The G20's Global Blame Game

World leaders at the 2010 G20 summit. Tim Sloan / AFP-Getty Images

There have been countless market jitters and rebounds since the fall of Lehman Brothers, but last week's were notable. After seven days of slow drops, the Dow Jones industrial average plunged 179 points in one day, briefly dipping below 11,000 on fears that Europe's debt crisis was spreading and that Chinese authorities were about to put the brakes on growth because of inflation fears. (China's booming economy has thus far buoyed the world.) Food prices have been rising sharply in China, always a worry in a land where revolutions are often tied to hunger.

The market's plunge could herald a far bigger shock to the global economic system. As the European debt crisis demonstrates, rich countries have been unable to heed their own advice regarding deficits, advice they've often forced upon poorer nations. In emerging markets like China, on the other hand, runaway growth and an influx of hot money threatens to spark a currency war with the rest of the world, a trade war, or both. Rich and poor nations alike are rushing to tamp down the value of their currencies in order to give their exports a competitive edge. The same policy is being pursued by both China, for example, and the United States.

At the recent G20 summit in Seoul, countries stridently sought to defend their own interests rather than make the smallest concession to others on issues like trade imbalances and exchange rates. Given the size of the group and the divergent set of interests, negotiation among the G20 was never going to be easy. But this time around, things were particularly contentious. Surplus countries wrangled with deficit countries, democracies argued with autocracies, big countries squared off against small ones, and the West battled the rest. As always in such diplomatic wrangles, the messiness of the negotiations was made clear by the nebulousness of the final press releases, which left enough wiggle room for all 20 nations to sign.

As always, the tension ultimately springs from the dysfunctional economic relationship between China and the United States. Despite talk in both countries about rebalancing their respective economies, China's wealth is still largely driven by unnaturally cheap labor and cheap capital. That wealth, funneled into American T-bills, allows the United States to continue spending like a 14-year-old let loose in a mall with Mom's credit card.

The Chinese point to America's gridlocked political system and our inability to make tough decisions in a nonpartisan way and tell us we need to get our acts together. They are right. Americans look to China and wonder why the world's second-richest economy keeps saying it's a poor country and refuses to take more responsibility for solving global economic problems. They are right, too.

The result is that we are reaching what may become the most precarious moment in economic history since the financial crisis. Europe is beleaguered, as the debt crisis spreads. America wrestles with partisan politics that make economic action at home and leadership abroad near to impossible. Emerging markets are on the defensive as investors desperate for decent returns pour money in, pushing up inflation and leading policymakers to consider fiscal no-nos like capital controls and currency intervention.

It's a bad scene, and the only way out is to realize that we're all in this together. First, emerging nations should know that capital controls rarely work; indeed, they often exacerbate the problems of hot money because traders bet on the fact that currencies artificially kept down by governments will eventually rise and thus flood these markets with even more hot capital. Second, all nations should accept the fact that the dollar can't remain a sole global reserve currency and should work together to come up with a new "basket" system that includes the dollar, the euro, the renminbi, and other currencies. That would help mitigate the ability of individual nations to play beggar-thy-neighbor games by devaluing their currencies.

Finally, China and the United States both need to grow up and take responsibility for their own problems. Americans know that whatever China does, cheap manufacturing isn't coming back home. And the West isn't solely to blame for emerging-market bubbles. Even as the United States is busy pouring money into its own system, China has ponied up almost a billion dollars to prop up its stock market since the financial crisis. As we saw last week, we're just beginning to see the repercussions, at home and abroad.