for what has been a relatively open trade policy. how effective we are in meeting this political challenge is likely to depend significantly on how effective we are in improving educational opportunity and achievement in the united states, and perhaps also in improving the design of the temporary assistance we provide those individuals who bear the brunt of the adjustment costs that come with greater global economic integration. these policies by the united states would help improve the prospects of a more benign adjustment process. but they would not be sufficient to produce a more favorable adjustment path. a more favorable adjustment scenario would require policy changes in each of the major economic areas. for global growth to be sustained at a reasonably strong pace during this period of adjustment, the desirable increase in u. s. savings, and the necessary slowing in u. s. domestic demand growth relative to growth of u. s. output, would have to be complemented by stronger domestic demand growth outside the united states, absorbing a larger share of national savings. exchange rate regimes, where they are currently closely tied to the dollar, will have to become more flexible, allowing exchange rates to adjust in response to changing fundamentals. reforms to financial systems and to social safety nets over time would help reduce the need for exceptionally high levels of domestic saving we see in many countries. the global nature of these requirements does not imply that the united states can put the principal burden for adjustment on others. if we focus adequate political capital on the factors within our control, we will have more credibility internationally in encouraging policy changes outside the united states that might reduce our collective risks in the adjustment process ahead. what does this mean for monetary policy? monetary policy itself cannot sensibly be directed at reducing imbalances, but the past and future evolution of global capital flows will of course matter for monetary policy by virtue of their impact on the outlook for output and inflation. for example, the forces that seem to be supporting an unusual level of capital flows into the united states may be materially dampening the level of forward nominal and real interest rates, and other things being equal, this would tend to produce higher levels of demand growth than would prevail in the absence of those factors. thus, the factors that have contributed to this pattern of external imbalances complicate the task of judging the appropriate stance of monetary policy in the united states today. perhaps it makes sense to conclude with the more general observation that changes in the size of global capital flows and the accompanying imbalances increase the importance of sustaining

extended period of time presents very little risk to the u. s. and world economy. these arguments are worth some attention. one view is that the rise in the surplus saving of the rest of the world, the relative ease with which capital now moves across borders, and the increase in the relative attractiveness of claims on the united states together may suggest that the world can sustain larger imbalances, more easily, for a longer period of time than would have been possible in the absence of these conditions. this is true. but even if we could be confident that the world would be comfortable financing the united states on these terms for some time, that fact alone does not mean that it is prudent for the united states to continue borrowing on this scale, particularly given that doing so means that the net obligations of the united states to the rest of the world are likely to rise sharply relative to gdp. another argument for being relatively sanguine about the risks evokes the so - called lawson doctrine, noting that when imbalances are principally the reflection of the decisions of private savers and investors, those imbalances should not be a concern to policymakers. this may be true, but it does not apply to the present circumstances. the fact that we are using a substantial part of the resources we are borrowing from the rest of the world to finance an unsustainable level of public dissaving leaves us more vulnerable than if those resources were being used for productive private investment. large structural fiscal deficits limit the size of the sustainable external imbalance for any country, even the united states, and they necessarily increase concern about the terms on which we are likely to finance the present imbalance. there is also a view that the exchange rate arrangements that exist in the present context — the substantial share of the world economy that shadows the dollar — should increase our confidence that this pattern of imbalances could be financed without stress for some time. but a prolonged continuation of the exchange rate arrangements that have given rise to the large increase in foreign official investments in u. s. financial assets is unlikely to be consistent with the domestic requirements of those economies, and for this reason many are already in the process of change. the impact of a reduction in the scale of official accumulation of dollar assets could potentially be fully offset by increases in purchases by private investors. but even in the context of a continued high degree of confidence in the relative return on claims on the united states, it is hard to