed to sell $2.7 billion of loans to an unnamed buyer was taken as another sign that the situation can be resolved without major financial upheaval.)

Still, investors in Asian ETFs may be among the hardest hit if Wen's comments are taken seriously by investors, and if the yen continues to appreciate. In recent trading, the dollar was trading at 116.72 yen, down from 117.56 late Thursday.

Charles Biderman, founder and CEO of Trim Tabs, writes that ETFs investing in non-U.S. stocks lost $193 million this week, while ETFs investing in U.S. funds gained $11.223 billion. The implication being that investors have been moving money out of foreign and emerging-market stocks and into the relative safety of the U.S. exchanges.

The leading redeemer is

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, losing $227 million -- or 1.6% of its total assets; the ETF has lost 7.3% of its value in the last month. On Friday, the index was recently unchanged.

In other Asian ETFs, the

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has lost 9.3% of its value this month. The

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is off more than 5% on the month, while the

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has plummeted 9.9% in the last month. (In recent trading, Hong Kong ETF was down 0.5% while the other two were relatively flat.)

As of Thursday's close, the

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-- a proxy for emerging markets worldwide -- is off 6.9% from an all-time high of 119.58 at the end of February. In recent trading Friday, the ETF was marginally lower.

"It seems more investors are adopting bullish forecasts for U.S. stocks, on the assumption that the economy will make a soft landing," says Haganuma. "However, U.S. share prices have on occasion fallen even at times of economic growth, due to uncertainty about corporate earnings."

In other words, the recent resilience to bad news of the U.S. exchanges may prove short-lived.

Daniel Harrison is a business journalist specialising in European and emerging markets, in particular Asia. He has an MBA from BI, Norway and a blog at

. He lives in New York.