As a result, markets collapsed, wiping out billions of dollars, euros, yuan and yen. Millions lost their jobs around the world. Trillions were spent on bailouts and stimulus plans. Investors lost fortunes on commodities, currencies, real estate and stocks. Historic names in business and finance - Washington Mutual, Northern Rock, Woolworths, General Motors, Bearing Point - collapsed, were crippled or were swallowed up.

The credit crunch was already happening when Lehman Brothers - a 158-year-old firm with roots as an Alabama cotton brokerage - declared bankruptcy on September 15.

It was the largest bankruptcy in the United States' history. But that was not its true significance. Rather, for once, the US government did not step in to engineer a rescue as it had for fellow Wall Street giant Bear Stearns. The decision stunned bankers and investors. It destroyed the assumption that the government believed some banks were too big to fail, which had been an unspoken guarantee underpinning the financial world.

Denying a bailout meant Lehman's losses would quickly spread to other banks and no troubled bank could be assumed to be safe. More importantly, no financial institution could be assumed safe. The web of exotic and little-understood financial vehicles and instruments - MBSs, CDOs, SIVs - were too deeply interwoven among them all. No one could foresee how far the chain reaction of losses could spread.

'There is no question that this is in the process of outstripping anything I've seen, and it still is not resolved and it still has a way to go,' said former US Federal Reserve chairman Alan Greenspan at the time, as he watched the financial world unravel.

Though they may not have known where it was all heading, investors were immediately fearful of the consequences.

Markets plunged that day. The Dow Jones Industrial Average lost more than 500 points, briefly recovered and then kept falling until March this year, dropping about 43 per cent. Other markets were battered as badly, or worse. In six weeks the Hang Seng Index fell by about as much.

Lehman alone did not cause the financial crisis to metastasise into a global economic recession. It was all too fiendishly complex for such direct cause-and-effect consequences.

It all started with the US housing market, where for years banks were making subprime mortgages to unqualified borrowers, a practice that made sense at the time. Huge sums of money from Asia and oil-rich countries flowing into the US, plus Federal Reserve policy to lower rates after the September 11, 2001 attacks, pushed interest rates down. At the same time, deregulation had loosened mortgage lending requirements, and US housing prices had gone nowhere but up for more than a decade.

If a borrower could not afford the payments, he could soon refinance and use the cash to make more payments or, at worst, sell the house for a profit. Despite their possibly unreliable customers, banks were making money, much of it on loan origination fees.

And securitisation, once a good idea, spread the problem throughout the financial system.

Back in the 1970s, banks were making fixed-rate loans at, say, 5 per cent, and holding the loans. But when deposit rates rose higher than their lending rates, banks suddenly found themselves facing losses. So lenders started packaging their mortgages - once the safest of all debt - and selling them to investors. With a guarantee from Freddie Mac or Fannie Mae - the two big semi-governmental housing agencies - many investors were happy with a steady income stream. The banks took the money and made more mortgage loans.

But deregulation, intended to help those with lower incomes afford houses, allowed lenders to lower their standards. No-down- payment loans at low 'teaser' rates - often for borrowers who faked their financial statements, or offered none at all - became common. And the housing bubble grew.

Between 1997 and 2006, the median price of a US home increased by 124 per cent, and by last year home-mortgage debt as a proportion of gross domestic product had risen from 46 per cent in the 1990s to 73 per cent - US$10.5 trillion.

Meanwhile, securitisation had become astonishingly complex, with packages of loans parcelled out in segments with varying degrees of risk, complete with default guarantees. The securitised products and their financial derivatives came with a bewildering array of acronyms - MBSs (mortgage-backed securities), CDOs (collateralised debt obligations), CDSs (credit default swaps), many issued by that strange financial hybrid, the SIV (structured investment vehicle).

Much of the action took place within investment banks, hedge funds and SIVs - which provided huge amounts of credit but which were largely unregulated.

'Loans no longer stayed with the lender. Instead they were sold to others, who sliced, diced and pur?ed individual debts to synthesise new assets,' said Nobel laureate and economist Paul Krugman. 'Out the other end, supposedly, came sweet-tasting AAA investments. And financial wizards were lavishly rewarded for overseeing the process. But the wizards were frauds ... The key promise of securitisation - that it would make the financial system more robust by spreading risk widely - turned out to be a lie.'

The process was unmasked when the US housing bubble collapsed and the value of the underlying asset of these derivatives, home mortgages, plunged.

The downward spiral was hard to stop because few understood the complex instruments and, it seemed, they had spread everywhere. Banks, insurance companies, mutual funds, pension funds, investors, the securities portfolios of thousands of businesses - all held these exotic products. And few could be sure of their value.

