For the past year London has felt like two worlds. The credit crunch turned bankers in Canary Wharf and the City into Ancient Mariners, prophesying doom more and more urgently to friends in other parts of town who just yawned and turned away from their glittering, self-pitying eyes. Those friends - marketing people, lawyers, headhunters - went on hiring, filling smart restaurants and generally feeling pretty buoyed up by a healthy stock market that seemed as deaf to the Ancient Mariners' message as they were. Until now.

It is as if we have been in a state of suspended animation, like cartoon characters frozen in mid-air after jumping off the cliff. Now gravity is winning. Brits are cancelling foreign holidays. Housebuilders such as Bovis and Barratt are slashing their workforces by up to 40 per cent. Marks & Spencer is suddenly unexpectedly empty. The FTSE 100 is on the slide, despite being buffered by mining and oil stocks, which have rarely had it so good. The credit crunch is hitting home.

A bleak year is ahead. Some of the pain is a necessary correction. House prices had to come down from their fantastical peak. First-time buyers may no longer be able to get on the ladder without a bigger deposit, but at least prices may return to saner levels, if they can find anything for sale.

What is depressing is how the British authorities seem to have compounded the effect of the slowdown. Bankers in many countries played games with what the investor Warren Buffett shrewdly called “weapons of financial mass destruction”, lending too much against hopelessly inflated assets.

But the British played some of the wildest games. British banks hold roughly £640 billion more in customer loans than customer deposits. That is more leveraged up, over equity, than any US bank is legally allowed to be.

The regulators who allowed this to happen were once admired for their pragmatism. Now they are derided around the world for their sloppiness. I meet British bankers who say that they are routinely embarrassed, in meetings from Germany to China, by gibes about the uselessness of the London authorities. Hank Paulson, the US Treasury Secretary, brought a stern message to London last week: that the regulators need to get a grip. It is extraordinary that he felt that message was needed, seven months after queues of frightened pensioners brought down Northern Rock.

But it was. On Tuesday Bradford & Bingley executives came close to losing their shirts. (They seem to have discarded their bowler hats three years ago, along with their common sense, when they decided to hand out mortgages without asking borrowers to prove their income). For months, the hapless B&B management had been denying the obvious need for fresh capital. Yet the Financial Services Authority limply failed to get action. The US authorities have quietly ensured that more than 40 banks have recapitalised, to shore up the economy. Their UK equivalents had too little sense of urgency. But time is the enemy of confidence, and confidence is the only currency that matters in a downturn.

Bradford & Bingley will survive. But this is about more than one feckless institution. Financial services are one of Britain's greatest export products. They account for almost a third of the economy, twice as much as manufacturing. Our financial acumen is one of the best hopes we have of being able to keep our footing in a global economy in which power is shifting from West to East. The foolish behaviour of our banks and regulators is actually accelerating that shift. Banks that blew giant holes in their balance sheets out of greed are filling them with international capital, including secretive government funds from the Middle East and Asia. The China Investment Corporation now owns 9.9 per cent of Morgan Stanley. The Abu Dhabi Investment Authority owns 4 per cent of Citigroup. Qatari and Dubai funds own a third of the London Stock Exchange.

These investments are not necessarily sinister. They are in part a reflection of fortuitous timing: as the credit crunch has drained cash from the City and Wall Street, rising oil prices have spawned a geyser of Arab money looking for a profitable home. It's a fair trade: we pay more for our petrol and get investment back into our companies, although that investment should be more transparent. But I meet open-minded, well-travelled financiers who are concerned about the motives of Russian and Chinese investments. They fear that while these countries are interested in capitalist profits, they are ultimately unsympathetic to many of the freedoms that underpin the Anglo-Saxon model of capitalism.

This is an unfashionable view, only whispered in financial circles, because we have benefited so much from global capital markets and because capital is supposed to be non-ideological. But these questions matter, because the scale of the shift will be phenomenal. Some economists predict that within five years, sovereign wealth funds may be able to buy a third of all the equities listed on global stock markets.

It was Karl Marx who suggested that capitalism sows the seeds of its own destruction. He, too, is out of fashion. And he was far too eager to be proved right. But ultimately capitalism does depend on trust.

There is little we can do about the inevitable rise in prices, now that China has come to the end of its deflationary boom. But it is a terrible shame that we are squandering our reputation for competence in the one sector in which we could most easily have been pre-eminent in the new world order.

The latest news is more than a grim blip in the economic cycle. It heralds a fundamental shift in economic power that has been hastened by idiots. “I will tell you how to become rich,” Mr Buffett once said. “Be fearful when others are greedy.” We were all greedy together. We were complacent. Now it hurts.

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