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09/16/2008

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n Economic fallout in New York and London ....... A3

n McCain, Obama campaigns react .................. A21

n Goldman and Morgan Stanley come under pressure

as fears continue .......................................... C1

n What brokerage clients of Merrill and Lehman

Brothers can expect ....................................... D1

Old-School Banks EmergeAtop New World of Finance

AIG FacesCash CrisisAs StockDives 61%

7 7

By Matthew Karnitschnig,

Liam Pleven

And Serena Ng

American InternationalGroup Inc. was facing a severecash crunch last night as ratingsagencies cut the firm’s credit rat-ings, forcing the giant insurer toraise $14.5 billion to cover its ob-ligations.

With AIG now tottering, a cri-sis that began with falling homeprices and went on to engulf WallStreet has reached one of theworld’s largest insurance compa-nies, threatening to intensify thefinancial storm and greatly com-plicate the government’s effortsto contain it. The company,whose stock fell 61% yesterday, issuch a big player in insuring riskfor institutions around the worldthat its failure could shake theglobal financial system.

AIG has been scrambling toraise as much as $75 billion toweather the crisis, and peopleclose to the situation said that ifthe insurer doesn’t secure freshfunding by Wednesday, it mayhave no choice but to opt for abankruptcy-court filing.

“The situation is dire,” a per-son close to AIG said.

Many market participantshave been anticipating a govern-ment-led rescue. So far, how-ever, the U.S. has been reluctantto step in, preferring instead tobroker a private-sector solution.

The Federal Reserve hosted ameeting to discuss AIG’s pros-pects at the central bank’s officesinNewYork onMonday withcom-pany executives, bankers as wellas state and federal officials.

With strong encouragementfrom the Fed, Goldman SachsGroup Inc. and J.P. MorganChase & Co. are seeking to raise$70 billion to $75 billion inloans to help prop up AIG, ac-cording to people familiar withthe situation. Word of AIG’s ef-forts to borrow that much sentthe stock market tumbling inthe last hour of trading.

Thecompanyturnedtothegov-ernment in earnest after a week-end where intense efforts failed toproduce a plan to raise roughly$40 billion in capital. The worsen-ing crisis has now forced the firmto seek considerably more, under-scoring its precarious position.AIG needs the money to sidestep apotentially fatal downgrade bycredit-rating firms.

The downgrades by Moody’sInvestors Service and Standard& Poor’s mean that AIG’s counter-parties, or trading partners, candemand that it post an addi-tional $14.5 billion in collateral,according to a filing AIG madewith the Securities and Ex-change Commission in August. Itis not clear how quickly AIGwould have to produce thosefunds. In addition, AIG or itscounterparties could demandearly termination based on the

Please turn to page A8

The convulsions in the U.S. fi-nancial system sent marketsacross the globe tumbling, astwo of Wall Street’s biggestfirms looked set to exit the sceneand insurance titan American In-

ternational Group Inc. turned tothe Federal Reserve and thestate of New York for assistance.

The U.S. stock market suf-fered its worst daily point plungesincethe first day of trading afterthe Sept. 11, 2001, terrorist at-tacks.Financial markets wererat-tled by the rushed sale Sunday ofMerrill Lynch & Co. and the bank-ruptcy-court filing of LehmanBrothers Holdings Inc., whichscrambled Monday to sell itsmost-prized businesses beforetoomany employees and custom-ers walk out the door. (Please seerelated article on Page C1.)

All day Monday, top Lehmanofficials were huddled in Man-hattan at their Seventh Avenueheadquarters negotiating a saleof the U.S. investment bank—thecore part of Lehman—to Bar-clays PLC of the U.K. People in-volved in the discussions were in-creasingly hopeful late Mondaythat a deal would be struck.

In stock markets from Sydneyto London to New York, the newswas greeted with immediate sell-

ing. For much of the day, the ma-jor U.S. market indexes weredown 2%, which, while a good-sized decline, was smaller thanmany had thought would be thecase. But in the final hour of trad-ing, a wave of selling hit, drivenby concerns about the fate ofAIG.TheDow JonesIndustrial Av-erage ended down 504.48 pointson Monday, off 4.4%, at its dailylow of 10917.51, down 18% on theyear. Of the Dow industrials’ 30components, all but one—Coca-Cola Co.—fell, led by a 60.8%plunge in AIG.

In Europe, London’s FTSE100 index dropped 3.9%. SeveralAsian markets, including Japanand China, were closed Mondaydue to holiday. By Tuesday, To-kyo shares were down 5.1% inearly trading, and Hong Kong’sHang Seng index was down 6.1%.

Monday’s action was the lat-est fallout in a widening finan-cial crisis that began a year agowith the fall of American hous-ing prices and is now reorderingthe U.S. financial system. Stepsunveiled by the Federal Reserveto expand its emergency lend-ing arsenal did little to snap thesense of gloom.

