Marketplace Scratch Pad

Getting to the bottom of AIG

Scott Jagow Jan 27, 2010

I’ve been glued to the House hearing on the AIG bailout, featuring the testimony of Treasury Secretary Tim Geithner. His exchange with members of Congress has been emotional and confrontational.

What struck me while Mr. Geithner was reading his statement to open the hearing was how forceful — even angry — the Treasury Secretary was. I would characterize most of his testimony as sincere and credible. Geithner firmly believes the actions he took were in the best interests of the American taxpayer.

With respect to paying AIG’s counterparties 100 cents on the dollar, Geithner said it boiled down to a choice: Let AIG default or not. If he had forced counterparties such as Goldman Sachs to take less, Geithner says the banks would have lost confidence in AIG, its credit rating would’ve been destroyed, and the insurance company would have collapsed. Representative Elijah Cummings (D- Maryland), who called the hearing, asked Geithner what that would’ve meant for the economy. I’m paraphrasing:

Thousands of factories would’ve closed, millions more Americans would’ve lost their jobs, bank panic would’ve ensued, it would’ve brought about an utter collapse. People think it’s unfair for the government to bail out the financial system, but you cannot save the economy without saving the financial system.

Geithner also said the reason the Fed was put in this position was that regulators who should’ve acted to restrain AIG’s excessive risk-taking had not done so:

If you were outraged by what happened with AIG, and you should be, then you should be deeply committed to financial reform. The US should never have let institutions such as AIG take on a level of risk that could threaten the stability of the financial system.

As convincing as Geithner’s testimony was on those points, he was far less convincing on the issue of disclosing the terms of the AIG bailout to the public. Geithner continually said he took full responsibility for his decisions as head of the NY Fed, but that he had no knowledge of the choice to withhold certain information about the payments to AIG counterparties. I was begging for someone to challenge him on this, and finally, Representative Dan Burton (R- Indiana) did:

It stretches credulity that you didn’t know about this. It doesn’t make any sense to me.

Geithner reiterated that he took responsibility but that he was never aware of decisions to keep certain information secret. It was the biggest hole in his testimony.

Representative John Mica (R-Florida) said Geithner was giving “lame excuses.” Either he was in charge, or he wasn’t. Mica asked why Geithner should keep his job:

I will continue in this position as long as the president asks me to. I know what was I responsible for, and I take great pride in those judgments. And I hope you’ll take the same care in looking at those decisions in hindsight.

The most heated exchange was with Stephen Lynch (D-Mass). Lynch said, “I honestly believe the actions of you and Mr. Paulson were not consistently on the side of the American taxpayer.” He continued: With Bear Stearns, shareholders were forced to take two cents on the dollar, but with Goldman Sachs, you don’t negotiate a nickel? You scalped the folks at Bear Stearns, but Goldman Sachs got 100 cents on the dollar, and that is totally unacceptable. “It just stinks to high heaven what happened here.”

Geithner said the situations were different and that it came down to a tragic choice:

If you can’t accept the consequences of default, you do not have any leverage. It would’ve been vastly more expensive to the American taxpayer, it would’ve been much more damaging to the people you and I care about… if we had let that firm (AIG) fail. There was no choice between default and the restructuring of those contracts, and our decision left the American taxpayer better off.

We may never know whether that’s really the case. But Geithner deserves to be grilled on this, and he’s holding his own, although Geithner’s connections to Goldman Sachs are very difficult to get around, as perception and reality. It’s also extremely disturbing that the TBTF problem of companies like AIG still hasn’t been solved.

Mr. Paulson is up next.

If you’ve been watching, I’d love to hear your thoughts…

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