The AIG mess gets better:
Amid the flap over bonuses at American International Group Inc. two of the company’s top managers in Paris have resigned. Their moves have left the giant insurer and officials scrambling to replace them to avoid an unlikely but expensive situation in which billions in AIG trading contracts could default.
Representatives of the Federal Reserve, AIG’s lead U.S. overseer, are talking with French regulators and AIG officials to deal with the consequences of a complicated legal scenario in which the departures of the managers in Banque AIG, a subsidiary of AIG’s Financial Products unit, could trigger defaults in $234 billion of derivative transactions, according to people familiar with the situation and a document AIG provided to the U.S. Treasury.
I have no experience with this realm of the shadow finance industry, no experience with contracts, and no idea if this is normal, but this doesn’t seem to make any sense. Why exactly would we allow contracts to be written that could trigger hundreds of billions of default swaps if one person decides they want to quit their job. What kind of insanity is this? Is there a reason for this? Is there a legitimate and logical explanation? For an outsider, this just looks completely nuts. It really looks like they have bought their own bullshit and really do think they are the masters of the universe.
*** Update ***
More here from Emptywheel, but many of you in the comments suggest this is not too shocking or quite normal for contract law. Like I said, I have no experience with this sort of thing, and often times things that looks crazy have very legitimate reasons for existence. Having said that, I would still suggest that any system that allows for so little redundancy that the removal of two people can trigger a quarter trillion in defaults is a house of cards built in breezy weather on a fault line over a nuclear bomb.
Ricky Bobby
This is what’s called "making thyself indispensible" to make sure those retention bonuses keep flowing. Convolute the system enough to the point where you are the only one who understands where the light switch is and you are in a very strong position when it comes to salary and bonus negotiations.
Self serving it is, also pretty smart.
It appears that the financial system doesn’t like redundancy safeguards or actual risk management built into their systems. WHO KNEW?
Dennis-SGMM
"If anything happens to me, your economy gets it."
Dave
I guess France isn’t as socialist as everyone says it is…
geg6
I’m with you, John.
This sounds like a buncha "I’m taking my ball and going home and you’ll be sorry!" shit to me. I mean, seriously. Is there really a contract that requires a certain manager to be at the company or it all defaults? Seriously?
I’m guessing the argument is that these are those oh-so-impossible-to-understand financial instruments that only the Masters of the Universe can decipher. And, apparently, only certain MoUs have the decoder ring.
Right. Like I said the other day, send me in with a good forensic accountant. I have no doubt it would take me a bout a week to figure it out, diagram it, and have a few suggestions as to what to do with it.
Comrade Dread
As I understand it, and I make no claim to be an expert (so correct me if I’m wrong), it’s not the job departure that’s a trigger for the default status, it would be if the French government realizes what a clusterfuck AIG really is and opts to put in a government official in charge of AIG’s French branches and puts the company into receivership.
As to why they would do that, I’m guessing it’s because the banks which hold the derivatives want first dibs on AIG’s ill-gotten loot before the government regulators step in, freeze the money and begin designating and carving up the money for all of AIG’s creditors.
jenniebee
Said it before and I’ll say it again: they’re calling it a "retention compensation," we’re calling it a "bonus," but the right word for it is "ransom."
Napoleon
I would be willing to bet the contract is in fact not written that way but is a BS story that has been planted by people POed that the bonus story blew up on them like it did. The only contracts I have ever seen that require a particular person to be employeed is what would be a true personal services type sitution where you are not relying on the company but the particular skills of a particular person (like a famous architect, or something of that sort).
cleek
it’s probably just a way the client can guarantee that the quality of service (so to speak) at AIG remains acceptable, in case key people leave. if you entrust a billion dollars to a company, you probably want to make sure the company won’t drop your account into the hands of a rookie, in case your original guy leaves. you get to approve the new manager.
this story has been circulating for a couple of weeks now. at first it was just a threat – if these guys leave, AIG’s fucked and France is going to appoint it’s own managers! now it looks like the threat was real, but the consequences aren’t exactly what was initially described.
Bill White
Actually, the article is rather clear:
Jon H
I think Comrade Dread is in the ballpark. A big part of it is related to the "French bank" aspect.
stevie314159
It’s actually the French’s fault.
The French regulators have to approve any new top job appointments at the AIG French unit. If they wanted to, they could say "no" and just appoint their own regulator.
If they do, that could be considered a "change of control", which is pretty much a standard clause in any contract, and result in a default.
sgwhiteinfla
I think Comrade Dread is right
Its not just the people stepping down that triggers it. It would be if bank regulators don’t agree with whomever is chosen to replace them and then put their own people in. I would hazard a guess that the reason this was originally in the contract was to deal with what might happen if the bank was bought out at some point or aquired by another bank which might then change the terms of the deals. That gave the counterparties the ability to walk away if the situation changed and made it less profitable for them
But I believe this is also a bit of fear mongering by the WSJ. It would seem that whether or not the contracts default is wholly dependent on the counterparties. Now what counterparty would want to declare the contracts invalid knowing that such an action would hurt them as much or more than it would hurt AIG? That wouldn’t make any sense at all so I doubt that anything would change no matter who ends up replacing to the two head people.
