GLOBAL LIQUIDITY & MARKETS. DEBATING THE "SOURCES" OF LIQUIDITY
. Paul McCulley. "Global Central Bank Focus", PIMCO Bonds

Paul McCulley, the PIMCO economist, sees a deflationary credit contraction ahead. If the "ongoing meltdown in the sub-prime mortgage" spreads to other parts of the credit markets, the Federal Reserve's stance is likely to become unambiguously more restrictive. Presumably, this is due to the dynamics of an inverted yield curve: if demand for bank reserves decreases (following a more general slump in credit demand), then the Fed has to destroy bank reserves in order to prevent a downward move in the fed funds rate .

David Malpass: new sources of liquidity
While McCulley may be right, he may be disregarding the impact of other sources of liquidity.The point is made by Bear Stearns economist David Malpass:

We note brimming reservoirs of global liquidity at corporations, foreign central banks, petro-dollars, hedge funds and private equity funds, huge increases in global monetary base ready for money multipliers, $4 trillion in low-yielding Chinese bank deposits, $5 trillion in low-yielding U.S. time deposits, $10 trillion in low-yielding Japanese financial net worth, $27 trillion in medium-yielding U.S. household financial net worth. We disagree with the view that the world is over-leveraged, in that many pools of liquidity aren't leveraged.

The shape of the yield curve seems to confirm McCulley's bearish views. FX and commodity markets participants, on the other hand, look more bullish.