Wall Street is preparing for one of the largest bankruptcies in U.S. history as it becomes apparent that nobody wants to buy Lehman Brothers. Government officials are keeping the public's overextended credit card sheathed as they race to keep the fourth-largest U.S. investment bank from failing before the start of trading tomorrow.

Both Bank of America and Barclays rebuffed the Fed's entreaties to scoop up Lehman's profitable parts.

Barclays said it was approached by the U.S. Treasury at the end of last week, and saw in Lehman ``a potential opportunity to significantly enhance our investment banking and investment management franchise in key areas.''

`The proposed transaction required a guarantee for the trading obligations of Lehman Brothers which was potentially open-ended,'' Barclays said in a statement. ` Barclays wasn't willing to assume such an open-ended obligation.''

The US government had hoped to arrange a bailout under which other US investments banks - such as Citigroup, JPMorgan Chase, Morgan Stanley and Goldman Sachs - would finance a "bad bank" that would hold the most "toxic" investments of Lehman in the property and mortgage market.

The "good bank" or rest of the firm, including its investment and wealth management arms, would then be sold to another financial institution, for example Bank of America or the UK's Barclays.

Although such a deal would have cost the other investment banks millions, it might have restored confidence in the sector and avoided a sharp drop in the share price of all banks.

However, it appears that this plan is falling apart.

Lehman's lawyers are writing up the Chapter 11 papers as Wall Street and the Fed officials continue with their emergency meetings.

If nothing else, Bloomberg reports that the bankers and regulators were at least able to agree on a comprehensive mid-afternoon snack break:

At 11:30 a.m., five delivery-men arrived at the Fed building with carts of sandwiches, as the talks continued.

Lehman edges closer to insolvency [BBC]
Barclays Abandons Talks to Buy Lehman Over Guarantees [Bloomberg]
Lehman’s Fate Is in Doubt as Barclays Pulls Out of Talks [The New York Times]
(AP Photo/Mark Lennihan)

Here's how it went down:

• Treasury Secretary Henry Paulson told Fannie Mae CEO Daniel Mudd (whose name is good as...) and Freddie Mac CEO Richard Syron that they and their boards were fired.
• The companies will be placed into conservatorship of the Federal Housing Finance Agency.
• Common shareholders will be virtually wiped out. Preferred shareholders (banks) will be protected.
• Instead of providing a massive headline-grabbing infusion of cash upfront, the government will provide quarterly subsidies to cover losses.
• Freddie and Fannie will continue to operate normally, except taxpayers will be on the hook for future losses.

Both Obama and McCain announced that they support the plan, not that either of them can veto the Bush Administration's takeover.

The Treasury made its move now partly to reassure Mexico, Japan, and China that their central banks' shares of the Depression-era institutions will be backed by you.

Isn't that great?!

U.S. Rescue Seen at Hand for 2 Mortgage Giants [The New York Times]
U.S. Near Deal on Fannie, Freddie [The Wall Street Journal]
Fannie, Freddie's boards meet Saturday to mull government plan [Reuters]
PREVIOUSLY: U.S. Treasury Attempts To Save Freddie, Fannie, Avert Apocalypse
Bush Administration Considering A Takeover Of Freddie And Fanny
(Photo: Getty)

The week of rationing was caused by demographics ganging up with bad public policy. China and India, with their billion-strong populations, want to eat real food, boosting demand just as supplies are diminishing. Tack on the price of oil, rising like a lost balloon, coupled with the government-induced ethanol high our farmers are enjoying, and you have yourself a mess.

The market processed all this data last week and had itself a conniption. Not "the market" as comprised of Lamborghini-driving Wall Street types, but the purer market made up of individuals acting to protect their economic interests.

Commercial bakers say they are stocking up on specialty rye and gluten flour because of fear that supplies are dwindling. And Costco's chief executive said the big-box retailer is thinking twice about letting customers buy multiple pallets of flour to preserve supplies.

Restaurants and other large-scale customers appear to be buying so much rice that Costco, Sam's Club and other wholesalers have put limits on the amounts they sell, leading some consumers to stock up. This has resulted in some individual stores in places like California reportedly running out of rice.

