Global stocks tumbled and oil prices plunged on Monday as United States investment bank Lehman Brothers filed for bankruptcy. Investors bailed out of risky assets, fearing the credit crunch may worsen.
Some dealers say the situation is worse than the Wall Street crash of 1929 at the start of the Great Depression.
On Monday, Wall Street recorded its worst day since markets reopened after the attacks of September 11, 2001, with the Dow dropping 500 points, or 4.42%.
European shares slid about 4%, while shares in Japan, South Korea, China, Hong Kong and Taiwan have fallen by between 5% and 6%. In Australia, the market was down 2%. The New Zealand market fell 2.5% when it opened on Tuesday and closed down nearly 3%.
Finance Minister Michael Cullen says the meltdown in US financial stocks is one of the worst financial crises since the 1929 Wall Street crash, but New Zealand banks remained sound.
"It's still very unclear how this will impact upon the wider economy. This is probably the worst financial crisis for a very long time indeed; that doesn't make it the worst economic crisis. The US economy itself is continuing to grow during the current year."
Other financial institutions shaky
The failure of Lehman Brothers, the fourth-largest US investment bank, has dealt a blow to the fragile global financial system, showing that no company, whatever its history or reputation is guaranteed to be safe.
The bank had incurred losses of billions of dollars after making bad investments in the US mortgage market.
Brokerage firm Merrill Lynch, also stung by the credit crunch, on Monday agreed to be taken over by Bank of America Corp.
And there are fears that American International Group (AIG), once the world's largest insurer, could also face collapse after it had its credit rating cut. It is taking steps to raise money amid reports it is seeking a $US40 billion emergency loan from the Federal Reserve.
AIG, which has a big portfolio of securities backed by mortgages on houses in the United States, lost 60% of its value on Wall Street overnight.
AIG, which accounts for 7% of the New Zealand insurance market, said in a statement on Tuesday to insurance brokers that AIG New Zealand belongs to a section of the company that remains strong and has good cash flow and a deep asset base.
AIG in New Zealand has 45,000 customers.
In Washington, US President George Bush sought to reassure markets on Monday. "In the long term, I am confident that our financial markets are flexible and resilient and can deal with these adjustments," he said.
US treasury secretary Hank Paulson told Americans to stay calm and not lose faith in the banking system.
Economists in New Zealand say the fallout from the demise of Lehman and the sale of Merrill Lynch could raise interest rates on world money markets, which would be passed on in higher mortgage rates in New Zealand.
They say New Zealand's Reserve Bank may cut the Official Cash Rate more aggressively to make sure mortgage rates continue to fall. In the meantime, the Kiwi dollar looked set to regain ground against the US dollar, which is being dumped in favour of the yen and the euro.
Oil under $US100 a barrel
Oil prices closed below $US100 a barrel for the first time in six months on Monday, tumbling more than $US5 after the demise of Lehman Brothers and the sale of Merrill Lynch.
Light, sweet crude for October delivery fell $US5.47 to settle at $US95.71 a barrel on the New York Mercantile Exchange - oil's first settlement under $US100 since 4 March.
Crude has fallen more than $US50, or 35%, from its all-time trading record of $US147.27 reached on 11 July.
Top banks fall prey to credit crunch
Bank of America's move to buy Merrill in a $US50 billion deal means that three of the top five US investment banks have fallen prey to the sub-prime crisis within six months.
Accountants PricewaterhouseCoopers have been appointed as administrators for Lehman in Britain. It told a news conference in London that it is unclear whether Lehman's UK staff will get paid the $US75 million that they are owed in wages this month.
Based on assets, Lehman far surpassed WorldCom as the largest US bankruptcy ever. Lehman had assets of $US639 billion at the end of May, while WorldCom had $107 billion when it filed for bankruptcy protection in 2002.
The Chapter 11 filing did not include Lehman's broker-dealer operations and other units, such as asset management firm Neuberger Berman. Those businesses will continue to operate, although Lehman is expected to liquidate them. Lehman said it is in advanced talks on selling its investment management division.
Lehman is the biggest investment bank to collapse since 1990, when Drexel Burnham Lambert filed for bankruptcy amid a collapse in the junk bond market.
The bankruptcy filing represents the end of a 158-year-old company that survived world wars, the Asian financial crisis and the collapse of hedge fund Long-Term Capital Management, but not the global credit crunch.
Financial institutions globally have recorded more than $US500 billion of write-downs and credit losses as the US sub-prime mortgage crisis has spread to other markets.