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Burning down the house

Scott Jagow Mar 2, 2009

Q: What happens to money when you throw it into a fire? A: The same thing that happens when you give it to AIG. Today’s 4th bailout of the insurance company is the most frightening sign yet of how out-of-control the financial system has become. Last quarter, AIG lost more money than any company has ever lost in three months — $27.9 million an hour. That means every six and a half seconds, AIG is losing the equivalent of the median household income in the US.

The government’s argument for pouring more taxpayer money into AIG is still the same —
it’s cheaper than letting the company fail. If AIG collapses, the premise goes, the entire Western world’s banking system crumbles with it. European banks are especially at risk because of all the credit default swaps they bought from AIG. Economist Tyler Cowen addresses the issue in his blog today:

No one wants to say it, but essentially the Fed has been bailing out European banks.

Marketplace PM will delve more into that issue on this evening’s program. CEO Edward Liddy says AIG doesn’t need more cash. He says it needs “back-up” money to “enhance the restructuring we are working on.”

But how long is this going to take? Back in September, when the government gave AIG $85 billion, Liddy said he had a restructuring plan for a smaller, well-capitalized version of the company. Why didn’t the government step in then and make it happen? Or in October, when AIG got another $38 billion? Or in November, when the government raised its commitment to $150 billion?

As breakingviews.com points out: “regulators can’t see any realistic alternative to having taxpayers throw good money after bad.”

Well, of course not now. It’s too late. University of Illinois law professor Larry Ribstein says it very well:

In fact, it’s even worse. The government is bailing out AIG because AIG undermined a system that the government was supposed to be, but wasn’t, protecting. And now who’s in charge? The government, of course.

So, essentially, the government decided to buy the house after watching it burn to the ground.

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