Wednesday, January 27, 2010

The Geithner - AIG Hearings

I spent all morning watching Treasury Secretary Tim Geithner's testimony before the House Committee on Oversight and Government Reform.  Fortunately, I can summarize it for you briefly:  a string of representatives repeatedly questioned Geithner on why AIG's counterparties were paid off at par - 100c on the dollar - and Geithner repeatedly answered (not a direct quote now, ) "As I said previously, that was the best option available at the time for the American Taxpayers."   Geithner insisted that there was no intermediate option, like 90c on the dollar, because such a restructuring of the contracts would have constituted a default, which would have resulted in all financial hell breaking loose in the United States (as a result of AIG ratings downgrades which would trigger all sorts of increased collateral requirements, and thus MORE taxpayer funds)..   Later, Hank Paulson repeated this claim.

In addition, Geithner testified that he had recused himself from decisions related to the disclosure of the payouts, and that it was not his decision to keep the payouts under wraps.  A string of Congressmen then told Geithner that they didn't believe him.

A few Congressmen noted that perhaps there could have been other ways to isolate AIG Financial Products, since it was separate from AIG's life and health insurance businesses, so that AIGFP could declare bankruptcy.  Both Geithner and later Hank Paulson testified that AIGFP was too big and entwined with the rest of AIG, and could not be isolated.  Geithner also offered the response "if there was a better option, we would have taken it,"  on this, and a few other issues as well.

When Geithner was asked late in the hearing if he had any regrets or would have done anything differently, he again repeated that he'd spent many many hours looking back on the decisions, and couldn't think of how things could have been done better from the perspective of minimizing risk and damage to the Taxpayer.

Overall, the hearing produced little in terms of new insights or information regarding the AIG counterparty payouts.  It did, however, highlight the absurdity of the whole hearing process - it was disheartening to watch the Congressmen ask their questions, some of which were grandstanding, as to be expected, but then leave the room after they'd asked their questions!  If this is so important, shouldn't they take the time to listen to the answers the "witness" gives to all the other questions?  In addition, several Congressmen were skipped over due to a lack of time.

I'm not a bankruptcy lawyer.  I don't know what the effects would have been had the NY Fed asked the counterparties to take 85c, 90c or 95c on the dollar for their contracts with AIG - but the line from those questioned (Geithner, Paulson, and I believe Bernanke previously) has consistently been that this haircut simply wouldn't have been possible and would have made things much worse.  It seemed clear that the Congressmen asking questions today were less than convinced that this was completely true.



Anonymous said...

Did they ask about the option to guarantee the Parent and let aigfp go into bankruptcy, or just guarantee the contracts of aigfp, collect the posted collateral back (fed does not need to post), and be on hook for payouts down the line

Kid Dynamite said...

i'm not quite sure what you mean.

the question that was asked at least twice was if AIGFP could have been allowed to default/declare bankruptcy because it was a separate entity. so yeah - i guess the question was if the Fed could just guarantee the Parent Company, and not AIGFP.

both Geithner and Paulson said no - that AIGFP was too big and intertwined with the rest of AIG.

Onlooker said...

"which would trigger all sorts of increased collateral requirements, and thus MORE taxpayer funds"

In other words the ponzi would collapse. Beautiful. And folks say there's no danger from deflation.

Anonymous said...

They tried to get the CPs to take haircuts. Just as AIG had, with no success whatsoever, prior to Fed becoming involved. AIG could actually threaten bankruptcy. The Fed had loaned AIG 85 billion.

The Fed: Okay, yeah, we did loan AIG 85 billion, and some other tens of billions, but we're gonna be really mean here and force you to take less than what AIG contractually owes you because, well, pretty please with a cherry on top, this is what we would love for you to let us make you do.

That's about as tough as they could get.

Anonymous said...

KD. the 'If there was a better option' portion was said in response to the imagined chaos of what the other options would have caused, bankruptcy, etc
Was the option of providing a Fed guarantee (instead of a loan to aig to buy out the contracts, the fed provides new 'insurance' on them, now the counterparties would not be able to force aig to post more collateral, and maybe even get what they posted, as aig credit declined, back) discussed as one of these other options that were worse?

Kid Dynamite said...

he used the "if there was a better option we would have taken it" answer to a few different questions.

as to your question - no - i don't think that was discussed - it sounds like you're referring to an almost TLGP for AIG's CDS... but no - i don't think the Congressmen were sophisticated enough in their knowledge to ask such a question, and the few that were seemed more bent on grandstanding.