schrodinger's cat
Related to the topic of the current AIG mess did any one see Rachel Maddow last night? She had Byron Dorgan, he was one of the handful senators who voted against the repeal of the Glass-Stegall act. Here he is in 1994 warning about the dangers of unregulated derivatives trading. I guess nobody listened to him then.
harlana pepper
John, I can’t say it any better than you just did. This is about as fucked up as it gets in the universe of your choice. Millions and millions of people have lost their jobs through no fault of their own and if any of us plebes did business this way we would have been out on our asses long ago. This is not just a different world but a different universe. Unfortunately, a whole bunch of rubes were duped into thinking they belonged in this universe as well and thus it was in their best interests to vote repube (even tho their six-figure salaries were chump change to these guys but lah-de-dah, who knew?) , and now, to different degrees, they are fucked and have fucked all the rest of us who knew better all along.
bayville
From Wikipedia on CDS’s:
It’s legalized extortion. That’s why the government has been treading lightly with regard to its approach on the AIG bonuses.
ZachPruckowski
These contracts have clauses which ostensibly protect against counter-party risk. If I have insurance (or insurance-like derivatives) from AIG that covers a whole pile of my assets, I want to make sure they don’t go under. As a result, when signing that contract, I (a counterparty) want to have steps in there to protect me against AIG becoming riskier (since I essentially traded the risk in the investment for AIG’s failure risk). That’s why when AIG lost AAA, it had to put up collateral, because that’s a sign that AIG’s in trouble. Another sign that AIG’s in trouble would be if they’re running around leaderless for a few months. So I imagine the problem isn’t "guy in charge quits", it’s "guy in charge quits, and no permanent replacement is found in X weeks/months". AIG agreed to all these collateral provisions thinking that they’d be in no real danger of losing AAA or not being able to fill cushy jobs.
But I’m no expert at all, so take that with a whole soft pretzel’s worth of salt.
Brian J
Even as I’ve grown to understand more about this stuff, I still don’t understand enough, so I am reluctant to claim that something is really worthless or pointless. But when I hear stories like this, I have to wonder what the hell the point of these financial instruments are. Maybe it’s because I have a simplistic view of what CDSs are, but I really don’t see the point in using them in the way they’ve been used. It seems like they’ve caused nothing but problems for virtually every single person and entity involved.
NonyNony
@sgwhiteinfla:
You’re assuming that all of the counter-parties would behave like rational actors. While that’s a typical economic assumption, I see no reason to believe that’s actually the case in general, let alone now when we’re in the middle of a crisis when people are making stupid short-term decisions based on various levels of panic.
But even assuming that – how do we know that it would hurt them more than it would hurt AIG? I would assume that default triggers a clause that forces a payout from AIG to the contract holder – they could see a way to get some of their money out, right now, at a higher rate than they think they might get if they wait it out. They might have thought they were stuck with an albatross but – HELLO LOOPHOLE.
I would hope to Grod that AIG France is talking to the regulators right now and asking them to help them find someone acceptable to put in there to prevent the contracts from defaulting. I also hope to Grod that the French government doesn’t have a reason to want to force AIG France into receivership – if they do, this all blows up.
gbear
Little OT: Terry Gross had a really very informative show last night with a guy named Frank Partnoy who used to sell derivatives for a living and has written about working on Wall Street in the 90’s. He still talks a bit like an insider but his insights into the current mess and Obama’s approach to fixing it were helpful (to me, anyway).
Update: this story would go hand-in-hand with schrodinger’s cat’s story @13. Partnoy had a lot to say about how that bill got passed. It was depressing.
Wisdom
@stevie314159: Let them eat cake.
A Ghost To Most
Once more, "Blazing Saddles" explains the world.
Cleavon Little, holding himself hostage: "Don’t shoot, or the n****r gets it"
"Hold your fire, men, I think he means it"
Stooleo
Some one please tell me, is it a prerequisite, to be a self righteous, sanctimonious asshole to get a job at AIG?
Comrade Dread
Again, not an expert, but as I see it, they can be a legitimate tool of fractional reserve banking when it’s used like insurance.
That is Bank A approaches company B and agrees to pay B a premium to insure (in part or full) one of Bank A’s investments. Bank A can then count the amount of that ‘insurance’ as part of its fractional reserves for accounting purposes, because it is ‘guaranteed’, and then use a comparable amount of it’s liquid reserves to fund further investments.
Of course, this is all predicated on company B actually having the money on hand to pay off the ‘insurance’ if A’s investment goes belly up.
But when you have Executive C at company B buying Market Analyst D’s BS about the market always going up and staying sunshine, chocolates, and fuzzy kittens great forever, and Executive C sells a shitload of ‘insurance’ worth far more than the company has assets to pay off, well then, you’re fucked and you’re AIG.
geg6
@Stooleo:
Based on all the evidence…
yes.
liberal
@Brian J:
Which is why, going forward, they should be made illegal, as in "fraudulent insurance contracts".
Shawn in ShowMe
When I do a search on the string ‘aig paris default’, all of the stories reference the Wall Street Journal as the source. Sometimes the WSJ gets the story right despite who their owner is but the absence of corroborating reports troubles me.
