Friday, January 29, 2010

The AIG-Counterparty “Wall Street” Bailout That Smells

The controversy over the federal government taxpayer bailout of AIG’s trading partners in late 2008 seems a big deal to me. It centers on why AIG’s trading partners, counterparties to complex derivative contracts, were paid off in full even though AIG was effectively bankrupt. If AIG had in fact gone bankrupt, AIG’s trading partners, which took ordinary business risk trading with AIG, would have been paid off at some lesser amount than full face value of AIG’s obligations. So why didn’t the government team, many of them Wall Street insiders themselves, negotiate or dictate a payoff of AIG’s obligations at some amount less than 100%? One would think that these trading partners would have been happy to get some portion of what AIG owed them, especially if it was more than what they would have received under an AIG bankruptcy. The thorny issue is that these counterparties included many of the big investment banks, most notably Goldman Sachs, and then-Treasury Secretary Paulson and many others calling the shots on the government side were former, and perhaps even future, partners and employees at these firms, which were filled with friends and former colleagues (in fact Paulson is a former Goldman CEO). Lehman Brothers was allowed to fail, but Goldman got a 100% bailout via AIG. Talk about conflict of interest and appearance of impropriety, at a minimum.

We now have found out that one of these counterparties, a foreign bank, was willing to, and perhaps expected to, receive less than full value on its contracts with AIG, but nevertheless received the full amount. Also, we’ve now learned that the NY Fed, when current Treasury Secretary Geithner was in charge, instructed AIG to keep secret the names of its trading partners, a cover-up perhaps out of fear of public outrage. Geithner, although then the boss, claims he took no part in that decision.

A couple of days ago, Geithner appeared before a House Committee and received a seemingly well-deserved grilling on all this (WSJ article and editorial). His defense – AIG’s counter-parties were paid off what they were legally owed to prevent a collapse of the financial system. Paying off AIG’s counterparties at, say, 80% would have caused a collapse of the system? Count me as unconvinced and smelling something fishy. Paulson also appeared before the Committee, saying that he had no knowledge that the counterparties were paid off at 100%, claiming that that was a NY Fed decision.

All this bolsters the suspicion that the Wall Street taxpayer bailout engineered by Wall Street insiders within the Bush and Obama administrations was much more generous to certain Wall Street firms than it needed to be and likely should have been.

John M Greco