Who will save the global economy this time?

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Photomontage by Alexander Ho for TIME; Reuters (2); Frank Rumpenhorst / EPA


Updated Aug. 9, 8pm EDT

In 2008, as Lehman Brothers collapsed, stocks melted down, Wall Street buckled and finance and trade froze from Tokyo to Chicago, governments and central banks across the world stepped in to save the day. Yes, the Great Recession was terrible, the worst economic downturn since the 1930s, but it could have been much worse without such massive and concerted intervention by the world’s policymakers.

Here we are, three years later, and facing a new period of financial turmoil. Monday was a sickening day on Wall Street: stocks tumbled in Asia, though they rebounded from a very dire opening. Tokyo closed down 1.7% and Hong Kong 5.7%. Seoul ended 3.6% lower, though it clawed back from an early 9.9% plunge. While U.S. markets bounced back on Tuesday, fears are mounting that once again the U.S. could slip into recession, maybe taking the world with it. And in Europe, the debt crisis rages on.

But this time around, who can step in and stem the damage?

Not governments. In 2011, governments are the problem. Policymakers simply do not have the capability – financial or political – to act as the white knights, the cavalry racing to the rescue just in the nick of time, as they did in 2008. That has huge implications for what will happen to the world economy in coming months.

To see the difficulty we face, take a look at the causes of the current chaos compared to three years ago. In 2008, the turmoil was created by the financial sector – the hole left by the subprime mortgage fiasco and the housing bubble. Governments could step in with stimulus plans and liquidity injections to rescue banks, unfreeze credit, stabilize markets and create new sources of demand.

Now fast forward to today. The sources of the financial instability are the governments themselves. In the U.S., Washington gridlock, a disappointing fiscal reform plan and rising national debt led Standard & Poor’s to strip America of its top credit rating. In Europe, governments in Spain and Italy are under pressure to control their debt and press forward with austerity programs and economic reform, while the euro zone’s leaders continue to flail about for a solution that could save the monetary union. In other words, the renewed crisis in the world economy is being caused by a deterioration in the confidence of investors, and the public at large, in the political leaders of the West and their ability or willingness to tackle their financial problems.

So what does that mean? Fiscal policy as a tool to fight a possible economic downturn or recession is simply impossible. As the U.S. economy slows down, don’t expect the government to step in with any more stimulus. The pressure will be on budget cutting and revenue raising, not spending. Ditto in Europe. With borrowing costs being driven upward by terrified investors, governments in Rome, Madrid and much of the rest of the continent have no other option but to control spending, whatever the conditions in the real economy may be. And don’t forget the U.K. is also in budget slicing mode. And can Japan avoid the same? Probably not. That means the world’s richest economies can’t expect government spending to place a floor under growth. In fact, government may end up doing just the opposite – sinking growth further through budget cutting, removing demand from the economy and adding to unemployment.

On the monetary side, policymakers may also be out of ammunition. The usual tool used by central bankers to fight recessions – lowering interest rates – is useless today, since rates are already so low. The Fed has its key rate near zero. That’s why there’s already talk of QE3. In my opinion, though, central banks can do little. The problem we face today is not liquidity – there’s lots of that splashing around – so more liquidity is not a solution. Perhaps some more easing could calm financial markets, but will it help spur on economic growth? It hasn’t so far.

And not only Western governments are facing such constraints on policy. Take a look at the conundrum facing China. In 2008, Beijing unleashed a massive program of spending and easy credit to keep the economy humming through the Great Recession. The boost lifted much of Asia with it, softening the blow from the downturn in the entire Asian region. Can Beijing do it again? Hard to say. The Chinese government has witnessed its own debt escalate in recent years, and that may limit its ability to spend at will to hold up growth this time around. But more importantly, China has a major inflation problem. Despite consistently hiking interest rates and curtailing the banks’ ability to lend, Beijing has been unable to control prices. On Tuesday, the government announced the consumer price index jumped more than expected in July – 6.5% from a year earlier. Flooding the economy with money while inflation is still high would run the risk of fueling it further. So Beijing may have some delicate balancing to do in coming months.

The bottom line here is that we are looking at a period of slow growth, or perhaps even another downturn or worse, without the hope of government policy alleviating some of the pain. This is something very new for the world economy. I hope we don’t discover what happens.

Michael Schuman is a correspondent at TIME. Find him on Twitter at @MichaelSchuman  You can also continue the discussion on TIME’s Facebook page and on Twitter at @TIME.