At first blush, this feels like a Murdoch Code Orange Alert. I’m going to need some independent verification.
Caerid
http://www.alternet.org/story/132859/the_big_takeover%3A_how_wall_street_insiders_are_using_the_bailout_to_stage_a_revolution/?page=entire
Long-time reader, never posted, but for anybody having trouble with all the acronyms like CDO/CDS etc., this story written by Matt Taibbi of Rolling Stone pretty much sums it all up (also fairly humorous). He pretty much breaks everything down into leyman’s terms explaining the giant house-of-cards AIG and the banks built before it collapsed.
Link should bring up the article on a single page. I don’t think I’ve seen anybody here link it before; if they have, my apologies.
liberal
@Comrade Dread:
Which is why they should be made illegal.
Capital requirements for insurance policies are there for a reason.
Definitely should put "insurance" in scare quotes.
Furthermore, why should we be allowing things that permit banks to excessively increase their effective leverage? Leverage is one of the crucial components of the current mess.
Finally, while I’m no goldbug, it’s time we started asking ourselves why the government should be granting private entities the right to create money out of thin air, lend it out, charge interest on the loan, and pocket the interest.
That’s one hell of a privilege. I can haz bank?
Original Lee
@Bill White: That makes quite a lot of sense, except for one thing.
Having dealt with France Telecom in a previous job, it is my understanding that in France, most job changes occur on the quarter-year. (This "rule" is one of the reasons I was given for why it took so long for their unemployment stats to improve.) So if you resign, you have to stay until the start of the next quarter, and you have to give significant notice – you can’t just come in on March 26 and say you’re leaving on March 31. So these executives should have tendered their resignations in late January or early February. Similarly, if you are hired for a new job, you start working on the first day of the next quarter. In this case, the replacements would start working on April 1.
I don’t know how much of this is accurate, or even if it applies to executives, but it would make sense that if this is the standard structure for France, the outgoing executives would likely have been staying until March 31 anyway, and AIG was notified of this weeks ago.
cleek
just for reference, here’s emptywheel talking about this, two weeks ago.
Gus
Are these execs going Galt?
donovong
You answered your own question, John. Insanity.
geg6
@Comrade Dread:
Exactly.
But everything I’ve read and seen on this very point says that they weren’t using them like insurance. And no one required them to keep any sort of capital to cover their crazy craps games they were playing with this stuff.
From what I can tell, it’s all no different, materially, than Bernie Madoff’s Ponzi scheme.
Foxhunter
It is going to be a slog, but everyone should read Wired magazine’s article ‘A Formula for Disaster’ on the mathematician behind the CDS and then re-read Matt Taibbi’s AIG writeup. It’s a failry comprehensive explanation of our current predicament.
No one understands how these frickin’ default swaps work or how they were (not) underwritten, so it’s only logical that a resignation by major players in the scheme could trigger a default.
The Other Steve
I saw this in some of the other contracts. This was in that retention bonus one that TPM posted.
I would have to argue that this language is extortion, and is criminal. I would say it’s about time they just said "Tough shit, we ain’t paying… sue us." and then launch criminal proceedings against those who wrote these contracts… racketeering is probably an easy argument to make in this case.
This has all gone entirely too far.
Comrade Dread
Or just regulate them as insurance and require a company to have the assets to pay off the same percentage of claimants that insurance companies do.
It’s what allows for growth in a fractional banking system. Which isn’t necessarily a bad thing. If a bank is only required to keep 20% of it’s deposits as liquid capital, then it can use the other 80% to loan out to home buyers, car loans, etc. to make more money which it can use to loan out to other people.
Or it can deposit or loan the money to other banks, which then only have to keep 20% of that deposit and can lend the rest out.
There are benefits to this. There are also drawbacks.
Where the system is breaking down generally involves consolidation of power, leveraging money to get favorable regulatory conditions, and the fact that our government decided to farm out most of the regulation of the system to a quasi-public/private central bank.
schrodinger's cat
There is one major difference though, what they did was perfectly legal.
Brian J
That’s exactly it. I understand them from purely an insurance point of view, but I’m really not sure why, unless everyone was deceived or stupid, they were so widely used. Did nobody realize that there were no assets backing up potential claims? If they did realize it and bought them anyway, was it because they realized the government would pick up the tab? There’s something about this that doesn’t add up. Of course, that could mean nothing other than there’s more to the story that I know at this point, but something doesn’t make sense.
Comrade Dread
Exactly. So, if you’re going to let this ‘market’ stand, it needs to be regulated harshly like insurance.
Well, both were, in essence, fraud. But the former can call what they did ‘poor risk assessment’ cite the lack of laws and regulations, and walk away with multi-million dollar bonuses.
I definitely chose the wrong career path.
Andrew J. Lazarus
I seem to recall Andrew Fastow claiming that Enron’s counterparties trusted only him to set up JEDI et seq. I also seem to recall Fastow looks best in stripes.
