Over the last few months, America has seen economic turmoil that, for many experts, is conjuring specters of the Great Depression. Foreclosure continues to cripple millions of homeowners and countless communities. Now, on a scale that few had foreseen, a larger, resultant crisis is unfolding. A domino trail of collapsing Wall Street giants has led to massive government intervention. As Congress mulls the components of this rescue plan, debate rages over its chances of success. In this Special Report, we will provide ongoing coverage of the financial crisis and its effect on our economy and our communities. 

Fed Rescues Continue As Business Models Teeter

If American International Group Inc., the world's largest insurer, had collapsed, the American economy-and those of industrialized nations across the globe-might have been thrown into recession or worse.  To prevent that from happening, the Federal Reserve structured a rescue plan.  According to the Mobile Register, the U.S. government will receive a 79.9 percent equity stake in AIG in return for an $85 billion loan to keep the insurer alive.  This Fed rescue follows a similar one for Fannie Mae and Freddie Mac, which provide liquidity to the mortgage market by purchasing loans from banks and other lenders.  Fannie and Freddie are now in conservatorship under the authority of the Federal Housing Finance Agency.  In the insurance world, AIG is a giant that deals with financial institutions all over the world, insuring $88 billion in assets, which include mortgages and corporate loans.  The Fed said that AIG's failure could "lead to substantially higher borrowing costs, reduced household wealth and materially weaker economic performance."  The day before the Fed's loan announcement, the major credit rating agencies had cut AIG's ratings.  New York Governor David Paterson had agreed to let the company use a bridge loan from its subsidiaries to stay afloat, but said the insurance company had 24 hours to come up with the cash it needed to remain solvent.  With AIG on the brink, the stock market wobbled and central banks across the globe pumped billions of dollars into their national economies.  The U.S. Fed came up with $70 billion; the European Central Bank provided nearly $100 billion for 15 nations; the Bank of Japan supplied $24 billion; and the central bank in England came up with nearly $36 billion.  Other financial institutions are still in trouble.  After the U.S. government backed away from rescuing Lehman Brothers, that investment bank filed the largest bankruptcy in the history of this country.  While there was speculation that the British bank, Barclays, might purchase Lehman Brothers, it decided not to buy all of the company. Instead, and with approval from the bankruptcy court, Barclays will pick up the company's North American investment banking and capital markets businesses for $250 million, and the company's New York headquarters building along with two data centers in New Jersey for another $1.5 billion.

After outlining that Merrill Lynch agreed to be purchased by Bank of America, that Lehman Brothers filed for bankruptcy, that AIG is on the ropes, that Bear Stearns had to be rescued, and that Fannie Mae and Freddie Mac were taken over by the federal government-the Mobile Register concluded that Wall Street's business model has collapsed and "Wall Street as we know it is kaput."  The paper says that Wall Street's current business model has three parts.  First, financial companies have expanded well beyond their traditional roles as advisers and traders acting for their clients.  Now they invest for themselves, with what has turned out to be disastrous results for some.  Second, compensation on Wall Street is heavily dependent on annual bonuses that can reach ten times the six-figure base salaries made by managing directors.  Third, investment banks leverage their investments by using borrowed money.  Lehman Brothers held equity last year of $23 billion while its securities totaled nearly 30 times that -almost $700 billion.  With this kind of leverage, the potential for profits and losses is massive.  Some calculations put the leverage ratios at Fannie and Freddie in excess of 60 to 1. The Wall Street business model resulted in large risks taken with staggering leverages as investment bankers chased bonuses by increasing short-term profits.  When mortgages went bad, corrupting the securities into which they were bundled, the same leverage that created spectacular profits began to push losses beyond what Wall Street could cover.

The Financial Market Bailout
The Brookings Institution, September 26, 2008

Bush Said Considering Speech to Nation on Economy
The Associated Press, September 24, 2008

'Grave threats'
Fed Chairman Urges Congress To Act on $700B Bailout Package
CNNMoney.com, September 24, 2008

Eakes: Bailout Must Give Homeowners Access to the Courts
The Center for Responsible Lending. September 23, 2008

$700 billion Wall Street Bailout Inequitable and Fails to Address the Core Problem: The Foreclosure Crisis
The National Community Reinvestment Coalition, September 22, 2008

A Brief Guide To Fixing Finance 
The Brookings Institution, September 22, 2008