Q. Although some Asian markets have faltered this year, particularly in the second quarter, 2003 saw a dramatic turnaround in performance. Apart from the weak U.S. dollar, what has accounted for the revival in Asian markets?
A: The Asian recovery has been driven primarily by China. China has been investing heavily in manufacturing and infrastructure capacity, and its demand for materials to support that growth has been driving growth in Japan as well as some parts of Southeast Asia.
       In addition, we've had a confluence of other favorable factors. Commodity prices, particularly of soft commodities like rice and palm oil, have come off long-depressed periods.
       That has spurred domestic growth, particularly in rural areas of Southeast Asia. That has meant a higher propensity to consume because most of these people are fairly poor and spend pretty much everything that they take in. The weak dollar has also helped exports, particularly by reviewing the electronics exports industries in such places as Singapore.
       Overall, we've had a fairly reflationary environment in Southeast Asia and Asia generally, including Japan. We have started to see a turnaround in some of the deflationary forces that were evident in the region since the currency crisis several years ago. We've seen property prices revive in Japan, especially in some key urban areas, and more broadly in Thailand and even India. So it's been broad-based recovery.

Q: China's GDP grew at 9.1% rate last year and soared about 9.7% in the first quarter. There are concerns that the economy may be overheating, as it did a decade ago. Do you think that's happening?
A: There are some signs of overheating, but compared to some phases, it still seems fairly mild by Chinese standards. There's clearly overheating in some areas of manufacturing investment, such as aluminum, where capacity has far outstripped production of raw material. In other areas, however, particularly in property, which is where we saw the makings of a bubble last time round, I would say the underpinnings are reasonably strong. Prices have increased in places such as Shanghai, which you would expect since it has the highest rate of income and most vibrant economic growth.
Beyond Shanghai, however, the property price bubble is not as apparent as last time, when you had apartment buildings going up in random rice fields and that type of thing. This time, it's more orderly. So, although there clearly are signs of overheating, I don't think that the economy is in the danger of a pop zone - although authorities clearly would like to see some of this growth slow especially in areas where the government worries about severe overcapacity.

Q: Will the authorities achieve their goal of a soft landing?
A: While the economy may be slowing a bit, it's not in for a hard landing at this point.
       To have a hard landing, interest rates would have to go a lot higher. And the government has a few other tools, one of which is to let the currency appreciate slightly. We haven't seen that yet in China, so I think it's a bit premature to be talking about a hard landing. If there were a hard landing, the hardest hit areas would be those that have been the most "inflated" - primarily raw materials, commodities such as steel, etc.

Q: How is T. Rowe Price International taking advantage of investment opportunities in China?
A: We have been buying companies in Japan that sell capital goods to China such as machinery and high tech products as well as consumer products that are selling very well in China. In the New Asia Fund, we can buy Chinese securities directly. Most of the domestically listed Chinese companies, typically known as the A-share companies, have weaker corporate governance standards and much weaker accounting standards. In fact, their accounting is very opaque. That's because many of them are state-owned rather than pure private sector companies.
       In the New Asia Fund, we invest in what are known as H-shares, which are Chinese-listed enterprises in Hong Kong, as well as in Hong Kong companies with significant operations in China. We've also been playing this through Taiwan, where you've had significant investment across the Formosa Strait into China. Many Taiwanese companies now have very large portions of their revenues and profits coming from China. In addition, there obviously has been an impact in the large cyclicals. So, we have also invested in South Korean steel and Taiwanese shipping that have benefited from China and other Asian trade.

Q: What are some of the risks of investing in China or in companies that are taking advantage of the growth in China?
A: I believe the main risk is the perception of a sharp economic slowdown and also the risk of a rise in interest rates. I think that rising interest rates is a sign of strength because it means that Asian economies actually have recovered enough to see bank lending growth and money starting to flow into real productive assets. On the other hand, it means that a lot of the excess liquidity in the markets will go elsewhere, so you may see further correction in stock market prices.
       Accounting issues also pose a risk for investors, as well as the difficulty of verifying things like a company's local tax compliance. Because most Chinese companies are highly preoccupied with market share or rapid revenue growth, we must make sure that this revenue growth actually translates into profits, and, more important, into cash flow.

Q: India is growing in the 7% to 8% range, but the recent unexpected change in political leadership has undermined investor confidence. How do you view the investment climate in India?
A: The surprise victory of the Congress Party in the parliamentary elections has heightened market volatility, but we do not feel the change in leadership will reverse the country's prospects for continued reform and privatization. The message of the election, however, was that for any party to stay in power it is crucial that reforms create jobs and have measurable impact on the lives of ordinary people. They need to kickstart investment in agriculture and construction, particularly housing. But I am pretty sanguine about politics in India because power is not so concentrated. The story in India has been the unleashing of the private sector. This is so far advanced that no single party has the power to turn back the clock.
       The other changes I'm observing in India have been put in place over a number of years. While China has tended to deregulate in large, very visible steps, India has deregulated in a series of very small steps, and it has undertaken the hard work of putting together the regulatory and institutional framework to deregulate. So those changes are quite robust, and although they take a long time to implement and affect the economy, when their impact is felt, it's quite tremendous and lasting. I don't expect this to change.
       For example, India has slowly been deregulating its banking sector and forcing banks to upgrade their lending culture, as well as their balance sheets. It has also deregulated the telecom industry. Five years ago, no one would have dreamed that the private sector in India would dominate the telecom sector - that's everything from mobile phone services and fixed-line services to long distances - because only five years ago this was an entirely state-dominated sector. The private sector has not taken over state assets. Instead, it has built from scratch, which is also quite different from China. This has created a pure private sector with none of the problems that emerge when you take over a state asset and try to change it or fire employees or change the work culture.

