AIG: laundering the bailout

Today, testifying before the Senate Budget Committee, Fed Chairman Ben Bernanke said, as quoted in an FT story on the AIG meltdown:

If there is a single episode in this entire 18 months that has made me more angry, I can’t think of one other than AIG,” he said. “There was no oversight of the financial products division. This was a hedge fund basically that was attached to a large and stable insurance company.”

The critique seems both harsh and fair. But it obscures a bigger question: If AIG was irresponsible what does that make a government that has bailed them out to the tune of $180 billion and may, according to some estimates, ending up pumping $250 billion into the company before all is said and done? What is that money buying the American taxpayer? Where is all that money going? Where has it gone? (There is hardly any point in asking how it might have been better utilized though it is worth noting that the AIG bailout thus far is 200 times larger than amount of aid the United States offered Gaza this week, 200 times what we were willing to pony up to try to resolve a humanitarian emergency and keep the peace in a vital corner of the world. Actually, to put the amount in true perspective, $180 billion is larger than the GDP of Israel, $250 billion would be between the GDPs of Finland and Ireland, bigger than the annual GDPs of all but 30 or so countries in the world.)

Indeed, what’s really shocking about the AIG case is how little political debate there has been about what the money is being used for. As detailed in the FT story, and as also discussed in a good story in today’s New York Times, vast amounts of it, tens of billions of dollars are passing straight through AIG and into the hands of the counterparties that AIG had signed up for Collateralized Debt Obligations (CDOs), a form of investment “insurance.” Each of these counterparties got paid 100 cents on the dollar. As noted in my earlier conversation with Hank Greenberg, former CEO of AIG, the number one recipient of at least the first tranche of these funds was Goldman Sachs (a deal cut by a former CEO of Goldman Sachs, Hank Paulson, while the current CEO, Lloyd Blankfein was the only major counterparty sitting in the room). 

In short, AIG has become a beard in the financial bailout process. Companies that were gambling on mortgaged-backed and other securities got AIG to “insure” their bets. When the loans tanked, the companies raised a hue and cry that AIG was “too big to fail” in an effort to persuade the U.S. government to give the money to AIG… so it could pass it along to them. They got paid, bailed out in effect, but without any of the conditions going along with our other bail out deals. Virtually all of these players were private companies. Some certainly were non-U.S. companies. While some of the money going into AIG is supporting functioning traditional insurance company assets, that sucking sound you hear is hedge funds, investment banks, and other financial institutions at risk siphoning the money they need through the hollowed out carcass of AIG’s benighted financial products company. It is effectively a bailout laundering operation.

Since those companies are the ones benefitting from the largesse of taxpayers, shouldn’t they also be on the hook to the USG, subject to restrictions? Couldn’t also we have done deals with them to get them to take a fraction of what they were owed by AIG (which is what would have happened if AIG had been allowed to fail)? It could be more than they would have gotten, but if AIG and the USG had negotiated a better deal with them couldn’t we have saved some of the money of the USG? 

This is just one deal, albeit a big one. But it does reveal what happens when the government does big, complicated deals fast, without much debate and without having the staff to truly do the due diligence and later the monitoring that is required.

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