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Taxpayers to Bail Out Ailing Insurance Giant:
Big news:
Acting to avert a possible financial crisis worldwide, the U.S. Federal Reserve Board reversed course Tuesday and agreed to an $85 billion bailout that would give the U.S. government an ownership stake in the troubled insurance giant American International Group.

The decision, announced by the Fed only two weeks after the Treasury Department took over the quasi-government mortgage finance companies Fannie Mae and Freddie Mac, is the most radical intervention in private business in the central bank's history.
I never knew that's what they meant by an "ownership society."
neurodoc:
Yes, the federal government, and hence all of its citizens, will wind up with quite an investment portfolio of stocks in private companies.
9.17.2008 2:33am
Lakini (mail):
I believe this cure will only worsen the disease.
9.17.2008 2:38am
Andy Freeman (mail):
Over the weekend, I saw reports that a private investor group had offered AIG roughly the same amount and that AIG turned it down, hoping for a federal bailout on more favorable terms.

If that's the case, the stock holders should be wiped out, all the executives fired without severance, and the policies sold to other insurance companies. When that's done, everyone else gets the axe. Those who object can sue the remaining company. Oops - judgement proof, no assets.
9.17.2008 2:42am
Tony Tutins (mail):
Here on the VC, I'd like to read a libertarian panel discussion of big firm bailouts.
9.17.2008 2:49am
Obvious (mail):
Grandma: When you grow up, Davey, what do you want to be?

Davey: I want to acquire large capital assets in housing, insurance, and investments.

Grandma: Oh, you want to be a captain of industry.

Davey: No. I want to be a taxpayer...
9.17.2008 2:56am
PC:
And people say Republicans are against nationalized insurance.
9.17.2008 3:05am
wb (mail):
PC,

I was telling a friend this same thing this morning. George Bush will have nationalized more corporations than most communists. Next thing they be playing the International when he makes appearances.
9.17.2008 3:20am
deepthought:
As I posted on a earlier in a slightly different form on another VC thread:

At least we know who the socialists are in this country. . . . and it's not the Democratic Party, since it's a Republican administration that has engineered the takeover of Freddie Mac, Fannie Mae, Bear Stearns and AIG and offered billions in subsidies through the Fed. And we shouldn't hear any complaints about expanding government power from the Republicans--they have done it in spades (presidential authority, education policy, national security, and now industrial policy.) So much for the magic hand of the "free market"--it's only "free" when the government bails you out and the people are stuck with the bill.

AIG, along with Lehman Bros., was a moving force behind the creation of the subprime mortgage debacle. Why shouldn't they be punished for their mistakes? While AIG's failure might lead to disruption of the financial markets, think of its failure as cleaning the Augean Stables of the financial industry.

The meager assistance given to homeowners is a pittance compared to the bilions given to the financial industry. Homeowners are paying the price for their bad decisions through foreclosure while the financial industry is allowed to have its stupid decisions paid for by the American taxpayer.

Let it fail. Let it fail. Let it fail. Let it fail.
9.17.2008 3:28am
Jim at FSU (mail):
Great, so this week we gained how many new federal employees?
9.17.2008 3:32am
Lior:
It seems that a new strategy for investment firms has manifested itself: take the greatest risks possible. It will work for a while, allowing the firm to grow quickly and for management to draw huge salaries. Once you grow large enough, the scheme has worked: you continue to take risks, and the US Taxpayer can now be relied on to "save" you if the consequences of the risks come back to haunt you. The executives can still draw large salaries, and will not be poor when the inevitable collapse occurs. I want in!
9.17.2008 3:55am
Frater Plotter:
Why didn't Lenin ever think of this? Instead of seizing the assets of capitalists and shooting them, just have the vanguard party borrow a bunch of money, wait for the capitalists to be in trouble, and buy them out!
9.17.2008 4:11am
A. Zarkov (mail):
Denninger over at Market Ticker says AIG was the victim of a Bear Raid. Listen to his video for details on how this works. The root of the problem is the huge number of Credit Default Swaps AIG holds. If Denninger is right then we will see more of this in the future. The American finanical system is being destroyed before yor eyes.
9.17.2008 4:28am
eyesay:
wb: "Next thing they be playing the International when [Bush] makes appearances."

Don't you mean the Internationale?
9.17.2008 4:55am
Lakini (mail):
Lenin did not need to think of it, I believe Marx already included it in the ten planks of the Communist Manifesto (#5).
9.17.2008 5:27am
randal (mail):
I feel like many people have been confused by words, like "deregulation". What we are seeing now is a direct result of Bush's meddling. Just, he doesn't call it "regulation", he calls it "incentives" and "ownership societies" etc.

I think there's now a serious question about whether Republicans meddle in the market more than Democrats do, whatever name is used for the rationale.

