Streetwise Professor

January 28, 2010

The Real AIG Question Remains Unanswered

Filed under: Derivatives,Financial crisis,Politics — The Professor @ 10:14 pm

I’m not a big fan of Zero Hedge; it’s very high variance.  (Which kinda makes sense, if they’re not hedged:)  But every once in awhile “Tyler Durden” hits the nail.  Apropos AIG, he asks the question I asked, and Hank Greenberg asked: why didn’t the Fed/Treasury simply guarantee AIG’s contracts?:

Why did the Fed not guarantee AIG’s assets ahead of the firm’s implosion. Surely, the realization, which as everyone trumpets these days, that AIG’s failure would have destroyed the world should have been known to at least one person in authority? And as all know, the collateral call toxic spiral commenced only once AIG was formally downgraded by the rating agencies. Well, had the AIG had the formal guarantee of the Federal Reserve, which is implicitly a guarantee by the U.S., then AIG would not have been downgraded in the first place, and no collateral calls would be forthcoming. Of course, Goldman would end up owning CDOs that as Janet Tavakoli points out, and contrary to what the Fed claims, are now worth at best pennies on the dollar. Furthermore, Goldman’s AIG CDS would immediately have become worthless, with Goldman unable to sell them in the open market for a profit of billions of dollars, yet the firm would continue extracting collateral as per its prior arrangement with AIG, in essence not impairing Goldman at all. And had AIG not started down the downgrade spiral, then numerous other adverse consequences of the nationalization of the insurance company would not have transpired. While it would not have saved America’s financial system, it would have made the descent more manageable. Yet with Goldman having benefited massively from the elimination of a vast swath of competitors, one wonders if the guarantee track may have been considered and subsequently denied, under the wise tutelage of 85 Broad advisors. We suggest Senator [sic] Issa and Neil Barofsky focus very closely on any email released as part of the disclosure process that highlight the Fed’s reasoning as to why AIG should not receive a guarantee, and what the nature of such reasoning may have been. [Emphasis added.]

I agree completely that this is the most important question.  The stuff about the disclosures is perhaps easier for the politicians and public to understand, but that’s a side issue, at best.

Timmy! Geithner basically blew off this issue.  Bernanke definitely blew it off.  Issa asked him about it, and in his response letter, Bernanke didn’t answer; he said only that that question had been answered by FRBNY General Counsel Thomas Baxter.  What, is Helicopter Ben averse to spending a few pixels to explain, in his own words, why this option wasn’t chosen?  Lawyering up always looks suspicious.

The refusal to answer this question is very telling.  That’s where the story really is.  Guarantee: no cash out the door, but no AIG implosion either, allowing time to manage the crisis.  There had to have been a compelling reason to eschew this option.  I haven’t heard it yet.  Like Z-H says, let’s see the paper trail.

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1 Comment »

  1. How does one get NYFed to disclose these details? Is it upto senators of NY state? But haven’t many of those had their campaigns funded by the folks at 85 Broad St?

    Comment by Surya — January 29, 2010 @ 12:39 am

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