Janet Bush: As the rest of us tighten our belts, Uncle Sam is guzzling our savings to quench his deficit

Central bankers and finance officials never, knowingly, say anything interesting but their rhetoric on the falling dollar has become unusually fruity as the clash of economic interests intensifies. The European Central Bank chief, Jean-Claude Trichet, said the most recent dollar downturn against the euro was "brutal". And given the damage being done to the eurozone economy by the rising euro, US Treasury Secretary John Snow's recent remark that the eurozone was being irresponsible by not growing fast enough was inflammatory.

Japan, taking a double hit from dollar weakness (it makes its exports to the US more expensive and decimates the value of its huge dollar reserves), was finally moved to threaten the US, hinting that it might not be so inclined to finance the US deficit by buying Treasury bonds if America continued to encourage the dollar to devalue. Meanwhile, China, another huge lender to the US, delivered a none too subtle sideswipe. The deputy governor of the People's Bank of China, Li Ruogu, said that the US current account deficit was not sustainable and added: "China's custom is that we never blame others for our own problem. The US has the reverse attitude - whenever they have a problem, they blame others." The US has, without success so far, been putting intense pressure on China to end its currency peg against the dollar, which has protected its exports even as the US currency has plunged.

This is the winter of our collective discontent. There have been pretty bad currency misalignments before. The Plaza Accord in 1985 saw the finance ministers and central bankers of Britain, France, Germany and Japan meet with their US counterparts to sign an agreement to pursue an orderly appreciation of their currencies against the dollar. The same trick is desperately required now. But this imbalance has been building for more than 30 years and there is no solution in sight.

A précis: in 1945, America, which then accounted for around 75 per cent of the world's GDP, agreed to make the dollar the anchor of the world economic system, converting dollars into gold. To start with, the system worked - dollars flooded out to a world devastated by war. But the tables were soon to turn as the US started running large current account deficits, largely because of massive spending on wars in Korea and Vietnam. By the 1970s, concern about America's creditworthiness was growing and France threatened to start cashing in its dollar reserves for gold. The response from America was dramatic. On 15 August 1971, President Richard Nixon announced that the US would no longer convert dollars into gold and declared that the $61bn of debt it owed to foreigners would only be paid in the form of US paper. He then imposed a 10 per cent surcharge on all imported goods to the US and said that this would remain in place until foreign countries forced their currencies higher to the extent the US required to spur its exports and close its trade deficit. That September, the US Treasury Secretary, John Connally, summed up America's attitude: "We had a problem and we are sharing it with the world just like we shared our prosperity. That's what friends are for." Over the next few years, the US bludgeoned its way back to current account balance by pursuing a policy of benign neglect of a falling dollar. Japan and Europe tried desperately to stop the dollar devaluation by buying the US currency (Germany's central bank once bought $2bn in a single day) but failed; their exports and their economies slumped.

It is worth reminding ourselves of this episode because we are in the early days of another deadly game of financial chicken. This time, however, the imbalance is far bigger, the potential economic pain far more excruciating. Let's paint the problem in broad numbers. The US current account deficit is approaching 6 per cent of GDP and some say it will reach 8 per cent by 2008. The US needs to attract a net $2bn a day to finance this deficit; this sucks in some 80 per cent of the world's liquid resources; yet the US economy accounts for only some 23 per cent of global GDP. One nation's consumption boom is monopolising the world's investment resources and, so far, those nations feeding its prodigious appetite have done nothing about it.

The US needs a huge devaluation in the dollar if it is to rebalance its economy. It needs to raise interest rates to curtail domestic demand, and to have a lower dollar to boost net exports as compensation. On its effective index, the dollar has now fallen by some 16 per cent since its peak; Bernard Connolly, a global strategist at Banque AIG, believes that another 25 per cent is necessary but, because that would crush the economies of Japan and the eurozone, it may not be allowed as large a devaluation as it needs. As the chart shows, the world's central banks have increased their foreign exchange reserves by some $1.5 trillion over the past three years ($1 trillion was added in only 18 months compared with the nine years it took to add the previous $1 trillion) as they sought to arrest the dollar's decline.

If they hadn't, the dollar would be far weaker than it is; exporting to the US would be even more difficult; the economies of Asia and the eurozone stagnant. But this effort is also desperately wasteful, locking up the savings of the thrifty in Europe and Asia entirely unproductively instead of investing them usefully. And it ducks the core issue: that a single economic power is living beyond its means, paid for by the prudent, arresting their development and unbalancing the world economy. When the Chairman of Japan's ruling Liberal Democratic Party warned America that there would be "enormous capital flight from the dollar" unless it acted to arrest its decline, he was sending a shot across America's bows but it would be surprising if it presaged any genuine challenge to the status quo. If Japan were to dump its Treasuries, it would trigger a cataclysm in the American economy and therefore the global economy. For now, the betting must be for a continuation of the current painful muddle.

China slips through America's back door

Imagine you have exchanged contracts with a buyer for your house but have not moved out and the new owner keeps wanting to measure for curtains or have the builders in to estimate on renovations? It must be how America feels when it sees China, acknowledged to be the world's next economic superpower, moving in on its territory.

China is everywhere, doing deals, most conspicuously in Latin America. Chinese President Hu Jintao went on a four-country tour of America's backyard last month, dispensing good will and promising $30bn (£15.7bn) of investment, $19bn to Argentina alone. In Santiago, he agreed to formal talks on a free-trade agreement with Chile; China has just taken over from the US as the leading market for Chilean exports. Brazil, China's second-largest trading partner, granted it formal recognition as a "market economy" which, under World Trade Organisation rules, makes it more difficult to penalise China for dumping exports; in return, China said it would support Brazil's drive for a permanent seat on the UN Security Council. Brazil has resisted Washington's plan for a Free Trade Area of the Americas; but it is contemplating a bilateral free-trade pact with China.

China's main aim is to ensure the long-term flow of raw materials such as iron, soya beans, zinc, tin, copper and oil needed if its economic expansion is to continue. However, it has not limited itself to economics; it gave a generous aid package to Dominica in March in exchange for the island severing diplomatic relations with Taiwan.

Many Latin Americans are content to see China muscle into US territory. The continent is fed up with American meddling, whether it is rumoured US help for an attempted coup in Venezuelan government or austerity under the International Monetary Fund's structural adjustment programmes.

But the region may just be swapping one rapacious superpower for another. China's emphasis on exporting commodities rather than finished goods limits the development of Latin America and depresses world prices; and if China continues sucking in the world's natural resources at this rate, there won't be enough for everyone else.

Janet Bush is an economic consultant and is currently writing a book about the unravelling of dollar hegemony