The landscape of American finance has been radically changed. The independent investment bank””a quintessential Wall Street animal that relied on high leverage and wholesale funding””is now all but extinct. Lehman Brothers has gone bust; Bear Stearns and Merrill Lynch have been swallowed by commercial banks; and Goldman Sachs and Morgan Stanley have become commercial banks themselves. The “shadow banking system”””the money-market funds, securities dealers, hedge funds and the other non-bank financial institutions that defined deregulated American finance””is metamorphosing at lightning speed. And in little more than three weeks America’s government, all told, expanded its gross liabilities by more than $1 trillion””almost twice as much as the cost so far of the Iraq war.
Beyond that, few things are certain. In late September the turmoil spread and intensified. Money markets seized up across the globe as banks refused to lend to each other. Five European banks failed and European governments fell over themselves to prop up their banking systems with rescues and guarantees. As this special report went to press, it was too soon to declare the crisis contained.
That crisis has its roots in the biggest housing and credit bubble in history. America’s house prices, on average, are down by almost a fifth. Many analysts expect another 10% drop across the country, which would bring the cumulative decline in nominal house prices close to that during the Depression. Other countries may fare even worse.