Here's the headline that has everybody all atwitter: China to buy Texas oil. The China National Offshore Oil Corp ( CEO)has indeed announced it will pay $1.1 billion to Chesapeake Energy ( CHK) Corporation for a third of the company's South Texas shale resources in the likely to be prodigious Eagle Ford shale formation. CNOOC will also kick yet another billion dollars to finance drilling costs, and Chesapeake energy's CEO is touting this deal as a great way to create jobs and local and state tax revenues in Texas. The question, of course, is whether China should even be allowed to consummate this deal. In thinking about the issue, it's important to first note that China is hardly the only foreign entity involved in the Eagle Ford bonanza. Companies from both Canada and Norway have likewise acquired assets in Eagle Ford. So how should we think about this? The first thing to recognize is that Eagle Ford will be a very important source of both oil and natural gas in the United States. It's the sixth largest discovery of domestic petroleum in our history. For decades, it was ignored. However, because of a new technology called horizontal drilling and advances in so-called "hydraulic fracturing," the oil and gas treasures of Eagle Ford can now be extracted much more easily and economically. Here, then, is why we should be very leery of allowing a company like the China National Offshore Oil Corp. into the American heartland. For starters, unlike the companies from Canada and Norway, CNOOC is a state owned enterprise and therefore an instrument of a Chinese energy policy based on state capitalism rather than free markets. The Chinese government's energy policy rejects the use of free markets for the sale of energy resources. Instead, it seeks to acquire control of the resources and reserve them for its own domestic use. Second, with China, there is always the perennial "what's good for the goose is good for the gander" issue. In fact, China recently began an accelerated strategy to develop shale gas within China and will use this latest deal to acquire technologies related to shale gas development as well as knowledge about best drilling practices and other critical information. Of course, once it acquires this technology and information, the protectionist Chinese government will not allow foreign companies the same kind of access to its own shale gas industry.
Third, in and of itself, this deal may seem fairly innocuous. However, it also represents a "camel's nose under the tent" probe by the Chinese government for bigger and bolder acquisitions that may not be in the strategic interests of the United States -- remember the controversy five years ago when China tried to buy Unocal. Finally, deals like this play an important part in China's currency manipulation as China seeks to diversify out of U.S. government bonds and acquire hard assets like oil reserves which represent a better inflation hedge. To be clear here, to maintain the grossly undervalued Chinese yuan's fixed peg to the dollar, the Chinese government must circulate U.S. dollars back into the U.S. One way to do this is to buy U.S. government bonds, which is how China has acquired almost $2 trillion of U.S. treasuries. But buying hard U.S. assets like oil reserves is now seen in Beijing as a better way for China to manipulate its currency because hard assets are better inflation hedges. In the final analysis, the best way to look at this deal is as just another monthly payment by America on its mortgage to China. Until China freely values its currency, lowers its Great Walls of Protectionism around its various markets and resources, and plays by the rules of free trade, Chinese companies, whether state-owned enterprises or not, should not be allowed to acquire American companies. Peter Navarro is a contributor to The Street and author of "Seeds of Destruction."