This at the same time that Democrats are abandoning "regulation". I've heard more about "regulation" from McCain than Obama in the last week.
9.17.2008 5:47am
Perseus (mail):
Can we buy/sell/short our shares in the federal government's new Failed/Distressed Financial Companies Mutual Fund?
9.17.2008 6:19am
PersonFromPorlock:
And the successor to capitalism is... capitolism.
9.17.2008 7:13am
A. Zarkov (mail):
TED spread spikes.
9.17.2008 7:34am
Scipio_79:
When do we start getting our dividend checks?
9.17.2008 7:43am
Arkady:
Moral hazard is the unprotected financial sex of the current era. No need to ask who's being screwed.
9.17.2008 7:57am
Big E:
In light of the rash of financial giants in trouble perhaps it's time to reexamine our lax anti-trust enforcement. Yes I understand the advantages acquired by the companies by getting huge, but when they "are too big to fail" wouldn't breaking them up before they reach this critical mass be preferable to a bailout?
9.17.2008 8:13am
Jerome Cole (mail) (www):
I just say Frank Paulson on TV saying something to the effect that not a single person with FDIC insured deposits has lost a single penny. That is just the problem. Markets don't work unless we allow people to lose money. Capitalism isn't all profit all the time. Right now the federal government reminds me of the underpants gnomes.

Step 1: Bail-out ailing finance giants.

Step 2: ???

Step 3: Profit!
9.17.2008 8:35am
rbj:
Gee, what with all these government bailouts it is no wonder that I'm feeling a bit Wobblie.

$200 billion to Fanny &Freddy
$85 billion to AIG
$50 billion to the auto industry (possibly)
pretty soon we'll be talking about real money.
9.17.2008 8:57am
Norman Bates (mail):
It's worth remembering that Fanny Mae, Freddy Mac, and AIG are all suffering from a crisis in liquidity, not solvency. The government is solving a short-term liquidity crisis by buying these entitities out at bargain basement prices. The value of these entities over the long term is far more than what the government paid. The taxpayers aren't being screwed and investors in these entities are being punished, since the government is paying only a fraction of what investors originally invested in these entities.

On the other hand, if these corporations were allowed to fail, their liquidity crisis would spread throughout the world causing a true economic recession with significant reductions in production and significant increases in unemployment. In the developed world there would be a significant increase in discomfort. In economically marginal areas the result would be significant increases in deaths from, e.g., starvation.
9.17.2008 9:31am
bornyesterday (mail) (www):
I hate to say it, since I'm not really a fan of hers, but Ayn Rand is rolling in her grave.
9.17.2008 9:45am
PC:
Privatize the profits, nationalize the company?
9.17.2008 9:47am
A.W. (mail):
I am NOT a fan of Ron Paul, but he did have one good line: if you subsidize something, you get more of it.

We are subsidizing these companies risky behavior, by being their safety net. These companies must learn that if they make risky decisions and it blows up in their faces, that they will have to face the music.

But its an election year, and so there will be no economic realism. FDR really unleashed a nasty genie upon us with the new deal's promise that nothing will ever go wrong in the economy again.
9.17.2008 10:01am
Sarcastro (www):
[I know just about nothing about industrial finance, but who cares if an insurance company goes under?

Insurance is a rolling expense, right? Can't companies easily go elsewhere?

And how big a risk is it if an institution is uninsured for a six months or so?]
9.17.2008 10:14am
rarango (mail):
So much for the invisible hand. Government intervention in markets is, in general, a lousy idea; moreover why do the feds bail out some, and not others? Now I am feeling sorry for Lehman brothers--(at least their employees--the CEOs get their golden parachutes and walk away with millions for destroying a firm) Where is John Galt when you really need him.
9.17.2008 10:31am
MR:
Before all you conservative-/libertarian-minded folk impulsively lash out against the Government spending spree:

It's important to remember that even our nation's leading laissez faire economists (e.g., Milton Friedman) recognized that government intervention is sometimes necessary in times of extreme economic crisis. The moral hazard problem described above by a number of commenters gives one reason to pause, but we've seen in the past that catastrophic things can happen when the government sits it out entirely.

It's also worth mentioning that a couple of conservative economists, Paul Volcker and Alan Greenspan, have suggested reviving the RTC (in essence) to get the government even more involved. (I think it's fair to characterize those two as conservative.)
9.17.2008 10:39am
Houston Lawyer:
Pretty soon these bailouts will equal the one-year cost of the prescription drug benefit congress added a few years ago.

I like the RTC angle. Liquidate the assets and freeze out the equity holders. Although some would advocate that the bond holders should also take a hit.
9.17.2008 11:03am
Anderson (mail):
Are brackets your way of saying, "serious question," Sarcastro?
9.17.2008 11:06am
Perry:
Norman,

Its a little bit more than mere liquidity issues at stake - AIG committed itself to backing 441 billion dollars of bond transactions through its credit default swap products. When times are good and the underlying parties can meet their debt obligations, this business line acts like a pure profit center. But if they miscalculate the risks of default, even by a small percentage, they are on the hook for a lot more than they bargained for. Remember that every single one of those transactions that end in default is contractually obligated to be covered by AIG.

So what the federal government has done is take up 80% share of a company that may be able to sell its insurance businesses for a large amount of money but may need all of that plus more up to cover almost half a trillion dollars of potential debt liability.

