How could a U.S. domestic problem become a global liquidity crisis?

BY busadmin  October 9, 2008 at 3:08 PM EDT

Rupiah banknotes at a money changer in Jakarta, Indonesia; AP photo

Question/Comment: How could a U.S. domestic problem (the housing bubble) become a global liquidity crisis between banks putting all banks and consequently the economies worldwide in trouble? What needs to be done to prevent a global economic meltdown?

Paul Solman: It’s not just a U.S. housing bubble, I don’t think. Nor is it even just a WORLDWIDE housing bubble. It’s something more: a worldwide debt bubble that’s arguably been inflating for roughly 30 years.

Look at the ratio in the U.S. of debt (household, corporate and government) to GDP – economic output per year.

The data is imprecise, but roughly speaking, it seems to have doubled or more: from something like 150 percent to more than 300 percent. That would mean, for every dollar of wealth we generate each year, we owe $3.

Worldwide, the numbers may be even worse.

In 2000, historian James Clayton wrote a book called “The Global Debt Bomb.” In the six years thereafter, the size of the problem appears to have, if you’ll pardon the word, exploded.

We in America have been told, for so many years now, that we’ve been living beyond our means, it’s long been a cliche. Funny thing about cliches: they’re true.

By this analysis, the U.S. housing bubble was simply the latest manifestation of a world economy living on the come, borrowing and lending on the assumption that all collateral would be worth ever more, all borrowers would be ever richer, and thus able to service their loans. At some point, that figures to end. The point seems to be now.

As to what needs to be done – hey, if I had a good answer, you’d be the first to know. Maybe just suffer the contraction is all and live life more modestly.