So what should you do? The New York Times offers anecdotal proof that you already know how to react:

Burt Flickinger, a longtime retail consultant, said the last time he saw such significant changes in consumer buying patterns was the late 1970s, when runaway inflation prompted Americans to "switch from red meat to pork to poultry to pasta — then to peanut butter and jelly."

"It hasn't gotten to human food mixed with pet food yet," he said, "but it is certainly headed in that direction."

[...]

Wal-Mart Stores reports stronger-than-usual sales of peanut butter and spaghetti, while restaurants like Domino's Pizza and Ruby Tuesday have suffered a falloff in orders, suggesting that many Americans are sticking to low-cost home-cooked meals.

Over the last year, purchases of brand name cookies and crackers have fallen, according to Information Resources, which tracks retail sales.

You can't easily stock up on perishables like eggs or milk. But other products will keep. Among them: Dried pasta, rice, cereals, and cans of everything from tuna fish to fruit and vegetables. The kicker: You should also save money by buying them in bulk.

What's going on with rice and flour? [Chicago Tribune]
Load Up the Pantry [WSJ]
Recession Diet Just One Way to Tighten Belt [NYT]
(AP Photo Antonio Romero)

...may include some good ideas, but it is largely a re-hashed, unsubstantiated industry wish-list that seeks to eliminate state enforcement authority over insurance, securities and other financial products, without even guaranteeing strong consumer protection at the federal level.

This plan would consolidate a large number of regulators into roughly three big new agencies.

Bank supervision, now divided among five federal agencies, would be led by a Prudential Financial Regulator, which could send examiners into any bank or depository institution that is protected by either federal deposit insurance or other federal backstops. It would eliminate the distinction between "banks" and "thrift institutions," which are already indistinguishable to most consumers, and shut down the Office of Thrift Supervision.

Any effort to merge the Commodity Futures Trading Commission with the S.E.C. is likely to provoke battles.

Yet another proposal would, for the first time, create a national regulator for insurance companies, an industry that state governments now oversee.

Administration officials argue that a national system would eliminate the inefficiencies of having 50 different state regulators, who have jealously guarded their powers and are likely to fight any federal encroachment.

The federal insurance proposal is a huge giveaway for the insurance industry. Insurers would be able to evade strong consumer protections at the state level by opting-in to what would be comparably lax regulation from the Treasury Department. If approved, it is not unreasonable to expect higher rates and fewer protections.

The new Prudential Financial Regulator, which would gobble up the five regulators that currently oversee banks and creditors, could severely harm consumers. We don't yet know who would steer the massive new regulator, or whether they would emulate the destructive model of the Office of the Comptroller of the Currency, which preempts state authority and then sits idly by as consumers are financially raped.

So what is the media focusing on?

Paulson couldn't just ignore the subprime meltdown, so he is proposing a Mortgage Origination Commission, which would set baseline qualifications for mortgage brokers and chastise states for failing to adequately regulate the industry.

The plan also calls for broad new authorities for the Fed to oversee the market, "in effect allowing it to send SWAT teams into any corner of the industry or any institution that might pose a risk to the overall system." The proposal would standardize emergency borrowing from the Fed's discount window. In exchange for allowing non-bank failures to sally up to the window and beg for cash, the Fed will claim the ability to thumb through their books and balance sheets "in order to protect the Federal Reserve (and thereby the taxpayer)."

It is doubtful the plan will become law this year, but is an important vehicle for framing the coming debate over regulatory authority. Congress is going to put its prints all over the plan before it passes. The devil is in the details and Congress must ensure that any new regulatory environment isn't hostile to strong consumer protections.

After all, even the Treasury Secretary acknowledges that his proposal may not be enough to prevent the next subprime meltdown: "At a fundamental level, the root causes of market instability are difficult to predict, and past history may be a poor predictor of future episodes of instability."

Treasury Dept. Plan Would Give Fed Wide New Power [NYT]
Treasury's Summary of Regulatory Proposal [NYT]