Merry Christmas in little early this year, US Citizens.
9.17.2008 11:07am
Sarcastro (www):
[Anderson yes.]
9.17.2008 11:12am
Sarcastro (www):
[though it looks like the questions got answered on another thread.]
9.17.2008 11:13am
The Ace (mail):
AIG, along with Lehman Bros., was a moving force behind the creation of the subprime mortgage debacle.

No, the federal government, through Fannie &Freddie was.

Caused mainly by Democrats in Congress pushing for "affordable housing" and such.

------------------
We are subsidizing these companies risky behavior, by being their safety net.

Absolutely. This is appalling.
9.17.2008 11:22am
M. Gross (mail):
The concern is, the reason that these companies have liquidity problems it that really at the root of it, they have solvency problems.

The liquidity problems are a mere symptom of their assets being worth essentially nothing, which is why they have no real cash flow. The government is bailing them because they need to maintain the illusion (and value) of their assets.

That's the real reason they're so desperate to prevent a fire sale, because as soon as everyone sees the real bottom, they're going to panic.

AIG had to stay up because they're guaranteeing a lot of those worthless assets, a major part of giving them the illusion of value (at least you can theoretically collect the insurance if AIG is still around.)
9.17.2008 11:24am
The Ace (mail):
Wow, is this hystercial


House Speaker Nancy Pelosi, when asked Tuesday whether Democrats bear some of the responsibility regarding the current crisis on Wall Street, had a one-word answer: "No."


"Accountability" is something liberals shout at elected Republicans.
9.17.2008 11:45am
neurodoc:
What Norman Bates said at 8:31 AM:
a crisis in liquidity...The government is solving a short-term liquidity crisis by buying these entitities...if these corporations were allowed to fail, their liquidity crisis would spread throughout the world causing a true economic recession with significant reductions in production and significant increases in unemployment...
Yes, quite correct about the liquidity crisis part.
crisis...not solvency. The government is...buying these entitities out at bargain basement prices. The value of these entities over the long term is far more than what the government paid.
Well, from Norman Bates's lips to God's ears, because this is more prayer than well-founded belief. Nobody knows the true value of these entities, because no one knows or can know at this time the true value of the underlying assets, in particular those derivative instruments (collateralized debt obligations, credit default swaps, etc.). Hopefully, over the long term (and before we are all dead) it will prove the case that these entities were worth more than what the government paid to refloat them. But at present that hope is only a dim glimmer. The government "bought" these entities because no major financial players thought the value of them substantially greater than the price, if indeed worth as much as the price.
The taxpayers aren't being screwed and investors in these entities are being punished, since the government is paying only a fraction of what investors originally invested in these entities.
Maybe the taxpayers aren't being screwed because it is reasonable to believe, as do Henry Paulson, Ben Bernacke, et al., that we would be worse off if nothing was done and we then had an economic meltdown. But that is different from saying that the taxpayers aren't being screwed because like vulture capitalists we bought clearly valuable assets at bargain basement prices. Again, why no serious bidders other than the government if so fantastic a deal was to be had?

Investors in these entities are NOT being punished, or at least no more punished than any investor ever is when the market turns against them and the value of what they own plummets, sometimes to zero. The government did not pull the plug on viable entities and take out any money that was rightfully investors' money. Perhaps executives like Fannie Mae's Franklin Raines should have been "punished" by the government for cooking the books, but that didn't happen.

Finally, after the legendary Warren Buffet bought General Re, he went in exactly the opposite direction with the company from the one taken by AIG. Buffet didn't want to own anything he didn't understand, and Buffet, who understands these things better than almost anyone, couldn't understand and confidently value the derivatives in General Re's portfolio. So he started unraveling those swap deals, closing them out as quickly as possible. It took him and the company four years to do that, because the derivatives had passed from one hand to another, and General Re didn't know who all their counterparts were. By all accounts, Warren Buffet and General Re are doing well today, while AIG is an economic disaster probably like no other company we have ever seen.
9.17.2008 12:04pm
Elliot123 (mail):
1. We hear a lot about the Bush policies that caused the current situation, but we rarely hear anyone say exactly what specific policy is at fault. We hear about deregulation, but exactly what specific deregulation caused AIG's problems? What specific deregulation caused Lehman's problems? What specific Bush policy is at fault?

2. We also hear the word "bailout' quite a bit. I suggest whenever someone uses it they also tell us who is being bailed out and who is not. I suspect most folks don't know, but it's a catchy phrase. So who is it? Stock holders? Home owners? IRA's that insured bonds? Pension funds who hold bonds? ... Who is being bailed out in AIG's case?

I don't deny that Bush policies may be at fault, and I don't deny any particular class is being bailed out. But, since we hear so much about each, is it too much to ask that people who talk about them also provide the specifics?
9.17.2008 12:05pm
Norman Bates (mail):
Perry and M. Gross: I partly agree with you. By insuring corporate debt that its managers did not fully understand AIG was playing a dangerous game. Part of the blame is AIG's.

But a whole string of falling dominoes got AIG into its present fix, starting with home buyers who foolishly over-extended themselves and rapacious mortgage sellers who aided and abetted them.