Q: What has been your investment strategy in India?
A: Interestingly, although India is much less of a headline generator than China from an economic perspective, from a stock market perspective, and from a company quality perspective, India is, at the present, head and shoulders above China. So, we've been investing directly in India now for a number of years. There is a vibrant private sector in India, and we've been able to participate in industries ranging from software, such as Indian Telecom, to mobile telecom service providers, such as Bharti Tele-Ventures. Recently, we've been looking at new opportunities. After 2005, for example, India will come into the world textiles market.
       We have also been looking at domestic plays. Indian banks, particularly private sector banks, are high-quality companies trying to replicate a developed world model using the lower-cost structure that will appeal to customers in India. So they are giving people "first-world" service at "third-world" costs.

Q: Do you think India or China offers the best long-term potential opportunities for investors?
A: I think both China and India will be the most interesting opportunities in Asia over the long term, so it's not an either/or choice. Over time, I think that China and India will come to dominate what is now known as the "Asia investment universe" and, indeed, even the emergence markets universe. Even without including China and India at full weight, Asia already accounts for over half of market capitalization in the emerging market indices. I think that will increase.

Q: After a decade of stagnation, Japan's economy, the world's second largest, appears to be in the early stages of recovery, and the stock market has also been recovering. Is Japan finally turning the corner?
A: I think that Japan is in much better shape than in quite some time. As in India, there have been a series of small changes at the private sector level as well as with government deregulation. Those changes and the vibrancy of the strong companies are starting to overwhelm the weakness of the big, highly indebted companies. So you're starting to see growth at an aggregate level.
       Throughout the whole period of depression in Japan, however, many companies thrived. It's just that those who've been gaining are now big enough to attract attention. Long-depressed property prices are also finally picking up. We've seen tremendous investor interest in Japan. Japanese equities are no longer an outlier in valuation terms but are valued more or less in line with world equities. In addition, you are starting to see a positive trend in returns for many Japanese companies, driven by several factors. One is that balance sheets have been restructured, so higher revenues and good cost controls have meant that overall returns on the business are turning up after a long period of decline.

Q: Oil costs could become a significant problem for nearly all Asian economies. What impact do you see this having?
A: I think this is clearly a risk, particularly in the longer term. If you look at the intensity of oil development in Asia now, it's quite low. That's frankly because there aren't that many cars on the road and not a lot of industry in many parts of developing Asia. Given that growth is accelerating and oil intensity is rising, I think this is very cautionary thing that governments must start to address.

Q: Looking ahead, how do you assess the prospects for continued development in Asia and the influence of China and India?
A: I think the prospects for Asia are very bright over the next few years, driven mostly by the emergence of China and India. Taiwan and Hong Kong are being integrated into the greater China economy, and we often think of China, Taiwan, and Hong Kong as what is termed "Greater China." The integration is very high at an economic level and increasing at the political and social level.
       Japan will benefit in particular from supplying capital goods to China, as well as high-end materials. And Southeast Asia will continue to be a supplier, particularly of food stuffs and raw materials to China, as well as being part of a greater manufacturing chain.
       India also will continue to prosper, we believe, because it has a very high-quality labor force. This is not just in areas that we've already seen, such as software, but in areas that have what I call "high intellectual property content," such as pharmaceuticals, chemicals, and anything involving research and development.
       One of the most exciting things is that the investment universe is growing by leaps and bounds. We've seen that even in a developed economy such as Japan, where the universe of small companies that we can invest in is growing. These companies are finding new niches to exploit, and they are exploiting the weaknesses of big companies that don't move quickly. The other encouraging thing, specifically in Japan, is that the management of these companies, by and large, tends to be of a younger generation, so they are much more focused on shareholder returns than many of the older companies in which we used to invest.
       In Southeast Asia, particularly in India and China, we've seen the development of private sector enterprise, which again is very exciting. When I started investing in these markets years ago, many of the companies essentially were state owned. Today, the private sector is very vibrant, and we continue to see new companies with new business models come to list. In both China and India, we are going to see companies leapfrog straight into the higher level of technology. So I think it's fairly exciting time to be in Asia now.

Q: This is an encouraging profile, but we also have to keep in mind that this historically has been a very volatile region for investment.
A: Absolutely. Even if we look at the parallel of the U.S. economic development, for example, in the 19th century, I think we saw similar sorts of starts and stops in what is a very long powerful uptrend. The same will hold true in Asia.
       We must be mindful of those types of pullbacks, but we also must be reminded that that's when one should be looking to invest - when things look quite bleak, when people have given up on the prospects for growth, because I think the powerful underlying trend is the emergence of large parts of Asia in the world economy.
       Editor's Note: Bharti Tele-Ventures and Indian Telecom were not held in the New Asia Fund as of June 30, 2004. For more information on the T. Rowe Price New Asia Fund visit www.troweprice.com