Plenty of potential landmines remain. Banks are increas-ingly hoarding cash, curbinglending at a time when the econ-omy is slowing. They are alsostarting to dump assets to raisecapital. A mass sale of assets by

Please turn to page A2

s Copyright 2008 Dow Jones & Company. All Rights Reserved

By Michael M. Phillips

MUSTANG, Okla.—Draftboardsareforgotten,butnotgone.

Thirty-five years have passedsince the last American manstood before his local draft boardand asked to be excusedfrom military service.But in case the draft re-turns, the Selective Ser-vice System is still re-cruiting civilians to de-termine which con-scripts deserve a passfrom Uncle Sam.

“Thedraftisaninsur-ance policy,” said Okla-homa Army NationalGuard Maj. Greg Park,as 15 volunteers raisedtheir right hands andswore in as draft-board mem-bers at a community center here.“The draft is the last line of de-fense for our country.”

The Selective Service Systemhas the awkward task of persuad-

ing citizens to sit on draft boardsthat may never be activated, at atime when most Americansdon’t know such things exist, allwhile the U.S. is fighting wars ontwo fronts.

Should Congress decide to re-instate the draft, the Se-lective Service wouldhave 190 days to startdelivering draftees tothe military. To be pre-pared, the agency has lo-cal draft boards picked,trained and ready topass judgment on thosewho claim to be consci-entious objectors, min-isters or others eligiblefor deferments or ex-emptions.

So far, Congress hasshown no appetite for the draft,although Rep. Charles Rangel, aNew York Democrat, has repeat-edly proposed legislation man-dating military or civilian ser-

Please turn to page A10

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10 11 noon 1 2 3 4Source: WSJ Market Data Group

DJIA 504.48tOne-minute intervals

DJIA 10917.51 t 504.48 –4.4% NASDAQ 2179.91 t 3.6% NIKKEI Closed(12214.76) DJ STOXX 50 2744.81 t 4.0% 10-YR TREAS s 2 3/32, yield 3.482% OIL $95.71 t $5.47 GOLD $783.10 s $22.80 EURO $1.4310 YEN 104.88

7 7

What’s News–

AIG, Lehman Shock Hits World MarketsFocus Moves to Fate of Giant Insurer After U.S. Allows Investment Bank to Fail; Barclays in Talks to Buy Core Lehman Unit

CONTENTSCampaign ’08 ........... A21Career Journal ........... D6Corporate News ..... B2,7Currents ...................... A22Health .......................... D1,5Leisure & Arts .......... D11

Media & Mkting ....... B9Opinion ................. A23-25Personal Finance ... D1,3,4Technology ................ B5,6Travel ............................ D1,2Weather Watch ..... D12Who’s News ................. B8

Keeping Their Powder Dry:Draft Boards Hang On, Just in Case

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Preparedness Includes Enlisting Volunteers

To Hear the Pleadings of Fake Objectors

i i i

Business&Finance

Traders around the world react to sharp selloffs after one of the most turbulent days in Wall Street’s history.

Crisis on Wall Street

By Carrick Mollenkamp

And Mark Whitehouse

More than 200 years after itwas born at the base of a button-wood tree, Wall Street as wehave known it is ceasing to exist.

The rapid demise of 158-year-old investment bank LehmanBrothers Holdings Inc., togetherwith the takeover of 94-year-oldMerrill Lynch & Co., represents awatershed in the banking indus-try’s biggest restructuring sincethe Great Depression.

For decades, the world ofbanking was divided largely intotwo kinds of businesses. Com-mercial banks took deposits andmade loans, eking out a decentreturn under the burden ofheavy regulations designed toprotect depositors. Standalonesecurities firms such as Lehman,Merrill and the now-defunctBear Stearns Cos. took no depos-its and were lightly regulated,freeing them to take big risksand make fat profits at the costof occasional losses. More re-cently, some of the biggest insti-tutions, such as UBS AG and Citi-

group Inc., combined the two.Now, as many securities firms

are consumed in the wake of a di-sastrous foray into financial wiz-ardry,thebalanceofpowerisshift-ing.Onthewanearetheheavybor-rowing and complex securitiesthat financiers embraced in re-cent years. On the rise is a moreold-fashioned business of chasingcustomer deposits and buildingbranch networks, conducted withthe backing of federal insuranceprogramsto keepdepositors frompulling out en masse.

