Earlier this year, with Bear Stearns teetering on the verge of collapse, Uncle Sam stepped in. The New York Federal Reserve provided the investment bank an emergency loan, saying the money would prevent an all-out collapse—and whatever market turmoil might follow. It wasn't an investment so much as an insurance policy, and global markets generally reacted positively to the cautious approach. Six months later, Lehman Brothers, an older and significantly larger bank, found itself in a similarly dire predicament. This time around, however, the Treasury declined to help. The refusal sent Lehman reeling. On September 15, the firm announced it would make the biggest bankruptcy filing in history (Bloomberg) after a handful of prospective buyers signaled they were no longer interested in a buyout. Meanwhile, Merrill Lynch, another of Wall Street's behemoths, agreed to a snap $50 billion takeover bid (WSJ) from Bank of America. The Financial Times called it "one of the most radical reshapings in Wall Street history."

Washington's cold shoulder leaves two major questions for market watchers:

1) Why is the U.S. government taking a hands-off approach with Lehman when it was quick to bail out Bear?
2) What will the aftermath of Lehman's collapse look like, and what will it mean for global markets?

The answer to the first question, experts say, relates mostly to nitty-gritty market mechanics. The Financial Times reported last week that Bear Stearns, despite being a smaller firm, in fact posed a greater risk to financial stability than did Lehman. The reasons for this included Bear's deep involvement in the credit default swap market, its prime brokerage business, and its role in the financial clearing system.

A more basic factor also comes into play, and helps answer question #2 as well as question #1. Since Bear's collapse, a variety of reforms have been made that alter how the Treasury and the Federal Reserve operate. The FT's Peter Thal Larsen noted in a video analysis before Lehman's collapse that the six months following Bear Stearns allowed global markets to factor in the idea of a large bank collapsing, so the impact of losing Lehman is potentially less devastating than the shock of Bear's rapid demise. Even so, the news of Lehman's bankruptcy shook global markets on September 15, sending equities worldwide falling sharply (WSJ), particularly in the financial sector. The collapse also spotlights the high level of insecurity among other major U.S. financial institutions. Washington Mutual has been hobbled of late (Forbes) by loan defaults, and on September 15 the insurance giant AIG required emergency government authorization to loan itself $20 billion (NYT) in order to stabilize its operations. Above and beyond lingering concerns over liquidity and mortgage-backed debt, the collapse of Lehman could create new problems for financial firms. Analysts say unwinding all the financial contracts tied to the bank in an orderly manner will be no small task.

The current upheaval also gets at a broader question. Following the federal bailout of mortgage finance companies Fannie Mae and Freddie Mac, when are U.S. taxpayers best served by letting dying companies die naturally, and when is an intervention advisable? Lehman's struggles seem to show the limits of the Treasury's willingness to use taxpayer money to protect a private institution. Analysts, including CFR's Sebastian Mallaby, have argued convincingly (WashPost) that the Fannie-Freddie nationalization was advisable, given the collateral damage the demise of those firms could have wreaked on markets. In a panel analysis of the Fannie-Freddie bailout, another CFR scholar, Amity Shlaes, argued the success of the move would be largely determined by whether the Treasury and White House were able "to draw a bright line that says, 'no more bailouts after this point.'" Lehman's downfall appears to represent the government attempting to draw just this line.