What if, for the better part of a decade, the United States had been living way beyond its means, consuming more than it produced and investing more than it saved? What if China and Taiwan and Saudi Arabia and even Japan were willing to finance that trade deficit on easy terms because it allowed them to peg their currencies to the dollar in a way that generated higher job creation and economic growth in their home markets? And what if this mutually advantageous imbalance in trade and investment flows wound up creating a huge supply of cheap dollar-denominated credit that virtually invited the bankers and brokers and rating agencies and private-equity firms in U.S. markets to throw caution to the wind and make ill-advised lending and investing decisions?
Not only is this a plausible explanation, but I think it is the underlying story. And if that is the case -- if the story of the credit bubble and its bursting is more fundamentally about macroeconomic imbalances than microeconomic failures -- that has very different implications for where we go from here.
For what it means is that things won't be "fixed" simply by having the financial sector write off its losses and bad loans and promise to do a better job next time with risk management. Rather, it will require a reduction in the overall standard of living in the United States so that the country as a whole begins to live within its means.
Having traded away our future for a mess of mercantilist produced pottage, the U.S. now must learn to live in it. Chapter 10 of Trading Away Our Future discusses what to do to end the currency manipulations and encourage domestic investment.