Of the five major independentinvestment banks that existed ayear ago, only two—GoldmanSachs Group Inc. and MorganStanley—remain standing. Twoothers, Merrill and Bear Stearns,havebeenacquiredbybigdeposit-takinginstitutions,BankofAmer-ica Corp. and J.P. Morgan Chase &Co.Othergiantcommercial-bank-ing players, such as Wells Fargo &Co. in the U.S., as well as Germa-ny’s Deutsche Bank AG andSpain’s Banco Santander SA,have emerged as some of themostpowerfulplayersinanindus-try that is likely to be safer but

less lucrative for shareholders.Banks are heading “back to ba-

sics—to, if you like, the core pur-pose of the system with less bellsand whistles,” says Douglas Flint,finance chief at HSBC HoldingsPLC and co-chair of the Counter-party Risk Management PolicyGroup,ataskforceoffinanceexecu-tives working on a framework toprevent systemic financial shocks.“There is a recognition that whenthe dust settles…the construct ofthe industry will be different.”

Evidence of the new impor-tance of bread-and-butter bank-ing is appearing around the globe.DeutscheBank,whichhadbeenfo-cusedonbuildingitsglobalinvest-ment-banking business, last weekagreed to pay nearly Œ3 billion($4.3 billion) in a two-stage dealto acquire the 850 domesticbranches of Deutsche PostbankAG, the retail banking arm of theGerman postal system.Santander,whichalsowooedPost-bank, paid £1.26 billion ($2.26 bil-lion)inJulyfortroubledU.K.mort-gage lender Alliance & Leicester.

The shift reflects a broader re-Please turn to page A10

Visit WSJ.com to See Our New Look and Features

A IG was facing a severecash crunch as its credit

ratings were cut, forcing thegiant insurer to raise $14.5billion to cover its obliga-tions. AIG’s shares fell 61% ona day when financial marketsin the U.S. and around theworld were rattled by therushed sale of Merrill Lynchand the bankruptcy-court fil-ing of Lehman. A1, C2, C16n Lehman was negotiating alast-minute plan to sell largeportions of itself to Barclays,the U.K.’s third-largest bank. C1n The Dow industrials fell504.48 points, or 4.4%, to10917.51, its lowest close in overtwo years, as financials slid andinvestors sought bonds. C1, C10

n Fed officials aren’t in-clined to veer from plans tohold short-term rates steadyat Tuesday’s meeting. A4n Central banks around theworld pumped cash into moneymarkets amid the turmoil onWall Street. Expectations arerising that rates will be cut. A8

n The balance of power in thebanking industry is shifting tothe old-fashioned business ofchasing customer deposits andbuilding branch networks. A1n A big regulatory overhaulthat had been under discus-sion could go beyond over-sight of investment banks. A10

n Oil fell 5.4% to $95.71, thefirst close below $100 sinceMarch. Prices are expected tosoften further as investors turnaway from commodities. A12

n H-P is cutting 24,600 jobsas part of its plan to integrateEDS and will record a $1.7 bil-lion restructuring charge. B1

n KB Home’s former CEOagreed to pay more than $7million to settle SEC chargesthat he backdated his stockoptions to boost his pay. B1

n Germany’s BASF launcheda friendly offer to buy Ciba, aSwiss specialty chemicalsmaker, for almost $3 billion. B2

n A plan to rescue Alitaliawas partially revived as somelabor unions signed a draftdeal with the group seekingcontrol of the carrier. B2

n Most Houston residentsremained without power.About four million house-holds couldn’t run air condi-tioning, turn on lights or re-frigerate food in the wake ofHurricane Ike, and officialsvoiced concern about publichealth and sanitation. Refiner-ies, chemical plants andother businesses couldn’t re-turn to operation. More than 30deathswereblamedonthestorm,mostintheMidwest.A12

The situation continued to bedire along the coast and espe-cially on Galveston Island,whichtook adirecthit fromIke.

n Bush sought to reassurethe public and investors thatmarkets remain sound de-spite the financial crisis. A6n The economies of Londonand New York are likely to behit hard by the loss offinancial-services jobs. A3

n House Democrats plan topush for action on a $50billion stimulus package thatfocuses on infrastructure. A6

n Mugabe agreed to a dealthat would make oppositionleader Tsvangirai Zimba-bwe’s prime minister. A16

n A female suicide bomberkilledatleast22peopleinIraq’sDiyala province. Car bombingsinBaghdad killed13 more. A20

n Iran has blocked a U.N. nu-clear-arms investigation andtheprobe isnow ata deadend,the IAEA said in a report. A20

n NATO envoys demandedRussia withdraw from Georgiabut made no promise of fastermembership for Tbilisi. A20

n Israel’s foreign ministerappears to be the top party’sleading candidate to succeedOlmert as prime minister. A18

n Thailand’s ruling partychose ousted leader Thaksin’sbrother-in-law as its nomineeto becomeprime minister. A18

n Obama’s health-care planwouldcover more people thanMcCain’s but wouldcost more,two new reportsconclude. A21

n Died: Richard Wright, 65,Pink Floyd founding memberandkeyboard player,ofcancer.

By Susanne Craig,Jeffrey McCracken,Jon Hilsenrath andDeborah Solomon

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