The government could (should?) have stopped the chain earlier. But if it doesn't act now all the dominoes could go down and we'll wind up with a world-wide depression. Furthermore, if the financial situation stabilizes now, most of the debt that AIG has financeed will eventually be paid without default. So I think the USA's federal government is trying to do about the only thing it can to prevent an economic disaster and it's doing so in as financially prudent a manner as possible.

Doctrinaire libertarians might argue for a hands-off policy at this point. But that would almost certainly result in a complete economic collapse that would lead to irresistible popular demands for even more government intervention than we're seeing now--a new New Deal. That would be a real tragedy for libertarians.
9.17.2008 12:09pm
Javert:
Am I the only one who didn't receive a shareholder's agreement?

Statists have been using this tactic for decades: tax and regulate an industry into near insolvency. Then demand a government takeover to "solve" the (government-created) crisis. See the history of the railroad, subway, and various utilities industries.
9.17.2008 12:13pm
GD (mail):
My favorite analogy here is an unprofitable Roulette wheel. Each year/spin of the wheel, the wall street firm will either make $10 billion or crash and burn with a $360 billion loss (1/36 odds). The senior executives and their enablers in accounting/law/government rationalize that the odds of this event are not 1/36, but a much more remote (1/72). Instead of withholding $10 billion each year as a reserve for the eventual large loss, only $5 billion each year is withheld, with the other $5 billion paid out as illusory profits/bonuses. When the crash comes, the reserves are grossly inadequate (and the taxpayer must step in). The reality is, these businesses were never truly profitable (or as profitable as they seemed). They were just running a roulette wheel without adequately reserving to pay out the eventual winners.
9.17.2008 12:23pm
neurodoc:
The Ace: AIG, along with Lehman Bros., was a moving force behind the creation of the subprime mortgage debacle.

No, the federal government, through Fannie &Freddie was.
Are you arguing that Fannie &Freddie, over whom the fderal government exercised so little control, were if not solely responsible for the suprime mortgage debacle, then the greatest contributors to it, while AIG and Lehman were relatively minor contributors? If you are, then you are simply wrong.

Fannie &Freddie did not start the subprime mortgage party, they were relative latecomers to it. Primary lenders like Countrywide, IndyMac, etc. got things rolling with their creation and marketing of subprime, no doc (liars loans), and "exotic" (e.g., option) mortgage loans. When the party quickly became too big for the hall it was in, the investment banks came joined and got a much, much bigger hall for all the revelers, bundling those mortgages so they could be sold to investors and more capital could be invested in the ever more raucous party being enjoyed by so many. Fannie and Freddie got in on this because theirs had been a much smaller, less profitable party and they didn't want to be left behind by the more recent arrivals on the mortgage lending scene.

When others were getting nervous about what was starting to look like a financial house of cards, Fuld, Lehman's CEO, decided it was time to be bold and take risks with derivatives in the pursuit of gargantuan gains. His was a disasterous decision that contributed greatly to the current mess. And AIG by taking the huge position it has taken in these debt instruments added a good deal of fuel to the fire, leaving it on death's door now.

The federal government was not so much a moving force as it was a non-moving one in it all through i) its passive implied guarantee of Fannie and Freddie, and ii) its passive failure to regulate, that because Fannie and Freddie did so much to frustrate any serious regulatory measures.
9.17.2008 12:27pm
neurodoc:
Elliot123: "IRA's that insured bonds"

Huh? If "IRA's" stands for "Individual Retirement Accounts" that makes no sense.

You are right that it is no more the Bush adminstration's fault than the Clinton one's, and Congress is probably more at fault than the executive branch. The latter tried to get the former to act, but they wouldn't.

The largest and most important group to benefit from the bailout of Fannie and Freddie has been the bondholders, whose holdings are now far more valuable than they were before the government intervened.
9.17.2008 12:35pm
The Ace (mail):
Are you arguing that Fannie &Freddie, over whom the fderal government exercised so little control

Why did the government have "so little" control over a government sponsored enterprise?

If they had "so little" control, why did the Executive Branch get to appoint directors and Congress create F&F's regulator?

Fannie and Freddie got in on this because theirs had been a much smaller, less profitable party and they didn't want to be left behind by the more recent arrivals on the mortgage lending scene.

Really?

Chartered by the government to keep mortgage money flowing, Fannie Mae buys loans from lenders, enabling them to make more loans. It also packages loans into securities for sale to other investors, guaranteeing it will make the payments if borrowers default. Its mortgage-related investments and guarantees total $3 trillion.


Fannie wasn't "late" to the party, they were serving the drinks.
9.17.2008 12:36pm
elduderino:
I think this is a good time to reflect on social security privatization proposals... when market crashes like this happen what would happen to everyone's social security? My guess is bailouts on a scale even larger than this.
9.17.2008 12:37pm
The Ace (mail):
Fuld, Lehman's CEO, decided it was time to be bold and take risks with derivatives in the pursuit of gargantuan gains. His was a disasterous decision that contributed greatly to the current mess.

Totally agree, and accept that as fact. But I would add that what he did woudln't had been possible if it were not for Fannie &Freddie.

