The filing for bankruptcy by Lehman Brothers on September 15, 2008 was a seminal point in global financial history, marking the start of a particularly virulent phase of the global financial crisis, which soon morphed into an unprecedented economic crisis. The sub-prime housing mortgage crisis that led to the collapse of the iconic investment bank was building up for more than a year. The securitised mortgage backed debt obligations and their related financial derivatives engineered by some of the world’s leading financial institutions turned into toxic assets. The irony is that the very institutions that created these with such complexity that tended to hide the real nature of the underlying risks ended up owning some of them. Almost all the top investment banks came under fire. While a few — notably Merrill Lynch and Bear Sterns — were rescued by the U.S. authorities, Lehman Brothers was allowed to go under, with catastrophic consequences. The entire global inter-bank lending mechanism froze and the flow of credit stopped due to extreme counter party risk aversion. Policy makers everywhere realised quickly that unless the financial sector was stabilised, the economic downturn could not be checked. The U.S. authorities adopted unconventional measures that basically involved the deployment of huge sums of public money to clean up the balance sheets and give support to the financial system and the economy.

The Indian economy has been relatively resilient. It was no doubt affected through the transmission of the contagion operating through the trade, capital flows, and confidence channels. Exports have been declining for 11 months in a row, reflecting the sharp demand contraction in the developed economies. Imports too have been falling due partly to lower domestic growth. Software exports and remittances by workers from abroad have remained steady. There has been no undue pressure on the balance of payments despite the sharp reversal of capital flows and contraction in total exports. Economic growth fell by three percentage points to 5.8 per cent during the quarter following the Lehman debacle. However, for the whole year (2008-09), the economy grew by 6.7 per cent, which is quite impressive when compared with the performance of most other countries. GDP growth climbed above 6 per cent during the first quarter of 2009-10. According to most forecasts, economic growth will be at least 6 per cent this year, despite the severe drought. Optimism may not have returned fully as yet to the markets, but the industrial sector is beginning to show some buoyancy and the capital flows are rising.

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