FEDERAL PAPERS SHOW CHINESE ARMS EARMARKED FOR U.S. GANGS.

Byline: David E. Sanger The New York Times

Posing as arms dealers with ties to the mob, two federal agents at the center of a sting operation spent the last 16 months infiltrating an arms ring that was funneling automatic weapons produced by China's two main state-controlled arms exporters to the streets of the United States, federal officials said Thursday.

In court papers unsealed Thursday, federal agents described secret meetings with arms dealers in Silicon Valley, and faxes - apparently intercepted by wiretaps - between those dealers and Chinese arms manufacturers in Dalian, a Chinese industrial center near the North Korean border.

The officials of the state-controlled companies, from descriptions given in the court papers, were clearly excited about the prospect of arming American gangs in need of heavy weapons to wipe out rivals.

The papers said the undercover agents spent months negotiating with the Chinese middlemen, who wanted to hide the true origin of the shipments by running them through little-policed ports in Cambodia, the Philippines and Thailand, accompanied by misleading papers.

The payments went through an account in the giant Hong Kong office of the Bank of China, Beijing's state-run bank.

The investigation came to a halt Wednesday night in San Francisco with the arrest of seven people - but not the Chinese arms officials whom the U.S. Customs Service and the Bureau of Alcohol, Tobacco and Firearms had hoped to lure out of China. About 2,000 AK-47 assault rifles were seized in the raids.

At the center of the deal, federal officials said, was Hammond Ku, a 49-year-old Taiwanese, who lived in Soquel near Santa Cruz, and was described by federal officials as having deep ties to the two companies, which in turn are closely linked to China's top leadership. Ku has yet to appear in court.

By the time he was arrested Wednesday, federal officials said they had moved beyond the AK-47s and were discussing with him another, far larger purchase, including anti-tank rockets and shoulder-fired anti-aircraft systems, capable of knocking airliners out of the sky from miles away.

The court filings asserted that at one point last year Ku boasted that he could bring 300,000 AK-47s into the United States.

As the details of the sting poured out Thursday, State Department officials began pressing the Chinese government here and in Beijing to explain why two of its largest state-run companies were attempting to put guns on the streets of America.

``We've told the Chinese that we are just at the beginning of figuring out if there is going to be a political component to our response to this,'' one senior State Department official said Thursday. ``We have a lot of questions to ask them, and the first is, what are your state companies up to?''

But no one in Washington would say whether they thought Chinese government officials either participated in or knew of the smuggling operations or whether the deals were cut by rogue elements in the government arms companies. One said that the whole operation ``had a Wild West feel to it that makes you think it was mostly run the work of corruption, not government policy.''

But whatever China's answers, several members of Congress said they were rethinking their support for the renewal of China's ``most favored nation'' trade status.

Both President Clinton and GOP presidential front-runner Bob Dole have both come out in favor of renewal, saying any other choice would essentially cut off U.S. economic interchange with the world's most populous country.