Per the link above:
Instead of buying the loans and securitizing them itself, Fannie Mae had invested in securities packaged by others from pools of these loans. Going back at least as far as 2002, Fannie Mae had taken on tens of billions of dollars of such securities, according to regulatory data.
9.17.2008 12:39pm
neurodoc:
Norman Bates: Part of the blame is AIG's.

But a whole string of falling dominoes got AIG into its present fix, starting with home buyers who foolishly over-extended themselves and rapacious mortgage sellers who aided and abetted them.


All of the blame for where AIG finds itself is AIG's. No one twisted AIG's arm to get them into the derivatives business. As I noted before, General Re, another major insurance company, had a large portfolio of derivative instruments and got rid of them as quickly as they possibly could after Warren Buffet took the helm. That others were "foolishly overextended" home buyers and "rapacious mortgage sellers" in the game too, does zero to lessen AIG's blameworthiness.
9.17.2008 12:42pm
The Ace (mail):
The federal government was not so much a moving force as it was a non-moving one in it all through i) its passive implied guarantee of Fannie and Freddie, and ii) its passive failure to regulate, that because Fannie and Freddie did so much to frustrate any serious regulatory measures

I would say that you're wrong in the sense that Congress wanted more loans, whether they were risky or not, to happen.

However, the companies were constantly under pressure to buy riskier mortgages. Once, a high-ranking Democrat telephoned executives and screamed at them to purchase more loans from low-income borrowers, according to a Congressional source.

I would note that I think it entirely reasonable to conclude that if the nation's largest mortgage finance company melts down, it is the primary driver for this mess.
9.17.2008 12:44pm
The Ace (mail):
The federal government was not so much a moving force as it was a non-moving one in it all

Disagree:

Eager to put more low-income and minority families into their own homes, the agency required that two government-chartered mortgage finance firms purchase far more "affordable" loans made to these borrowers. HUD stuck with an outdated policy that allowed Freddie Mac and Fannie Mae to count billions of dollars they invested in subprime loans as a public good that would foster affordable housing.


They weren't passive, they were an agitator.
9.17.2008 12:48pm
neurodoc:
Fannie wasn't "late" to the party, they were serving the drinks.
I don't have time to come up with links for you, but I will tell you that you are wrong. Fannie and Freddie came relatively late to the party because they were becoming relatively minor players in a game of collateralizing mortgage debt, one they had originated. Once at the party, they played their part, a big one to be sure, in the bacchanalia already underway.
9.17.2008 12:49pm
JRL:
"Taxpayers to Bail Out Ailing Insurance Giant:"

Just posting to say, ha-ha, I get it -- Ailing Insurance Giant - AIG! Good work.
9.17.2008 12:52pm
neurodoc:
I would say that you're wrong in the sense that Congress wanted more loans, whether they were risky or not, to happen.
I agree with that. And let's give credit to those who deserve it, that is the likes of Barney Frank and Chris Dodd, among many other on the Hill. The Hill is more blameworthy than the White House.
They weren't passive, they were an agitator.
I suppose it depends to some extent on how you define "moving force" (yours) and "non-moving force" (mine). You are emphasizing the encouragement by Congress of more lending, even if risky; I am emphasizing the failure to oversee and regulate. By let's not absolve Fannie and Freddie of blame, since they did plenty to frustrate any attempts to oversee and regulate them.
9.17.2008 12:55pm
neurodoc:
Javert: Statists have been using this tactic for decades: tax and regulate an industry into near insolvency. Then demand a government takeover to "solve" the (government-created) crisis.
That's an "F" answer. If anything, the players were undertaxed (hedge fund managers able to treat ordinary income as capital gains) and the industry sure as hell wasn't much regulated. The government has been a reluctant intervenor, rightly so.
9.17.2008 1:01pm
Norman Bates (mail):
neurodoc:

I don't disagree with you that AIG failed in its fiduciary responsibilities. However, a large part of AIG's failure was in trusting rather than verifying that insurees were accurately portraying their exposure.

AIG managers, staff, and shareholders are paying the usual price for incompetence: They've lost an awful lot of money and many are losing or will lose their jobs.

If the government allowed this disaster to play out to the end, a whole lot of other, more innocent people would lose their money, a lot of us would lose our jobs, the economy would tank, and people in far off corners of the world would die.

Instead the government is "buying out" these corporations and will almost undoubtedly recoup the money invested with a tidy profit. My reason for believing that the end result will be a profit is it appears that at least one other private firm proffered AIG a "buy out" for about the same amount and with more favorable terms than the final government deal.

I can't think of a better way to spend tax payer dollars than on a project that will probably end up netting the government money and will -- hopefully -- prevent a worldwide recession.

Maybe later we can have Congressional show trials to place blame wherever it is appropriate and politically expedient.
9.17.2008 1:03pm
Tony Tutins (mail):

Denninger over at Market Ticker

Although what Denninger says seems to make sense, I am prejudiced because on Usenet, Karl was widely referred to as Yamhead.
9.17.2008 1:24pm
zippypinhead:
Can we buy/sell/short our shares in the federal government's new Failed/Distressed Financial Companies Mutual Fund?
Some friends of mine who are employed by the Federal government have been known to moan that THEIR employee stock options are always underwater. I'm sure they'd like finally having exchange-traded shares in their employer!