Foxhunter
@Brian J:
The assets were in the form of mortgages (the ‘shitpile’). The CDS was a mechanism that was infallable (according to the architect, David Li) if structured properly and underwritten with due diligence. AIG (and JP, et al.) screwed the pooch when they relaxed and/or tossed underwriting on the packaging of the swaps and then the housing bust occurred. Greed.
harlana pepper
Meanwhile, in Iraq.
liberal
@Comrade Dread:
Which entirely misses the point about the origin of CDSs to begin with: to avoid capital requirements that burden insurance.
If it’s going to be insurance as we know insurance, then there’s no need for these things called CDSs.
Making the assumption that we’re stuck with a fractional reserve banking system, growth can be a bad thing, if it results in too much leverage.
And in terms of increased liquidity, much of it in the last decade or so went to people buying homes who didn’t have the income to pay back the loan. Is that "a bad thing"?
MikeJ
But AIG *had* assets that everybody agreed were as good as cash. Until they weren’t. And even if the assets they used to back the deals gone bad had been gold, had AIG had to dump it all on the market at once, they could have never covered everything. The price would have plummeted with a huge supply entering the market. The only thing that you can count on as being worth the same as cash is cash.
someguy
It’s probably like that bogus story about Geithner agreeing to a made up winger rumor about Chinese and Russian proposals for a new international currency under IMF supervision. The wingers drove the dollar down for a couple hours on it (gotta wonder if some fat winger blogger in underpants on E-Trade was shorting dollars) before it bounced back. Yglesias debunked that pretty thoroughly but the wingers are still going on about it like it’s a lost section of the bible that’s just been recovered.
Shawn in ShowMe
Here’s a headline from Wall Street Journal Deals of the Day:
"AIG Employees Strike Back Against the Empire"
Not exactly fair and balanced reporting. Now I’m heavily leaning toward the idea that this whole meme is Murdoch-driven. I feel like I’ve been had.
donovong
Hey John:
I wish to FSM that I had read this article by Bryan Dorgan a long time ago, but you will find it interesting and informative. Of course, it is also fifteen fucking years old. NO, nobody could have seen this coming – my ass.
http://findarticles.com/p/articles/mi_m1316/is_n10_v26/ai_15818783
ht/: Steve Benen
Zifnab
Well, that or T-Bills.
But its a hard thing to draw the line. I mean, the entire concept behind the home equity loan (or a mortgage, for that matter) is that your house is worth as much as appraised.
I think, more than anything, the problem with the CDOs and the insurance that went along with it was that the entire value of the house was secured. Even in the heyday of the housing bubble and the HELOC loans, you couldn’t leverage your own home for more than 40% of its worth. By contrast, the banks were buying and selling mortgages that were at 100% (or more) of their face value, then leveraging off the asset. That shouldn’t be allowed to happen. Period.
Ash Can
I’m with Comrade Dread @ 5 and sgwhiteinfla @ 12, and I’d bet that Napoleon @ 7 is onto something as well. Furthermore, the word "unlikely" in the original WSJ citation stands out for me, and makes me agree all the more that this is largely an example of fear-mongering by the WSJ. I’m not going to go so far as to say that I think it’s impossible for the French government to fuck this up. However, I think that this key qualifying word, in this context, indicates that even the WSJ admits that the French understand the situation and will act accordingly.
someguy
@ liberal
We were promised radical change and eliminating fractional reserve banking would be that. I’ve never heard it implied before, but if we could get past that sticking point, it would shake things up. But assuming we have to stick with it, what fraction of reserve do people think is appropriate for what kind of banks (and insurance companies) and why? Do you think we need to apply something other than the prudent investor rule to ins companies?
Kirk Spencer
@jenniebee:
While I get and largely agree with your point, the REAL "right word" is "salary".
Retention bonuses are, like long term capital gains, taxed at a different rate. So what goes on is that these folk get an "advance on bonus" during the year with a conclusion of bonus at the end. Yes, they also get a salary – a (usually) token amount that lets them say they’re not REALLY using a loophole in the income tax code.
Comrade Dread
Quite true, but there’s no need to go out of our way to make them illegal. Just regulate them and if they dry up, they dry up.
Another problem and another area to be regulated.
Distinction: Economic growth is not a bad thing. Excessive corporate growth can be a bad thing.
I hear there are these things called anti-trust laws though. We should probably remind our government representatives about them in colorful metaphors the next time they use the words TOO BIG TO FAIL.
Only for some banks. Part of this was greed. Part of this was stupidity. Part of this was because of the central bank’s monetary policies. And a large part of this was the size of the banks involved in the majority of these shenanigans. (See antitrust law comment above.)
bayville
If your a CEO or CFO, why would you want to regulate this when you could make more money, faster and– as we see now — assume practically no risk?
Besides the former Fed Chairman (i.e. "The Maestro) and several Treasury Secretaries spent the better part of a decade singing the praises of these instruments.
kay
When John linked to a story about the problems Cleveland is having determining who owns what foreclosed property, it occurred to me that we have this elaborate, transparent system for recording property, and it works really, really well. I was trying to figure out whether the woman quoted in the story actually owned anything, legally. It can be something as basic as the title to a car. Everyone understands it. It’s simple, and it’s been in place for probably 500 years, in one form or another.
For some insane reason, we abandoned that really bed-rock idea with derivatives. They don’t have to be recorded, or tied to specific assets. Nobody knows precisely how many there are, where they are, and who holds what.
