BEIJING -- Li Tao, a 33-year-old engineer for Siemens AG, unfolded a silver, clamshell-shaped mobile phone and broke into a grin as the orange lights in its frame began flashing.

"It's unique," he said with an excited laugh.

What's more remarkable about the handset, nicknamed "Leopard," is its birthplace. It was developed not at Siemens' headquarters in Munich, but in a white six-story building on the outskirts of Beijing by Mr. Li and a crew of young Chinese engineers.

Siemens' decision to turn east for engineering know-how represented a big gamble for a company that has relied on the ingenuity of its German engineers for more than 150 years. It also reflected one of Germany's biggest economic challenges ever: The erosion of its dominance in engineering, long the lifeblood of the world's third-largest industrialized economy and a source of cultural pride.

For years, Germany, like many other countries, lost manufacturing jobs to China and other low-wage countries in Asia and Eastern Europe. But its engineering sector remained a safe haven, one of the few areas where the country could hold its own globally. Highly paid German engineers proved their worth with a steady stream of innovations, including the world's fastest train, designed by Siemens and ThyssenKrupp AG.

Now engineering jobs are beginning to move abroad as well. "If the Chinese can produce high tech at low cost, one has to consider where that's going to lead," said Siemens Chief Executive Heinrich von Pierer, who in May announced plans to hire 1,000 Chinese engineers this year and invest about $1.23 billion in China. "In Germany, we have to ask ourselves what we have to offer."

Germany's predicament shows how the flow of increasingly sophisticated jobs into low-wage markets is reshaping economies around the world. And the biggest winner -- China -- is not merely taking away existing work from industrialized nations, but is also creating thousands of new jobs.

Germany's preeminence in engineering is being threatened by several stubborn problems. The most obvious is high labor costs. Mr. Li and his colleagues earn about a fifth of the typical salary for a German engineer and work up to 25 hours a week more. At an average age of 32, they are about a decade younger, and turning out to be just as good. "We've reached a level of maturity comparable to Germany, where they've been developing mobile phones for more than a decade," says Beijing-based Wolfgang Klebsch, the head of Siemens's research-and-development operation here.

A lagging German education system also is contributing to the engineering decline. German high-school students rank below average in math and science compared with 31 other countries, according to a recent study by the Paris-based Organization for Economic Cooperation and Development. The nation's universities, once famous for their Nobel prize winners, are now overcrowded and underfunded, and the number of engineering graduates has declined by almost a third since 1995, to about 36,000 a year. Moreover, 14% of Ph.D. graduates in engineering and science head for the U.S. every year in search of better opportunities, according to the German Scholars Association.

Beginning with the development of the gasoline engine and X-ray technology in the 19th century, engineering innovations have nourished Germany's economy and fueled exports ranging from Mercedes-Benz sedans to Leica cameras. The country's engineering prowess grew out of a robust education system that produced more high-school graduates in the 19th century than the rest of Europe combined. Its guild system, under which budding tradesmen became apprentices at an early age, also promoted ingenuity.

Today, engineering remains crucial to Germany's manufacturing sector -- which accounts for a quarter of the nation's gross domestic product, a higher share than any other major industrialized nation. Engineering is also at the core of the country's Mittelstand, the 3.3 million small and medium-size businesses that make up 60% of the economy.

'Year of Innovation'

With so much at stake, Chancellor Gerhard Schroeder is trying to shore up the engineering sector. He declared 2004 the "year of innovation," and recently unveiled plans to upgrade 10 universities to "elite" status. "We're doing everything we can to get Germany's innovation systems up and running," he said.

But so far, the effort is sputtering. Germany's exploding deficit and stagnant growth forced Mr. Schroeder to trim federal support this year for research and development. Companies also are investing less. Corporate spending on R&D, which accounts for two-thirds of the total for the country, fell slightly last year, according to German industry trade groups, and a recent survey found that companies plan to invest even less in 2005.

China, meanwhile, is marching in the opposite direction. In recent years, the Chinese government has moved aggressively to improve technical education, both to serve the booming economy and to make the country less reliant on foreigners. The result: China's universities crank out more than 300,000 engineers annually -- almost 10 times the number in Germany.

Siemens, which makes everything from power turbines to kitchen stoves, has had a relationship with China since the 19th century. In 1879, the company delivered a generator to power the lights in Shanghai Harbor. In 1899, it built China's first tram line in Beijing. Its activities were limited after the Communists took power. When the Chinese government cracked open the door to foreign investment in the late 1970s, Siemens was one of the first companies to jump in. Soon, it was producing components for telecommunications infrastructure and switching gear. Shanghai is now home to its largest operation outside of Germany.

In December 2000, Siemens decided to take its involvement in China a step further. It dispatched Mr. Klebsch, an experienced handset-development engineer, to China to set up its first R&D center outside of Germany.

Within six months, he had hired 50 engineers, all in Beijing, to work on a high-speed wireless network and on software development. It had taken him twice as long to do similar hiring in Germany a couple of years before, he says. "The advantage of China is that everything is fast," he says.

In April 2002, Munich gave the Chinese team a new task -- the reengineering of Siemens mobile phones for low-end markets from the Middle East to Eastern Europe. To make the phones less expensive, the Chinese engineers removed Internet hardware and other costly features.