Anonymous said...

Actually one of them did bring that up. Does this help answer the question:

"The first proposed option would have allowed the counterparties to keep their multi-sector CDOs and the protection provided by the credit default swaps. The counterparties would have agreed to forego additional collateral calls in exchange for a New York Fed guarantee of AIG’s performance under the credit default swaps. Under this proposal, the New York Fed would not own the underlying CDOs, but the New York Fed—through the guarantee—would eliminate the downside risk to the counterparties of a further decline in the CDOs’ market value. Not only did this structure have unappealing economics—taxpayer funds would have been exposed to the downside risk with no opportunity to participate in the upside—it also was not viable because the Federal Reserve lacked legal authority to issue the proposed guarantee under this structure. ..." - NY Fed

Anonymous said...

I would add that just because the congressmen - we saw exactly how smart and effective they truly are (not) - think there was a way to force CPs to take less, that does not mean it was possible. They can say "I just don't believe that I could not have hit a walk-off homer by being a tough negotiator in that situation" all they want, in reality they all would have been three and out. So would have Neil Barofsky. So would have Elizabeth Warren. AIG had just gotten more than 85 billion dollars plus. Plus. How could anybody look at a CP and say, "Hey, take a haircut or we're taking this baby to bankruptcy." This is a preposterous notion.

Anonymous said...

The questions about why AIGFP could not be allowed to fail on its own are particularly disheartening. It's like the bizarre after-the-fact discovery by the press that some of the bailout money might have gone to banks! And some of them were even foreign! Like that wasn't the point.

Quite aside from the legal issues - it was guaranteed by the parent - the whole point was to rescue AIGFP. The premise was that if AIGFP failed, then its counterparties would fail, igniting a chain of failures that would engulf every bank on earth, leaving us all to barter in the ruins.

Now, you may not believe that scenario, but the Fed claims that it did, and the logical consequences of that belief were that AIGFP had to be rescued. As for negotiating a haircut, there must have been some haircut that the counterparties would have accepted. But if that amount had been extremely small, would that have helped or hurt the public perception?

It seems that none of the politicians present asked themselves the relevant questions: why on earth was an insurance company allowed to do an end-run around existing laws restricting their activities by guaranteeing a captive sub? And how will new regulations help if you have no interest in enforcing those already on the books?

Kid Dynamite said...

as for haircuts - Geithner was saying that if they imposed ANY sort of haircut, it would be considered default, and result in a string of severe consequences.

i agree with you that the POINT of the AIGFP bailout was to give more money to the banks - yes - and that's what people are annoyed about, obviously.

an analogous situation is the absurd Tampa-Orlando high speed rail line the President mentioned yesterday. It's insane to spend billions of dollars on such an unnecessary project - but the point isn't to get value, it's to create jobs (not that I'm justifying it, although i do think it's better to pay people to do SOMETHING - create an unnecessary rail corridor - instead of paying them to do nothing (unemployment insurance)

Anonymous said...

No, it truly was not to give money to the banks.

It was to stop the banks and ratings agencies from forcing AIG into bankruptcy, which is what they would have done.

The number of Americans who would have been damaged by an AIG bankruptcy, first wave, is huge. 2nd wave and 3rd wave - economically devastating. The banks just would have walked over to the TARP window and borrowed enough to add to the collateral that would have become theirs, and they would have been dead banks walking. A very large number of American companies would have been dead companies walking.

It had nothing to do with getting money to the banks. That is all a meaningless distraction, which is why people are so confused. Never in my lifetime has the media so openly lied about a story to the American people.

The problem with haircuts is they all would have had to agree on the same amount. 16 CPs from at least 3 countries, 2 French - come on? They were running out of time. It was the first week in November. AIG announced a loss of 24 billion on November 11.

Kid Dynamite said...

anon @ 6:19 - that's the 80 billion dollar question - would we have had an epic financial hell storm if AIGFP was ringfenced from the rest of AIG's insurance businesses and allowed to fail?

if that happened, it's pretty clear that all the counterparty banks would be hosed anyway - like you said - which would require them to receive more funds from the government.

Thus, the government skipped the economic hell storm step, and allowed AIGFP to technically survive as a ghost shell - a dead company walking - while recapitalizing the counterparties (by making them whole) at the same time.