I’m shocked by that. It’s radical. It’s not "what were they thinking?" They didn’t have to do any thinking. We already know all this, and we’ve known it for a long, long time. They created an asset and didn’t provide any mechanism for recording it. That’s amazing.
geg6
I’m thinking the word RICO is soon going to be popping up in some news outlets in regard to this. And I will be doing a happy dance if it does. The more I learn, the more this all sounds like a recurring storyline on the Sopranos.
Comrade Dread
You wouldn’t. But since when do CEOs and CFOs decide what regulation we enact?
(Must. Not. Laugh…)
I don’t know. The alternative to a fractional reserve banking system would seem to be either a gold standard or a full-reserve system, both of which would limit the money supply (which might not be a bad thing), and would be a completely radical change for our economy. I don’t see Obama having the desire or the will to change things that much.
Xenos
All the more reason to put AIG into bankruptcy. If I recall my classes on the subject correctly, a bankruptcy court can disregard the contractual provisions that are triggered by insolvency, receivership, or bankruptcy filing of a debtor. It is treated like an improper preference payment that unjustly privileges one creditor over another. Whether the American bankruptcy court can get jurisdiction over the French derivative contracts is a good question, though.
kay
@geg6:
I keep getting there, to fraud, because you can’t help thinking they didn’t want something comparable to a chain of title because that leaves someone holding the bag. You can’t help thinking this was like musical chairs, and they didn’t want names on the chairs. Recording or documenting ownership is protection for the holder. The prospective trader or buyer, sure, but ultimately a record works because the ultimate owner wants record "title" of some sort. Why didn’t they want that? They weren’t tracking their property? They said "I’ll just take it on faith" ? Who does that?
The Moar You Know
That phrase you’ve been hearing bandied about lately, "too big to fail"?
This is what they’re talking about.
mak
Just because one of the parties asserts a default doesn’t necessarily make it so. I could sign a contract with, say, Jenny McCarthy that entitles me to one pigeon dance daily, and if she substitutes her sister for the month of August while she’s shooting Celebrity Fit Club, I could assert that she’s in default. However, because the whole thing was illegal (prostitution) to begin with, no court in the land would enforce it.
Though extreme, this situation is analogouos to many of AIG’s contracts. Summers & Geithner asserted on national TV that these contracts were sacrosanct, and that under Connecticutt law, the AIG employees could seek double or treble damages. It sounded like they’d taken that argument verbatim from the AIG employees’ lawyers, and hadn’t run it past anyone at White House Counsel or DOJ.
Since AIG didn’t have nearly enough to cover all its stupid bets, one could argue that they were all fraudulent or fraudulently induced to begin with, or that as unregulated insurance contracts (often without any insurable interest), the CDSs were illegal and thus, void to begin with. It’s also possible that notwithstanding any default provisions in their contracts, French banking law trumps any claim that receivership triggers a default.
The DOJ or whomever is in charge should tell all the AIG d-bags to "sue me." At the very least, they could tie this crap up in the courts for a decade or more, during which time no counterparties get a nickel and the AIG employees can observe their bonuses from monthly escrow statements, unable to touch them.
J.A.F. Rusty Shackleford
OT: the live, online town hall meeting from the White House started at 11:30am edt
http://www.whitehouse.gov/openforquestions/
blogenfreude
@NonyNony: Alan Greenspan thought all of them were rational actors, and look where that got us.
bayville
Funny, Comrade.
BTW, Phil Gramm and Bob Rubin – 2 of the major masterminds behind this shadow banking industry- coincidentally went on to become wealthy defacto CEOs.
MikeJ
A bankruptcy court will take ten years (optimistically) to figure out who gets what. Meanwhile, anybody who is owed anything by AIG is out of luck. Which will take down more than one investment bank, and when they fail that will take down another and another. Or that’s the theory anyway.
Xenos
Mak – good point. What do you call a business plan that sells insurance to unrelated parties covering un-insurable interests and then does not keep a significant amount of reserves to cover payment under these insurance contracts?
I don’t know if it is a ponzi scheme, or a matter of rolling dice in an alleyway, or just simple grifting, but it does not sound like the insurance business.
Dennis-SGMM
If Banque AIG represents, say, one-fourth of AIG’s activity in this area (And I’d bet that it’s less than that) then AIG’s potential liability would be be close to one trillion bucks. I’ve never heard an actual amount quoted even though they were able to come up with the $234Bn figure pretty quickly. I’d guess that if AIG’s actual liability for this kind of shit was made public people’s heads would explode.
Brachiator
This may be so, but it indicates how people can become so used to doing a business a certain way that they don’t understand how the business context has changed, and so requires no rules. For example, the Journal story notes
This simply doesn’t work when there are hundreds of billions of dollars (or euros) on the table. Imagine if there were some contract requiring the liquidation of Microsoft if Bill Gates retired.
Meanwhile, France is getting anti-bonus fever:
And emphasizing the global nature of the financial mess, we have this:
Oh yeah, and the Czech prime minister has condemned US President Barack Obama’s economic recovery plans as "a way to hell".
