Brad DeLong has a nice, subtle riff on the topic of what sorts of macroeconomic adjustments will be needed when the world finally gets tired of funding our trade deficit. As Glenn Reynolds would say, you should read the whole thing. (Follow the link, and look for the date 2002-03-18). One paragraph says,
Meanwhile--as long as the U.S. foreign debt is made up of foreign equity investments and foreign dollar-denominated securities--a large-scale dollar depreciation is not primarily our problem,* it's primarily their problem. It lowers American's terms of trade, yes, but the fall in the value of the dollar boosts the competitiveness of export industries. More important, it writes down the value of the external debt, and it does so smoothly and automatically. Thus the "surplus" countries have a much greater stake and incentive to balance up than America does to balance down (and Alan Greenspan has gotten quite attached to a sub-six percent unemployment rate).
The first point in that paragraph is that the United States differs from other countries with large external debts (think of Argentina) in that our debts are not denominated in foreign currency. Thus, when our currency collapses, our debt is not repriced upward, which would lead to bankruptcy. Instead, a collapse in our currency will be to "write down" our debt from the perspective of overseas holders.
The second point is that an alternative to a collapse of the dollar would be for European and Asian countries to their own expand domestic demand. That way, they could maintain full employment while reducing their trade surpluses. This is what DeLong means by "balancing up." Otherwise, if the U.S. is forced to "balance down" by cutting imports, foreign economies will run horrendous recessions.
Discussion Question. Many economists have pointed out that the U.S. role in the world economy is the "consumer of last resort," meaning that our trade deficits maintain employment throughout the world. Why is it so difficult for other countries to generate sufficient demand to avoid the need for this consumer of last resort?