Just when they thought everything was settled, McCarthy
, head of the British Financial Services Authority, called Geithner. McCarthy informed Geithner that the FSA still needed to assess whether Barclays had the appropriate capital structure to bear the risk of acquiring Lehman Brothers.
After hanging up, Geithner angrily stormed into Treasury Secretary Paulson's office and informed Paulson and Cox that the British financial regulator might veto the deal.
Paulson immediately expressed disbelief.
He asked Cox to call McCarthy again to confirm.
After receiving the same response, Paulson personally called British Chancellor of the Exchequer Darling, who also expressed concern about the potential risks posed by the deal. Barclays' acquisition of Lehman Brothers would threaten British financial security—especially after Standard Chartered's acquisition of Merrill Lynch.
After hanging up, Paulson lashed out,
"We've been fooled by the British. They don't want to import our cancer!"
He also considered calling Bush and asking him to speak with the British Prime Minister to see if there was any room for maneuver.
However, he seemed to have heard from the British Chancellor of the Exchequer that Prime Minister Brown was aware of the matter, so he gave up his last ditch effort.
"Why didn't we think of this before? This is fucking crazy!"
Geithner exclaimed at the situation.
Paulson, Bernanke, Geithner, and the Wall Street giants had made a grave mistake. They hadn't considered the possibility that British financial regulators would reject the deal, nor that there was no alternative plan.
At this point, everyone was in danger.
The subprime mortgage crisis was intensifying. Bear Stearns was acquired by JPMorgan Chase under the protection of the Federal Reserve, and Fannie Mae and Freddie Mac were taken over by the Treasury Department.
Financial firms realized that the scale and complexity of Lehman Brothers' toxic assets could trigger financial shocks that could spread to their own companies.
Everyone was looking for a way out.
Neither the US government nor Wall Street financial institutions wanted to do anything or take any responsibility for Lehman Brothers, so why would Britain willingly step into the trap?
British Chancellor of the Exchequer Darling had previously warned Paulson over the phone:
"We need to determine what we will take on and what the US government is willing to do."
Paulson's response was:
"Then there's nothing we can do."
Clearly, Wall Street and the UK government would respond in kind.
This was a day of despair for Lehman.
After Sunday, time was running out.
With the collapse of Barclays's acquisition of Lehman, Paulson immediately realized that Lehman's bankruptcy was inevitable.
Paulson and Bernanke, Lehman's former rescuers, immediately became the ones pulling the plug.
They urgently urged the Lehman Brothers board to file for bankruptcy as soon as possible to prevent the spread of negative market expectations.
At 1:00 a.m. on July 14, the board of directors of Lehman Brothers announced:
"Lehman Brothers Investment Corporation has filed for Chapter 11 bankruptcy protection under Chapter 11."
Thus, the 158-year-old Lehman Brothers bankruptcies became the largest investment bank bankruptcy in American history.
The collapse of the company, with debts to the tune of $613 billion, not only left over 20,000 employees unemployed, but also triggered a chain reaction in financial markets. On Monday morning, as soon as the stock market opened, the US market suffered a "Black Monday"—the Dow Jones Industrial Average suffered its largest single-day drop since 9/11, and global stock markets collapsed.
The next day, stock markets in Asia Pacific, Japan, South Korea, Hong Kong, and Taiwan all fell by more than 5%.
Thus, the global economy encountered a Lehman Brothers moment, and the subprime mortgage crisis ultimately led to a global financial tsunami.
...
"We are all witnessing history, aren't we?"
Baron, now back in New York, said calmly from his office at the DS Group New York branch on Wall Street, observing the seemingly normal, yet oppressive, flow of people downstairs.
"This is truly one of the few times in my career I've witnessed such a tense moment... Your Highness."
Next to him was Standard Chartered Bank President Davis, who lamented,
"The collapse of Lehman Brothers is just the beginning. I'm afraid there will be even greater tsunamis ahead."
"But the good news is that we're standing on the shore now. We just need to wait for the tide to recede so we can pick up the prey stranded on the beach."
Indeed, after Lehman Brothers' bankruptcy, another piece of good news arrived: after acquiring the previously collapsed IndyMac Bank, the Federal Deposit Insurance Corporation (FDIC) and Standard Chartered Bank are still negotiating on the acquisition of some of IndyMac's assets.
With Lehman Brothers' bankruptcy, perhaps the bank finally realized it needed to prepare for the acquisition of more bankrupt banks, and so quickly reached an agreement with Standard Chartered.
Standard Chartered would acquire all of IndyMac's branches and certain assets for $1.5 billion, in exchange for taking over some of its employees.
These IndyMac Bank branches and assets will be merged with the Merrill Lynch Industrial Banking branches and assets they acquired, forming Standard Chartered Bank's commercial banking arm in the United States.
The impact of Lehman Brothers' bankruptcy has also impacted the nation's two remaining independent investment banks, Goldman Sachs and Morgan Stanley.
However, the most critical situation is at American International Group (AIG), the nation's largest commercial insurer, which is embroiled in a vast swathe of toxic assets, including mortgage-insured securities (CDS).
Following Lehman's bankruptcy, mortgage defaults surged, prompting numerous financial institutions and counterparties that purchased such insurance to file claims against AIG.
Without financial assistance, the company might not survive for days, if not hours.
AIG-FP, a subsidiary of AIG, traded a large number of credit default swaps (CDS). Due to a lack of oversight and AIG's indirect reputational guarantee, clients have not required AIG to increase its trading margin requirements, leading to its long-standing asset-light, high-risk operations.
AIG's deep involvement in CDS was driven by the fact that during the real estate boom, from 2001 to the end of 2006, American housing prices continued to rise.
AIG saw insuring subprime mortgages as a risk-free profit opportunity. To earn $200 million to $300 million in annual premiums, the company guaranteed a large number of CDS bonds, making it the largest insurer in the US. Now, the repayments on these CDS bonds alone are enough to plunge the company into ruin.
As mentioned earlier, to sell more derivatives, financial companies often insured a single CDO bond several times... effectively creating multiple CDSs.
According to statistics, the global CDS market reached a total value of $62 trillion in 2007, far exceeding the US GDP of $14.48 trillion that year. Meanwhile, the total value of US subprime mortgage obligations (CDOs) was only $7 trillion.
According to statistics from the third quarter of 2007, the top 25 US banks held a staggering $14 trillion worth of CDS products.
Therefore, the default risk posed by Lehman's collapse could have crushed the seemingly vast financial system simply through the use of credit default swaps (CDSs).
Because of the greed of Wall Street capital, the default insurance CDS, originally intended to reduce asset risk, became the nuclear bomb that collapsed the financial bubble.