Excellent, interview, available for a listen here:
Some nuggets: Phil Gramm pushed through the deregulation bill that guaranteed that credit default swaps would not be regulated by any federal or state agency, and Bill Clinton signed the bill into law. And most financial guys who sold credit default swaps never, ever, ever bought them for their own accounts.
kay
@blogenfreude:
None of them are rational actors, as far as I’m concerned. Two local banks have voluntarily begun a moratorium on foreclosures. They actually hold the mortgages, so they can do that. I don’t know why they didn’t do it 6 months ago. Why do they want all that devalued property? Wouldn’t they rather people make the payments they can, and have the borrower hold the house, in the hope it retains value? It’s ultimately the bank’s property. They’d rather it be standing empty for months and then up for auction? I’d take a reduced payment, rather than hold all that land and get a judgment for the deficiency against people who have no assets.
someguy
I think that’s the problem. When Geithner didn’t invalidate the employment contracts (per the Stimulus Bill measure altering TARP and permitting him to do so) then the contracts were probably enforceable. If the employees went to court, the first thing they’d try to do is freeze AIG’s assets, pointing out that the company is winding down and if the court failed to do so the employees would be permanently harmed, and never receive their pay. So they could tie up AIG’s winding down assets for a decade or more.
I’m getting more comfortable with the notion that Congress or the Executive should be able to abrogate the employment contracts of any firms receiving any amount of government money or any firms which are in industries subject to government regulation. I think it’s within Congress’ commerce and contract clause powers.
Karen
All the players (banks, insurance companies, all of them) in these schemes should be broken up so they aren’t too big to allow them to fail, then have the crap regulated out of them.
Greed will always find a way. But with proper regulation in place again, they may not find that way quite as easily.
Simplistic, yes. But the best ways generally are. That way, if any employee (at any level) gets his panties in a bunch & quits, it can be picked up by the next one without a lot of problems.
Xenos
@MikeJ: Then they all deserve to die. Maybe we don’t deserve to have them all die, but there you go.
I am sure that if a special session of the bankruptcy court were set up with a big, expert staff and a well prepared appellate court to sit over it this could be done within a couple years. We have already had 6 months of frozen credit markets, where nobody knows what to do. At least, with the bankruptcy system, there are tens of thousands of lawyers who can facilitate the process, which can have a definitive end.
Michael
Blame these guys.
http://www.mersinc.org/
MERS got fired up in earnest in the 2001-2002 period. It was founded by a Bush pioneer, and the first thing we practicing lawyers noticed was that assignments stopped being recorded, all foreclosure work got sucked in by a tiny handful of multistate practices, and the foreclosures that were taking place were sloppily handled with multiple accounting frauds.
Rick Taylor
This is the problem with trying to prop up a huge company without taking it into receivership; we’re in hock for every bad decision they make. The bonuses were an example of this on a tiny scale, and I’m certain billions of our dollars are going to firms in ways that are not propping the economy. It’s one thing if a company like AIG can make bone headed decisions; it’s another if it can make them and then we the tax payers are expected to make good on them.
If I understand correctly, that’s why the administration is pushing hard for new regulations that will allow it to take a company like AIG into receivership. Now some are arguing that the FDIC already has this power under existing regulations and just needs to use it (the economist at angry bear made a case for this a little while back). I have no idea if that’s true or not, but regardless, if a company like AIG goes under and we need to take it over for the sake of the economy, then we also need the power to break it up, to decide which obligations of it we’re going to take over as taxpayers, etc. Otherwise we have the situation we have now, where we are being royally ripped off.
Michael
PS – Reaganism is dead, and with it, also died the notion that money is an end in and unto itself.
Money is a means, not an end. Stuff that line somewhere into the D’Anconia coat of arms, Francisco.
bcinaz
Does this not negate the rational for creating a corporation or LLC? What is the point of creating legal entities to shield individuals from bad malfeasance or neglect when individual employees are key components in contract.
If their departure triggers contractual defaults, then can they be held personally liable for all the bad outcomes the world economy is experience due to the goofy nature of the credit default swap scam?
Comrade Dread
I’ve changed my mind after reading this:
http://www.nakedcapitalism.com/2009/03/has-gaming-of-public-private.html
Let the motherfuckers burn.
zirconium
Insanity? Seems pretty normal considering what we’ve learned about the rigid financial system over the last few months. It’s the Bush legacy. It’s a giant stinking pile of shit that’s probably going to be hanging around for a while. If you put a dollop of Vics Vapo Rub up each nostril, that will help mask the bad smell. Suck it up. It could get much much worse. I’m just glad I have the skills needed to grow as much food as I need to survive. I don’t really want to do that, but will if push comes to shove.
Now, back to what’s really important: How about posting more photos of Tunch?
kay
@Michael:
Thanks, I’ll read it. I have this affection for the state law property recording process. It’s completely understandable and rational, and sort of reassuring, with all that elaborate deed language and those big ‘ol books.
I was all bent out of shape when I started to realize they had screwed with it. Invading the county recorder’s office? That’s where I draw the line!
wilfred
What the fuck else would they do? Geithner gave them a blank check and they’re cashing in; how shocking.
Where is the opposition to this?
NonyNony
@Xenos:
This. I believe that this is what caused the series of "Holy Crap We’re Truly Fucked" moments back in September/October by the Fed and Treasury.
