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Nathan Gardels: Liquidity makes the world go ‘round. Six months ago the commentary was all about how the world was awash with a global savings glut -- not least because of China's $1 trillion in reserves along with petrodollars -- and this was driving global growth, including keeping down U.S. long-term interest rates through massive purchase of T-bills and mortgage-backed securities. Now all the talk is about “liquidity crunch” as risk is re-priced and credit has turned tight. Yet, in the larger, longer term, all that liquidity in foreign reserves is still out there. Doesn't that suggest that once the mortgage market is sorted out here in the U.S., we'll be back on the path to global growth? Henry Paulson: I agree with the fundamental thrust of your comment, but let me put it in a broader perspective. Unlike other times of turmoil in the market, the current stress wasn't precipitated by problems in the real economy. The current problems were precipitated by excesses in the form of undisciplined lending practices which came about, in part, because of great liquidity and a strong economy. In a number of markets, lenders reached for yield at a time when risk premiums and interest rates were at historic lows. It will take a while to work through this now. But we have the advantage, which differentiates this from other periods of stress, of having the background of an exceptionally strong global and U.S. economy. It will take longer in some markets than in others. We're already seeing improvement in a number of credit markets. One of the markets, obviously, where it will take longer is the sub-prime mortgage market, where we will see recess over the next 18 months to two years. Now, the reason it will take a while to work through this -- more than weeks -- is because we are more integrated into the global economy than before and because of the complexity of the securitized mortgage products. The key to liquidity coming back to certain markets, to making the credit market function as normal, is investors regaining confidence that they understand the security, the risks associated with that product and pricing that risk properly. You are essentially right in your question: Because the U.S. has a big, resilient economy, we always work through these issues and, as you say, the big liquidity pools are still there and the global economy as a whole is strong. This gives me great confidence that we are going to work our way through this. Of course, you can't have the kind of housing decline and turmoil in the sub-prime mortgage market we've had in the U.S. without there being some penalty to growth. But as we work this through, this economy is going to continue to grow, the standard of living will increase and real wages will go up. Clearly, there are the pools of capital looking for investment and strong underlying fundamentals. Our major corporations are well capitalized. Our financial institutions are well capitalized, with record earning. Pension funds and insurance companies are in good shape. Gardels: The other side of the great liquidity pool of Chinese reserves is the $800 billion U.S. current account deficit. U.S. Federal Reserve Board Chairman Ben Bernanke told the Bundesbank recently that “this imbalance can help reduce tendencies toward recession” because these reserves keep long-term rates down by investing in U.S. T-bills and debt. And he said this condition could last “a few decades.” It sounds like this is just what you are saying. Paulson: I have great confidence in him, but I'll let him speak for himself. I will also say that if you look at the economic data that just came out, the U.S. had a small surplus in July. More importantly, if you look at the data over the last year, from July 2006 to July 2007, U.S. exports grew at 15 percent while imports were up a little over 5 percent. What we are seeing is the strength outside the U.S. economy is benefiting us, driving jobs and... [ABSTRACT FROM PUBLISHER]