By Eliot Spitzer
The new AIG report reveals how the Treasury secretary—and U.S. taxpayers—were fleeced by Wall Street banks.
The issue has been festering for months: Why were AIG's counterparties—including Goldman Sachs, JPMorgan Chase, and UBS—paid 100 cents on the dollar when the feds rescued the insurance giant, helping raise the cost of the bailout to nearly $200 billion? A new report issued by Special Inspector General Neil Barofsky now reveals that government officials, notably then-New York Fed President and current Treasury Secretary Timothy Geithner, grievously damaged the nation and capitulated to the very banks they should have been supervising.
Barofsky's report reads like a case study in failed negotiation. The New York Fed didn't have the backbone to stand up to Wall Street, didn't understand its capacity to protect taxpayers, and didn't appreciate that its responsibility was to taxpayers.
Geithner and the Fed have proffered a series of spurious reasons for their willingness to pay AIG's counterparties—the leading Wall Street banks—in full while demanding concessions from every other entity with whom the Treasury or the Fed dealt. Geithner suggested he could not use the threat of AIG's default in the absence of a federal bailout to get concessions from AIG's creditors. Why not?
That is exactly what the government did with the auto industry, and rightly so. The entity providing financing to a near-bankrupt institution must always seek contributions from everyone else at risk. The fact that the Fed had a strong predisposition against letting AIG go into bankruptcy didn't mean the Fed shouldn't have used every opportunity to wrangle concessions from the other parties. For Geithner to say it would have been "unethical" to negotiate for concessions is sheer silliness. It is akin to saying that having decided that you are willing to pay up to $250,000 for a house, it is unethical to negotiate to buy it for $225,000.
Geithner also claims that using the possibility of AIG's default as a negotiating opportunity would have cast doubt on the government's commitment to financial stability. What? Seeking to get other parties to share the burden demonstrates a lack of commitment to restoring financial stability and market-based realities? Pressuring Goldman and the other counterparties to offer concessions would have forced them to absorb the consequences of making suspect deals with an insurance company that was essentially a Ponzi scheme. Forcing them to give concessions would have been one small step toward ending the moral hazard the Fed had allowed to flourish for years.
Perhaps most remarkable is that Geithner claims the "sanctity of contract" prevented renegotiating with the counterparties. But the government wasn't a party to these contracts! The government was stepping in with taxpayer money to save a broken company on terms to be set by the government. The counterparties had the contractual right to refuse the terms, throw AIG into bankruptcy, and suffer the consequences. In a workout context, the entity with cash—here, the government—can set the terms, and the other parties can either accept those terms or walk over to bankruptcy court. The government had absolutely no contractual obligation to do anything.
See also:
The $25 Billion Dollar Secret: The NY Fed, Goldman & The AIG Cover-Up