The Wall Street Monster created by fucked-up economic ideas for the last 3 decades has the potential to cause a giant foreign relations clusterfuck the likes of which we haven’t seen since all of Europe ended up going to war because a pissant Archduke got killed by a group of anarchists back in 1914.
Brian J
So there were few to no other assets backing this stuff up?
liberal
@Brian J:
How could there be, when (1) the notional systemic amounts being quoted are in the tens of trillions of dollars, (2) there was little/no regulation, (3) the incentives of the people running the banks were to make short-term fee income and not worry too too much about the whole thing exploding over the long run? (Though I guess there’s always (4) a lot of these people are far less bright than is often claimed.)
liberal
@NonyNony:
Which is why we must nationalize/preprivatize/take into receivership/whatever. So we can make intelligent decisions on how to unwind this mess. (Viz, what claims need to be honored, what claims don’t, to what extent claims can not be honored and propagating failures can be allowed, etc.)
"Just throw trillions of dollars into big gaping holes" isn’t going to work, and relatively unstructured bankruptcy isn’t going to work.
liberal
@zirconium:
Unfortunately, it’s also the Larry Summers legacy.
While the Democrats are somewhat less at fault than the Republicans—the Republicans started Reaganism, after all, and if you look at the vote on repealing Glass-Steagall (for example), there where many more "no"s in the house on the Dem side—this is one issue where both parties are very, very much at fault.
I wish it weren’t so—not just because I’m a partisan Democrat, but also because a partisan angle would allow those of us who don’t want to give the world to the banks for free would have another lever (viz, partisan angle). But we don’t.
liberal
@Comrade Dread:
Now that’s the attitude [no snark]!
liberal
@mak:
That’s what I think, but ISTR that there might be Federal-level legislation that granted CDSs legitimacy. In which case the legal hurdles for dismantling the thing are higher (though should be done IMHO).
wilfred
@liberal:
The worst thing that has happened is that the Democratic Party has usurped the Left. There simply is no Left left. There is backbiting, sniping and snark galore, but no opposition.
A couple of hundred million in tax-payer furnished bonuses is nothing compared to the Murphy described here. Reactions?
Rick Taylor
Someone explain this to me.
If our purpose here is to get these toxic assets off the balance sheets of banks, so that they’ll lend more money to businesses and get the economy going again, then what the hell are Tarp recipients like Citigroup and Bank of America doing using the funds we gave them buying up more of these mortgages? Are they the parties we’re going to be partnering with? Are we going to be lending them money via the Geitner plan so they can buy even more? Via Naked Capitalism:
John’s summary of the situation is looking more and more accurate:
P.S>
And whoops, I should have read the thread; Comrade Dread is already on the case.
liberal
@Comrade Dread:
I think there are a few proposals on how to get rid of fractional reserve banking, but I’m in total agreement that it’s way too big a change for now.
We can easily get by for quite a while by just regulating the hell out of them.
Foxhunter
@liberal:
That would be the repeal of the Glass-Stegall Act.
wilfred
You got it. Then we borrow our own money back from the banks in order to buy the assets we lent the banks the money to buy in the first place, and they later sell those assets back to us at higher prices.
What a country, America!
liberal
@Comrade Dread:
But why allow a duplicate set of instruments?
If they’d be almost identical to existing insurance under the heavier regulation, you might as well save yourself some time and make them illegal.
At that point in the conversation, we’re clearly referring to private-bank-driven credit growth, which isn’t the same as economic growth.
Yes, though my best guess is that quite a few smaller banks are going to crash when the commercial real estate bubble burst catches up with the residential one.
You don’t need size to have a problem. Some argue that allowing banks to lend money after creating it out of thin air is going to lead to dumb capital allocation decisions—why work hard when you can generate all that leverage by pressing a button?
As I said upthread, I agree that ditching fractional reserve banking is too great a change to be taking on now, but people who argue against fractional reserve banking have valid points about the negative effects of granting banks the privileges they have.
Rick Taylor
And now Bachus is accusing AIG of stiffing banks that lent it money, offering 20 or 30 cents on the dollar, even as it pays 100% on banks bets on CDS’s. I’d like to see this confirmed, but if it’s true, something is very wrong here.
Xenos
@Rick Taylor: Actually, I think that is how it is supposed to work. If the buyers of the contracts on CDS’s are indeed buying insurance, they should get paid ahead of other creditors.
The last I heard on Emptywheel a few weeks ago was this was explicitly laid out in the new bankruptcy act, so there would be no recourse to this for the banks who made unsecured loans to an insolvent insurance company.
Since AIGFP was essentially unregulated, the only requirement for keeping reserves was based on what customers and lenders saw fit to demand before doing business. Sucks to be them. Sucks to be us, too.
TheWesson
No, the large investment banks using the AIG insurance knew that AIG had a ton of correlated risk (and other risk related problems) so when they ACTUALLY needed actual insurance, they bought insurance from AIG and hedged AIG itself by shorting the stock etc.
