Factbox: Nominal or "real" yuan forex rate to buy locomotive?

(Reuters) - One of the new arguments the Treasury is using to justify its decision against branding China a currency manipulator is the rapidly rising "real bilateral exchange rate."

The nominal exchange rate is about 6.6 yuan to the dollar, close to its level for the past three months and up about 3.7 percent since Bejing announced an easing of foreign exchange controls in June. But add in the strong inflation buffetting China and Treasury says the yuan is rising at a real, inflation-adjusted annual pace of about 10 percent.

Following is Treasury's effort to describe this abstract concept using very hard assets -- railroad locomotives that cost $2 million in the United States and 13.2 million yuan in China -- the same price at the current exchange rate.

NOMINAL YUAN APPRECIATION

If the yuan, also known as the renminbi, rises 10 percent against the dollar, the exchange rate will be 6 yuan to every dollar. This would increase the dollar price of the Chinese-made locomotive to $2.2 million, or 10 percent above its U.S.-made rival engine.

INFLATION RISES IN CHINA, YUAN FLAT

Assuming the nominal exchange rate remains unchanged at 6.6 to the dollar, inflation in China can still raise the cost of the Chinese locomotive. This example assumes that U.S. inflation is zero and Chinese inflation is 10 percent, lifting the cost of the Chinese locomotive to 14.5 million yuan. At the 6.6 yuan per dollar exchange rate, the dollar price of the Chinese locmotive in dollars is now $2.2 million, or 10 percent higher.

INFLATION RISES IN CHINA, YUAN RISES

Exchange rate appreciation and higher domestic inflation also can work together to create a "real bilateral appreciation" of the yuan against the dollar. This example assumes that the yuan rises 10 percent against the dollar and China's inflation rate is 10 percent while the U.s. rate is zero. The inflation rate pushes up the local price of the Chinese locmotive to 14.5 million yuan, and the exchange rate shift means that in dollars, the Chinese locomotive now costs $2.4 million -- a 21 percent rise, or twice that of nominal appreciation alone.

OTHER FACTORS

The Treasury acknowledges that there are other factors that affect the relative price of U.S. and Chinese goods, and that prices of particular goods may not have a "one-to-one correspondence" to relative inflation rates.

In other words, a lot of intervention can occur at the company, financing and government level to determine the final cost of Chinese made goods -- and U.S. locomotives, for that matter.

Just ask Pakistan, which last year chose to buy 150 locomotives from General Electric Co (GE.N) for $477 million over those offered by a Chinese rival. What clinched the deal for GE and its Erie, Pennsylvania, factory was the U.S. Export-Import Bank's decision to provide the same generous financing terms as those offered by the Chinese government.

(Reporting by David Lawder; Editing by Kenneth Barry)