Leading article: China in the financial driving seat

The downgrading of the US by Standard & Poor's from its triple-A status to a mere AA+ is generally agreed to be more symbolic than practical. The case for not getting too alarmed is strong.

The US still has the highest status from other agencies, notably Moody's. The risk of the country failing to pay its debts is small. The calculation on which the downgrade was made was, says the US Treasury, based on a flawed statistical analysis.

And while we're about it, the standing of the ratings agencies in general has never recovered from their disastrous misjudgements before the credit crunch.

All this true, but the basis on which the downgrade was made is hard to argue with. As Standard & Poor's observed, it "reflects our view that the effectiveness, stability and predictability of American policymaking and political institutions have weakened at a time of ongoing fiscal and economic challenges". Given the unimpressive way in which Republicans and Democrats handled the negotiations over the budget deficit, it is hard to argue with that judgement. Most observers would conclude that the country has for some time been living beyond its means, not least because of the costs of two ruinously expensive wars, a factor invariably downplayed by the neocons.

Things hardly look more cheerful in the eurozone, where market turmoil has, ironically, been aggravated by the holidays. Most fund managers are on vacation, leaving nervy subordinates to mind the shop. The downward movement in the markets undoubtedly has been aggravated by reliance on pre-programmed computers. But we cannot put the blame for febrile markets entirely on human investors subcontracting their judgement to systems. The absence of any strong political leadership last week made a bad situation worse.

In Britain, David Cameron, Nick Clegg and George Osborne were away, leaving Vince Cable and William Hague to calm investors. Christine Lagarde, new head of the IMF, is distracted by corruption allegations. The reassuring leadership provided during the last crisis by the partnership between Dominique Strauss-Kahn at the IMF and Gordon Brown in Britain has not been replicated by their successors, notwithstanding their resort to high-level conference calls from their holiday destinations this weekend.

Underlying the day-to-day jumpiness of the markets, there are far more intractable factors at play. The most basic of them is the shift of economic and financial power from west to east, notably from the US to China. That shift has political implications. The reaction of China, the largest holder of US debt, to the downgrading was for the official Xinhua news agency to call for the US to "address its structural debt problems and ensure the safety of China's dollar assets. International supervision over the issue of US dollars should be introduced and a new, stable and secured global reserve currency may also be an option". And what might that be? The yuan is the obvious currency the Chinese have in mind, although the reality is that yuan bonds will not be taking the place of dollar bonds any time soon.

In other words, China, as America's biggest creditor, wants the US to get a firmer grip on the deficit, and it doesn't seem to care whether it does so by increasing taxes and cutting defence, which the Republicans dislike, or decreasing welfare, which the Democrats object to. We have seen last week just how highly charged deficit reduction is in domestic political terms. The notion that this fraught issue may be determined, at one level or another, by China is something for politicians to ponder.

In fact, something like this dilution of domestic political sovereignty is already happening in the eurozone, where the bailouts and debt restructuring for troubled states have come at a price: increased fiscal austerity for the bailed-out nations. This is what institutions such as the European Central Bank and the IMF require in return for their support.

Tetchy Eurosceptics would put this more crudely: German financiers, who fund the lion's share of the eurozone bailouts, are effectively dictating other nations' retirement age, welfare benefits and pensions. This, it could be argued, is the logic of a common currency, but it has important repercussions in terms of sovereignty.

If we think the present crisis will blow over after the holidays, leaving us to resume business as usual in September, we may be in for some unpleasant surprises.