Or looking at it another way, it's fascinating that the Federal government is simultaneously nationalizing chunks of the private sector while privatizing chunks of its own functions. Take this to its logcal conclusion with all private capital getting wiped out and the state having whithered away, and we get the first true Marxian utopia the world has ever seen!
\sarcasm off>
9.17.2008 1:31pm
guy in the veal calf office (mail) (www):
I don't think the Fed is funded by taxes, nor by appropriations from Congress. The Fed's profits from lending aren't delivered to Congress. So its not really a taxpayer bail-out or a taxpayer investment, except in a attenuated connection to interest rates and inflation that affect everyone, not just taxpayers.
9.17.2008 1:42pm
neurodoc:
However, a large part of AIG's failure was in trusting rather than verifying that insurees were accurately portraying their exposure.
Have you ever heard of "due diligence"? It means you don't "trust," you "verify." How fundamentally silly a notion that AIG was duped in the marketplace. And those "insurees" aren't your usual individuals or business buying casualty, life, liability and other familiar types of insurance. They are buyers and traders of risk associated exceeding complex financial instruments. What AIG was into was more akin to playing bookmaker, hoping to profit on spreads, with all bets covered (hedged).
Maybe later we can have Congressional show trials to place blame wherever it is appropriate and politically expedient.
The sarcasm in "show trials" is out of place. Show trials are by definition political theatre, bogus from start to finish, the accused innocent of any crimes, a guilty verdict guaranteed. There is real blame for this financial debacle to be assigned and lessons to be learned from it.
9.17.2008 1:46pm
bud (mail):
IANAE. That said, I believe the root of these problems is a failure of the market, and the root of that failure is intrinsic to any market - the drive to maximize profit will invariably lead to gigantic companies, with comensurate effect on the economy as a whole. Is a real "antitrust" law the answer? By real, I mean one that insures a large number of players on both sides of the equation, not one that says (as has been effectively done for years) that if there are three sellers in a market, everything's ok. It seems to me that none of the issues we are facing today would be of note if, instead of AIG, we had 15 companies sharing their portfolio - and the same with all the other failures. Perhaps a size limit (as a percentage of the economy) should be one goal of "antitrust" law?
9.17.2008 2:08pm
Elliot123 (mail):
"Elliot123: "IRA's that insured bonds"

That was a very poor choice of words. I was referring to an IRA that held bonds that were insured by someone else. I agree IRAs do not provide bond insurance.
9.17.2008 2:23pm
PC:
bud: One thing to look at is the repeal of the Glass-Steagall Act. (sponsored by one of McCain's economic advisors, Phil Gramm)
9.17.2008 2:23pm
Norman Bates (mail):
neurodoc:

The sarcasm in "show trials" is out of place. Show trials are by definition political theatre, bogus from start to finish, the accused innocent of any crimes, a guilty verdict guaranteed. There is real blame for this financial debacle to be assigned and lessons to be learned from it


As soon as you say "There is real blame for this financial debacle to be assigned" you're prepping for a show trial. All that remains is to haul those you have selected for blame before your tribunal for a public humiliation. That's pretty much how Congressional hearings work.
9.17.2008 2:40pm
one of many:
Person from P,

And the successor to capitalism is... capitolism. It is a good line, my file is getting a little so I'm holding off on filing off the identification and presenting it as my own for a few days until I have time to dig my grinder out, please don't be offended. Especially amusing when capitalism was the successor to capitolism itself.


Before this discussion gets too much further into management greed and all that, I wish to point out that this is AIG and the management team which made these greedy and unwise decisions was the one installed by the government (Eliot Spitzer).
9.17.2008 2:47pm
The Ace (mail):
guy in the veal calf office:

What you said, apparrently at the time you said it, was true. Now?


The Federal Reserve has requested that the Treasury Department deposit $40 billion with the central bank in an effort to help the Fed continue to stabilize the financial markets and address concerns about whether it is overstretched.

The Fed's extraordinary series of efforts to pump extra funds into the financial system and bail out such firms as American International Group and Bear Stearns with mammoth loans has depleted its store of Treasury bonds. The central bank will use the funds to offset the amount of money it has injected into the markets in its rescue efforts.


Good grief.
9.17.2008 3:37pm
Javert:

Me: Statists have been using this tactic for decades: tax and regulate an industry into near insolvency. Then demand a government takeover to "solve" the (government-created) crisis.

neurodoc: That's an "F" answer. If anything, the players were undertaxed (hedge fund managers able to treat ordinary income as capital gains) and the industry sure as hell wasn't much regulated. The government has been a reluctant intervenor, rightly so.
Graders should know their subject before issuing bogus grades. The financial and insurance industries are some of the most heavily regulated (and taxed, especially if they do business in NYC) in the entire economy. Perhaps you have never heard of the Federal Reserve, the SEC, the FDIC, the SEC, the myriad state-level banking and insurance agencies.

