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The mascot of the financial markets these days should be a St Bernard. Every time one opens a financial newspaper, it seems that some financial institution is having to be rescued.

The problem seems to be a lack of confidence and a shortfall in transparency. Since the summer of 2007, it has become clear that financial institutions own a lot of assets with prices that cannot be verified – often because there are virtually no buyers. This was a particular problem for Lehman Brothers, which had more than $30bn (£16.7bn) of level three (in other words, illiquid) assets.

Investors looked at such assets and figured they have fallen in value. That suggested Lehman needed to raise more capital. But from whom? Sovereign wealth funds have lost money on their existing investments in investment banks. Uncertainty about the prospects for capital-raising drove the share price down further, making it even more difficult to raise more capital. The same process happened at Fannie and Freddie, which owned as lot of mortgage-related assets on its books and which supported huge balance sheets on a thin sliver of capital.

A similar lack of confidence affects businesses like XL, the tour operator that recently went under. Once creditors become concerned, they demand immediate payment (or refuse to supply goods). The result is a rapid drain on cash that can finish a company off. It is collapses like this that bring the credit crunch home to most people, for whom the travails of investment banks must seem a distant concern.

However, the crunch is completely altering the landscape of the financial sector. After the troubles of Bear Stearns and Lehman - and the recent sale of Merrill Lynch to Bank of America - there are just two large independent investment banks left – Goldman Sachs and Morgan Stanley. The question is whether either of these banks has enough capital to survive the kind of crisis of confidence just suffered by Lehman.

That means that investment banking will have to be part of a commercial banking operation. Ironically, that is something the US tried specifically to prevent after the crash of 1929. The Glass-Steagall Act of 1933 kept commercial and investment banking separate so that retail deposits would not be put at risk by the wild speculations of the guys in pinstripes. That risk is now right back with us.

The problem is the immense volume of trading in the capital markets (and the huge levels of leverage inherent in many derivatives contracts). Someone has to sit in the middle of such markets, making prices all the time. Otherwise, the instruments will be of little use to the genuine counterparties (businesses, pension funds) that need them to hedge risks.

Keeping track of those marketmakers is fiendishly difficult given the complexity of the instruments and the incentive (for executives on share options and traders on bonuses) to game the system. It always seemed odd to outsiders that investment bankers earned so much money for shuffling bits of paper around. The explanation is now clear; they were taking enormous risks.

The political issue that arises is why the taxpayer has to bail out those companies when they go wrong, but the bankers get all the profits when they get it right. There will surely be more regulation, as there should be, now it is clear that the taxpayer stands behind the system. There may even be a few years when trading activity is subdued; fewer investment banks will be active in the market and those banks will be less willing to finance speculative investors like hedge funds. As a result, dealing costs may end up increasing. If this crisis taught us anything, it is that the road towards ever-more liquid financial markets is not a one-way street.

Philip Coggan is Buttonwood columnist for The Economist