Even before Lehman, there was plenty of warning. In April 2007 New Century Financial, a leading US subprime mortgage lender, filed for bankruptcy protection. By July, Standard and Poor's, which had given many of the products AAA ratings, had suddenly placed 612 securities backed by subprime mortgages on credit watch.

As mortgage companies went down, banks stopped lending, fearing they would be further exposed to a problem whose full extent they did not understand.

Responding to the credit crunch, the US Federal Reserve started lowering interest rates, but the problems mounted. Bank of America bought Countrywide Financial, Britain's Northern Rock was seized, the New York Fed helped JPMorgan Chase acquire Bear Stearns and US regulators closed IndyMac Bank, the US' seventh-biggest mortgage lender.

Then came 10 bloody days. On September 7, Fannie Mae and Freddie Mac - which guaranteed trillions of dollars in US mortgages - were placed in government conservatorship. On September 15, Bank of America announced it would buy Merrill Lynch, and Lehman collapsed.

The next day, the Fed moved to bail out American International Group, the failing insurance conglomerate. At the same time, the net asset value of the Reserve primary money fund 'broke the buck', the value of investors' money falling below the amount put in, because of Lehman losses.

The day after, in a sign of just how bad things were, the Securities and Exchange Commission temporarily banned short selling of financial stocks.

On September 25, US regulators closed Washington Mutual Bank, the largest bank failure at that time.

The mounting bank-rescue packages were controversial, with many wondering why taxpayers should bail out Wall Street and its bankers. But at a meeting with congressional leaders opposed to an emergency bailout, Fed chairman Ben Bernanke gave a simple answer: 'If we don't do this, we may not have an economy on Monday.'

By September, too, US housing prices had fallen by more than 20 per cent from their 2006 peak. Refinancing was impossible and foreclosures soared. Americans had lost more than a quarter of their wealth.

By last month, a record 13.16 per cent of all US mortgages outstanding were either delinquent or in foreclosure, according to the Mortgage Bankers Association.

Central banks around the world moved to expand money supplies as lending contracted and brought the global financial system to the brink of collapse. In the largest liquidity injection ever, the US Federal Reserve and a host of European central banks bought US$2.5 trillion in government debt and non-performing assets. They also spent US$1.5 trillion to buy newly issued preferred stock in their banks.

The federal bank bailouts caused huge controversy. Critics said it would encourage investors and lenders to take unreasonable risks in the future. Republican legislators increased their efforts to stop further rescue attempts. On September 19, 100 members of Congress sent a letter to Bernanke and the then US treasury secretary, Henry Paulson, urging them to 'refrain from conducting any additional government-financed bailouts for large financial institutions'.

'We should let the markets work,' said congressman Scott Garrett, a Republican. While some were outraged by the bailouts on free-market grounds, others objected to the pure greed. The chief executives of the 'big three' US carmakers caused outrage when they flew to Washington in their luxury private jets to plead for US$25 billion in taxpayers' money to avoid bankruptcy.

When credit easing and bailouts were not enough, governments around the world launched massive stimulus packages to try to jump-start their economies.

Now, as banks failed and markets tumbled, what had been a major financial crisis started to have a direct bearing on the wealth, jobs and incomes of ordinary people far removed from the world's money centres.

Financial failures meant that credit became nearly impossible to get, making it hard for businesses to expand and for consumers to buy homes, cars and appliances. Free-flowing credit is the fuel of most economies, and as credit seized up economies were pushed into recession.

It was a process that fed upon itself as businesses, stalled by the lack of credit, laid off staff, which reduced consumer spending, which lowered profits and prompted more cutbacks. By the fourth quarter of last year, US output had contracted by 5.4 per cent.

But the problem was not confined to one country. The crisis became global as European banks failed and world stock markets fell. By the end of the year, Britain Germany and Japan were in, or were about to be in, recession. As the US and Europe slowed, so did their purchasing power and the desire for goods from Asia.

China, with its less-developed and more conservative banking system, was fairly well insulated from the financial crisis, but not from the sudden retreat of its biggest customers in Europe and the US. Mainland exports tumbled and the economy slowed sharply. No one spoke any more about how China had 'decoupled' from the rest of the world.

The mainland, accustomed for decades to double-digit rates of economic growth, saw real GDP growth slow to 6.8 per cent in the final three months of last year and to 6.1 per cent in the first quarter of this year. In addition, investment growth slowed, consumption fell, and both the property and stock markets dropped precipitously.

Up to 41 million workers have lost their jobs on the mainland since the financial crisis began - 40 per cent of total global lay-offs - and 23 million of them remain out of work, according to the China Development Research Foundation, a central government think tank.