Goldman Sachs did this I believe.
http://blogs.cfr.org/setser/2009/03/17/concretations-of-risk-plagued-with-deadly-correlations/
For details on AIG’s risk profile:
http://www.acredittrader.com/?p=65
someguy
Maybe because under mark-to-market rules that are in mandatory play they are worthless, and because the market isn’t about to pay for assets of unknown value right now, but if you buy a tranche cheap, unravel the portfolios (comprised of a mix mortgages running the gamut from foreclosed to quite solid and up to date on a property with equity) there are really valuable properties in those tranches. Don’t forget, a tranche has A, B and C mortgages (basically), and even with all the hoopla the foreclosure rate is pretty low. Pick up the tranche for nothing, the A mortgages are worth a shitload (steady cash flow, probably equity in the property, no likelihood of default even with depreciation), the B mortgages are still good, and the C mortgages – well, you’re gambling on them being worth anything, they may be subprime, little or negative equity, in foreclosure, whatever, but you may have some rights to the property and even if it crashes it will still be worth 40% or 50% of the value of the original mortgage. Some other sucker takes the loss on them, and you buy the mortgage low, and it has either a revenue stream or an entailment on a property that’s worth a little something. Citibank is buying them because the probable result for them, especially if they figure out how to accurately value the tranches (you can do it, it takes a lot of unpacking though) rhymes with Schwindfall.
The only problem is Citi shouldn’t be using TARP funds to do this, the distressed assets bank administered by the Fed – if they ever get it up and running – should be positioned to do it and get the profits, like Resolution Trust Corp did during S&L. The only thing about that which bugs me is the Fed is in the position of slumlord there and stands to lose big, but as long as the fed is being made to eat these losses, the fed should stand to profit from the assets that can be reclaimed.
Maybe we can use TARP II to fund that. I hear it’s coming out of committee any day now.
TenguPhule
Longball it until they die of old age.
We can do that. We just need to move the Bureau of Indian Affairs to handle the legalwork. AIG employee’s fucking grandchildren wouldn’t see the money from those bonuses.
passerby
Hedge funds, CDOs, looks like a couple of French pit bosses couldn’t stand the heat and have walked away from their responsibilities at the gambling tables. Bon chance to them finding some fresh, experienced dealers to work in their Casino du Monde.
passerby
"Awaiting Moderation"? Whut’d I say?
TenguPhule
Easy profits using other people’s money.
In other words, business as usual.
Comrade Dread
Yep. Instead of using TARP funds to open up credit, they use them to bet on ‘legacy’ assets.
If the assets are worthless, they resell them to the government’s public/private investment company for more than they’re worth.
If the assets are valuable, they hold them and resell them when the market’s better.
Hence, my earlier comment: Let the motherfuckers burn.
burnspbesq
The thing I haven’t yet figured out is what a "regulatory capital CDS" is? Just parsing the language, one might conclude that it is a CDS that pays off if the writer is a bank or other institution that is subject to a regulatory capital requirement and is found by the regulator to need addiitonal capital. But if you are the institution, why would you ever write something like that? It’s essentially an unhedged bet on your own balance sheet not deteriorating, and if your balance sheet does deteriorate to the point where the regulators show up, you get a double whammy – you have to come up with additional capital at the same time you are paying out on the CDS.
WTF?
TenguPhule
Answered your own question.
Mark S.
@Kirk Spencer:
If this is true, then the law needs to be changed. I’m not convinced that capital gains need to be taxed at a lower rate than ordinary income, but the only reason to do so is to encourage investment. Retention bonuses do not fit that bill.
bob h
Sounds like b.s. to me. I understand that popular reaction in France to all this crap is getting violent (a 3M manager was kidnapped for a couple of days, according to NPR The World); probably they are just scared to go to work.
someguy
The big boys were made by regulators to insure the CDS’s so they took out "insurance" policies with AIG, more like risk arbitrage than insurance. AIG didn’t need to insure (risk arbitrage) their "insurance" policies because they were an AAA rated institution, and held other positions in other financial institutions that theoretically covered the downside exposure. The Big Hedges saw the weekness and probably figured out there was a huge bubble, and started shorting the shit out of the dollar and T-bills, and there may have been some linkage to the oil bubble too – easy money = over expansion = tightness in the commodities markets = big profits and high futures contracts, a good hedge against money leaving the real estate market and going elsewhere. The Fed kept making money more easily available, dropping interest rates but destroying the profitability of the ‘insurance of the insurance’ that was supposed to cover AIG’s exposure.
So the big boys were stuck as counterparties to AIG, AIG was stuck with worthless or low value risk arbitrage instruments covering (not) its exposure, and a bunch of hedge fund managers started jerking each other off and congratulating each other for starting a really big fire, burning off trillions of your wealth so that they could make billions. As George Soros put it, "It is, in a way, the culminating point of my life’s work."
F’in awesome, if you’re into holding hands and singing songs around a blazing bonfire fueled with other people’s hundred dollar bills.
Fwiffo
In software we have something called a "truck number". It’s the minimum number of people that would have to be hit by a truck to throw a project into chaos. A project that hinges on just one head programmer, for example, has a truck number of 1. A project already in chaos has a truck number of 0.
When a quarter trillion dollars is on the line, a truck number of 2 is not adequate.
Phoenix Woman
@someguy:
Sounds about right.