That summer, Siemens hired Mr. Li away from rival Philips Electronics NV, where he had worked on the development of home appliances, including shavers, blenders and hair dryers. A native of the coastal city of Dalian, Mr. Li is typical of the emerging professional class in China that companies like Siemens are eager to tap. He earned two degrees in his home province, in electrical engineering and business. In 2000 he set out for the capital.

His education has helped him realize the Chinese dream. He and his wife, a General Electric Co. manager, share an 1,100-square-foot, air-conditioned apartment in central Beijing and plan to start a family. He drives a late-model Toyota and enjoys vacation benefits comparable to those in many western countries.

At Siemens, Mr. Li became project manager for the development of one of the reengineered phones. His team completed the project in just six months, half the expected time.

With more than 500 models available at any given time, the Chinese mobile-phone market is among the world's most competitive. It's also the biggest, with annual sales of about 65 million units, and the fastest growing. Siemens generates nearly half of its $4.93 billion of sales in China with telecom equipment, much of it from handsets.

But by 2003, Siemens' share of the mobile-phone market had dropped to about 5% from nearly 10% in 2000. A new class of Chinese manufacturers had entered the market and were using flashy designs and bargain prices to rob customers from incumbents like Siemens, Nokia Corp. and Motorola Inc.

The sharp decline forced Siemens to confront a hard truth: The Chinese found the German phones boring. Siemens's phones came in dark colors and were shaped like candy bars. The Chinese rivals offered an array of bright colors and funky designs. The company's main problem was that the Chinese were flocking to clamshell-shaped mobile phones, a style the company didn't offer. Company officials decided they needed to move quickly to close the gap in their product line.

In the spring of 2003, Rudi Lamprecht, the head of Siemens's wireless division, decided to take a chance: He assigned the Chinese team to develop a new clamshell phone. He wanted to save money and see if the engineers could handle the job. Mr. Li was put in charge of the project, overseeing about 90 Chinese engineers.

Some Munich employees were skeptical that the Chinese engineers would be able to develop a new phone on their own and raised questions about the plan, according to Mr. Klebsch. "There was a lot of misunderstanding about the capabilities of Chinese engineers," he said this spring, standing in the Siemens testing lab here.

Nearby, a team of Chinese engineers sat at a console monitoring the emissions of a handset sealed in a 30-square-foot, foam-padded chamber as Mr. Li looked on. At another station, a colleague checked a phone's durability by dropping it on the floor. Upstairs, engineers stood over vise-like contraptions and tested how the handsets' circuitry reacted to different electrical impulses. "There really is no difference" between the Siemens labs in Germany and the one here, said Mr. Klebsch.

Nevertheless, the project was the most technically difficult so far for the Chinese team. To compete with the latest clamshell offerings from its competitors, Siemens had to offer something special.

The Chinese engineers decided they wanted the phone to have a special horseshoe-shaped antenna that could double as a hook for a carrying strap -- a particularly complicated problem. None of the other Siemens handsets had anything like it, so most of the components had to be designed from scratch. They also wanted the phone to have two displays, an inside one for features like an address book and games, and an outside one that showed the time and caller's name when the phone is closed. The technical specifications for the phone were more than 100 pages long.

Tight Deadlines

By the middle of last year, Mr. Li and his team were working late to meet tight deadlines. As team leader, Mr. Li consulted regularly with colleagues in Germany and the U.S., arriving at work early and leaving late after conference calls.

The result, delivered in time for celebrations marking the 100th anniversary of Siemens's Shanghai office in May, was a silver phone with orange lights embedded around a clamshell frame that flash in different sequences to signal calls, messages and alarms. The phone's keypad can be used to compose light shows.

Mr. Li, who talks in rapid-fire English, praises the "experience and knowledge" of his German masters and is careful to credit their input on the project. But he isn't afraid to laugh at their peculiarities either. Walking across Siemens's campus-style compound in northern Beijing, he pointed out that the 1980s-era gray, low-rise buildings were built entirely of German materials, an indication of the company's initial determination to micromanage every detail of its Chinese operations. For most of the past 20 years, Munich treated the Chinese outpost like a colony, with a large staff of German expatriates at the top and little chance for locals to advance.

Today, things are changing. The company canteen may still offer German wurst for lunch, but the operation here is increasingly Chinese. During his May visit, Mr. von Pierer announced plans to build a 30-story, $100 million skyscraper on the Beijing site.

In addition, Mr. Klebsch and 200 other top Siemens managers in China have been told by Munich to find Chinese replacements. Mr. Klebsch says some of his colleagues in Germany have reservations.

"It's a threat to their own organization," he says. "The products we've developed here are for the global market. Our phones have the German quality standard."

Sensitive to political fallout at home, Siemens rejects suggestions that it plans to shift R&D jobs out of Germany. Still, new R&D positions are increasingly being created abroad and not in Germany. Mr. von Pierer plans to hire more software engineers in China and build a central research facility there.

Mr. Klebsch's operation recently became too large for the cramped facility where the Leopard was designed, so Siemens rented out a neighboring high-rise. Mr. Klebsch, who now has a penthouse corner office, says he expects to hire more than 800 engineers by the end of next year for a total of 1,200. The goal is to design five new models of handsets simultaneously.