Hong Kong's economy shrank a worse-than-expected 7.8 per cent year on year in the first quarter of this year and unemployment rose above 5 per cent, well above normal.

Beijing launched a 4 trillion yuan (HK$4.54 trillion) stimulus plan to boost the economy, largely by investing in infrastructure projects. It covered housing, rural infrastructure, transport, health and education, environment, industry, disaster-zone rebuilding, income-building, tax cuts and finance. The government also lowered interest rates, encouraged massive bank lending and reduced a host of barriers to exports.

The US first enacted a US$152 billion stimulus bill designed to help stave off a recession, much of it in the form of tax rebates to low-income and middle-income Americans. In February this year, President Barack Obama signed a US$787 billion stimulus plan covering tax cuts and infrastructure investments.

In Japan the stimulus was US$153 billion; in South Korea US$10.8 billion; the European Union passed a Euro200 billion (HK$2.26 trillion) plan.

Although initial enthusiasm about the 'green shoots' of recovery have waned, there is general agreement that economies are starting to pick up. But in the aftermath of the crisis there remain many casualties, many questions and a huge pile of debt. The International Monetary Fund estimated last month that the cost of cleaning up the financial crisis was more than US$11.9 trillion - not counting all the stimulus packages.

Certainly, American free-market capitalism took a blow. Many argued that the financial crisis was an inevitable consequence of unregulated markets, motivated by unfettered greed, chasing unsustainable returns.

At its worst, greed and lax oversight led to outright fraud.

Late last year, thousands of investors who had placed more than US$65 billion with Bernard Madoff - including legendary baseball pitcher Sandy Koufax and actor Kevin Bacon - discovered he had been running a Ponzi scheme, a fact that regulators failed to discover after six botched investigations. In June, Madoff was sentenced to 150 years in jail.

In other cases, losses were the result of overzealous banks selling products unsuitable for their customers.

More than 33,000 Hong Kong investors bought HK$12 billion worth of high-risk Lehman Brothers minibonds that became virtually worthless when the bank collapsed. (Despite the name, the minibonds were not corporate bonds but complex, credit-linked derivatives whose value depended on the performance of their underlying assets. Investors claim banks marketed them as proxy investments in well-known companies and failed to explain the risk.) Hong Kong regulators negotiated a HK$6.3 billion settlement agreement with 16 lenders to repay about 60 per cent of the losses to 20,000 retail investors.

The criticism of capitalism goes beyond fraud or mis-selling, and has even come from unlikely quarters.

HSBC chairman Stephen Green told a finance conference in Frankfurt this month that much of the work of investment banking was 'socially useless'.

'At their worst, financial markets can be engines of destructive excess. In recent years, banks have chased short-term profits by introducing complex products of no real use to humanity,' Green said.

The 'so-called Washington consensus - with its theoretical underpinning in the 'efficient market hypothesis' - will not survive the present crisis', he foresaw.

But reforming capitalism seems highly unlikely at a time when even widespread outrage over excessive executive pay cannot halt the practice. Early in his term, Obama called the large bonuses paid to bankers shameful and outrageous, and sought to curb them. Then, in March, AIG - which the government had saved with an US$180 billion taxpayer-funded bailout - angered the public by paying US$165 million in bonuses.

And a report this month by the Washington-based Institute for Policy Studies said the top five executives at each of the 10 US banks bailed out by taxpayers were given stock options at the height of the crisis that have already increased in value by US$90 million.

Meanwhile, debate has only just begun about how to prevent the next financial crisis.

In June, the Obama administration proposed a set of regulatory reforms that include raising capital requirements, especially for larger institutions, consolidating supervision under the Federal Reserve, and reining in and regulating the shadowy banking system, particularly derivatives dealers. The proposals promised greater consumer and investor protection and more power for the Fed to seize any financial holding company whose failure might threaten the stability of the financial system.

But while the West debates how to knit together protection against the next financial crisis, China is experiencing some Schadenfreude over the global financial crisis and feeling some vindication for the operational methods of its state-controlled economy.

Bemoaning what many feel has been US economic and financial mismanagement, as well as the volatility of the dollar, Zhou Xiaochuan , governor of the People's Bank of China, suggested in March that World Bank special drawing rights should one day replace the US dollar as the world's main reserve currency.

Zhou said reliance on the dollar had led to frequent global financial crises since the collapse of the Bretton Woods system of exchange rates in 1971.

'The price is becoming increasingly high, not only for the users, but also for the issuers of the reserve currencies,' Zhou said in an article on the PBOC's website. 'Although crisis may not necessarily be an intended result of the issuing authorities, it is an inevitable outcome of the institutional flaws.'

Vice-Premier Wang Qishan made a more blunt assessment. 'The teachers now have some problems,' he said.