The Fed triggered this orgy of borrowing by keeping, under Greenspan, rates artifically low. Fannie and Freddie brought oil to the orgy by getting money from the Fed at rates even lower than the artifically low ones offered to banks. Now awash in (fiat) money, the two F's (backed up by an implicit bailout guarantee by the government) then encouraged and bought subprime mortgages. (The Fannie and Freddie restrictions against purchasing such mortgages were lifted under the Clinton administration.) Sure, others -- e.g., AIG, Lehman -- joined the orgy. But they weren't the hosts.
9.17.2008 3:42pm
David Schwartz (mail):
If a casin0 goes out of business, do we blame it on the customers' wanton gambling?
9.17.2008 3:42pm
TCO:
We need to let these entities fail.

McCain is doing the wrong thing both politically and economically by being pro bail out.

Palin is anti-bailout.
9.17.2008 4:09pm
The Ace (mail):
Well,
Senator Biden blamed the Bush tax cuts for this, which is obscene.

Harry Reid then said this:


Senate Majority Leader Harry Reid, asked today what new regulatory actions Congress can take, said, bluntly, "No one knows what to do. We are in new territory here. This is a different game. We're not here playing soccer, basketball or football, this is a new game and we're going to have to figure out how to do it."


I would make fun of these people but it really isn't possible as I am speechless they hold elected positions in our government.
9.17.2008 5:08pm
CB55 (mail):
During good times Americans are Bible thumping Capitalist, but give them enough enough misery and they can sing the first line from the Communist or Socialist song book. Capitalism in America is only as big as their wallet and is as secure as their faith in their market system.
9.17.2008 5:30pm
CB55 (mail):
The Ace:

Both parties should be able to kiss this pig and call it a friend because both slept in the same pig pen. In a recent ABC News report it was shown that both parties have gotten millions of dollars over the years from the banking and finance complex. One of their reporters was busted by the cops on the sidewalks as he reported the news at a recent political convention, as was Amy Goodman.
9.17.2008 5:46pm
neurodoc:
Javert, please tell us, if you will, the details of how the principle players ("industry") in this drama were brought to "near insolvency" by "tax(es) and regulat(ion)"? Have hedge fund managers, who count as capital gains millions of dollars of what would be ordinary income for others, brought low by that 15% rate rather than a close to 40% one? How exactly have taxes, lowered since Bush took office almost 8 years ago, brought about this economic crisis we are in now? Who other than yourself thinks this somehow a product of too much regulation than too little? No account that I have read in the Washington Post, New York Times, Wall Street Journal, and elsewhere has said anything about overregulation of the financial industry, especially where these complex derivatives are involved, but they have said a great deal about the lack of oversight and failure to reign these players in.

Low interest rates under Greenspan may spurred the housing market, and by doing so played a facilitory role, but how is that anything like your "tax and regulate an industry into near insolvency"? And while those low interest rates may have whetted the industry's gluttonous appetite for more and more profits, with little regard for the risk they were piling upon risk, those low rates didn't compel imprudent lending and the debt swap craziness.
9.17.2008 7:08pm
Elliot123 (mail):
"And while those low interest rates may have whetted the industry's gluttonous appetite for more and more profits, with little regard for the risk they were piling upon risk, those low rates didn't compel imprudent lending and the debt swap craziness."

However, the Community Reinvestment Act did compel lending to people the banks did not consider good risks. To make it all work, FM bought the mortgages from those banks since the banks knew they were bad. This is just one factor in a much larger system, but social engineering can't be discounted.
9.17.2008 7:47pm
Dr. T (mail) (www):
MR said:
It's important to remember that even our nation's leading laissez faire economists (e.g., Milton Friedman) recognized that government intervention is sometimes necessary in times of extreme economic crisis.

Dr. Friedman was not referring to bailouts. All the Federal Reserve had to do in these recent failures was guarantee that upcoming debts would be covered while the companies were going through the initial phases of bankruptcy (or buyouts by other companies). There was no reason for the government to take over or bail out these companies. The minimalist action I described would have prevented domino effects while not rewarding the mistakes that led these firms to disaster. The executives and shareholders would have lost money, not the taxpayers.
9.17.2008 8:01pm
PC:
However, the Community Reinvestment Act did compel lending to people the banks did not consider good risks.

Yes, the CRA has been causing a subprime crisis since 1977. Especially for all of the institutions involved in subprime loans that had nothing to do with the CRA.
9.17.2008 8:46pm
Elliot123 (mail):
While the CRA was passed in 1977, the Clinton administration reinterpreted the provisions of the bill and demanded much more lending by commercial banks to those unable to normally qualify. Prior to that, the CRA was little more than feel-good window dressing.

Many institutions are involved today and are not subject to CRA. For example, Lehman was not subject to CRA since it did not initiate retail mortgages. However, those mortgages all originated with retail players, and many of those were subject to CRA. Many of those mortgages were bundled and sold to FM and investment banks, and covered by credit default swaps by AIG. So the IBs and AIG were not covered by CRA, but they dealt with the products of CRA.
9.17.2008 10:12pm
neurodoc:
GD, your roulette analogy is not entirely inapt, but you are off as to the relevant odds. The wheel in European casinos has 37 possibilities, not 36, one of them "0," with the house winning it all when the ball drops there; in American casinos there are 38 possibilities, two of them zeroes, "0" and "00," with the house winning it all when the ball stops on one of those two.
9.17.2008 11:02pm
PC:
So the IBs and AIG were not covered by CRA, but they dealt with the products of CRA.


They did, but they did so with no pressure from the government (as far as I know). Less than half of the subprime loans were due to the CRA and another 25-30% were only partially influenced. Roll into that the weakening of the CRA in 2004 while subprime lending was still raging (and continued to) and I'm not convinced the CRA was a major cause, let alone a primary cause of this debacle.

The brokers, IBs, insurers, hedge funds and ratings agencies had no other reason to issue, buy these things up, package, resell, insure, issue CDSs, rate, etc. other than the money they could make. And they made a ton of money when the times were good.

It's a complex series of events that led to this and it's unfair to assign blame on a single party. My biggest fear at this point is that we haven't seen the worst yet. There's still almost $600 trillion in derivatives out there that might need to unwind. IMHO, that's why the Fed rescued Bear and AIG, but let Lehman fail.

Barry Ritholtz had an apt description of the players:
• Lehman Brothers was like the little kid pulling the tail of a dog. You know the kid is going to get hurt eventually, and so no one is surprised when the dog turns around and bites the kid. But the kid only hurts himself, so no one really cares that much.

• Bear Stearns is the little pyro -- the kid who was always playing with matches. He could harm not only himself, but burns his own house down, and indeed, he could have burnt down the entire neighborhood. The Fed stepped in not to protect him, but the rest of the block.

• AIG is the kid who accidentally stumbled into a bio-tech warfare lab . . . finds all these unlabeled vials, and heads out to the playground with a handful of them jammed into his pockets.


$600 trillion is floating out there. Oy.
9.18.2008 2:50am
Casper the Friendly Guest:
Elliot123 asks


We hear about deregulation, but exactly what specific deregulation caused AIG's problems? What specific deregulation caused Lehman's problems? What specific Bush policy is at fault?


For starters, how about the uptick trading rule limiting when traders can short a stock? According to today's WSJ, it was enacted after the Depression and helped reduce volatility during times of heavy trading.

As I understand it, the rule limits traders' ability to short a stock while the stock is declining in value. So it helps prevent the kind of panic-induced race to the bottom that can wipe out a massive publicly traded company's value in a single day. Like AIG or Lehman.

And it was repealed in July 2007.
9.18.2008 3:04pm
Elliot123 (mail):
And the uptick rule caused the subprime mortgage problem? It caused banks to lend to unqualified borrowers? It caused Fannie Mae to buy the loans? It caused AIG to sell credit default swaps? It caused S&P to overrate the mortgage bundles? It caused banks to rein in overnights? How?
9.18.2008 4:48pm
Casper the Friendly Guest:
Elliot123,

You are now redefining the question. I am assuming that without the uptick trading rule, AIG, Lehman, and Bear Stearns all could have survived, albeit bruised and battered by losses, and that this would have been a far preferable outcome.

I am sure that more qualified scholars will be making the argument in the years to come, but I will give it a layperson's try:

Let's assume that Wall Street's involvement in the subprime market was, at the time these investments were made, a high but not unreasonable risk. And let's assume that AIG's decision to get involved in credit default swaps was also, at the time it was made, a high but not unreasonable risk.

In July 2007, the rules of the game changed. By repealing the uptick trading rule, the SEC intensely magnified the risk that a massive, publicly traded company's entire share value could be wiped out within hours based purely on market panic.

This repeal meant that credit strategies involving high but not unreasonable risks suddenly turned into bet-the-company risks. And by July 2007, the meltdown was in full force so there was no way for these companies to respond to the rule change by unwinding their positions. Instead, now that they were stuck in a bet-the-company strategy, they had to wade deeper in, pulling more and more counterparties down with them.

And finally, the rules were changed at a time when the SEC knew - or certainly should have known - that these publicly traded companies had massive, unavoidable risk exposures.
9.19.2008 6:34am
Elliot123 (mail):
"I am assuming that without the uptick trading rule, AIG, Lehman, and Bear Stearns all could have survived, albeit bruised and battered by losses, and that this would have been a far preferable outcome."

Why assume that? Both Lehman and BS were one day away from bankruptcy. AIG was teetering. It wasn't stock price that sunk them, it was their balance sheet.
9.19.2008 12:29pm
Elliot123 (mail):
"They did, but they did so with no pressure from the government (as far as I know). Less than half of the subprime loans were due to the CRA and another 25-30% were only partially influenced. Roll into that the weakening of the CRA in 2004 while subprime lending was still raging (and continued to) and I'm not convinced the CRA was a major cause, let alone a primary cause of this debacle."

So, were 49% the result of CRA? Plus another 25% partially influenced? That puts CRA up to its eyeballs in the origination mess with 75% of the problem.

That qualifies as a major cause. There were certainly other causes at work, and I agree CRA is not the only cause. But we should also note the government pushed FM to buy the CRA induced subprimes bacause the banks were all balking at taking bad loans onto their own books.
9.20.2008 1:03pm