Thursday, February 11, 2010

Did Goldman’s Greed or Government Ineptitude Doom A.I.G.?

For those of us who have been wondering just how Goldman Sachs managed to bully AIG into paying billions for losses in the mortgage market that hadn’t yet occurred, The New York Times has given us a gripping behind-the-scenes look.

The Feb. 6th article shows just how aggressive Goldman’s demands were in 2007 and 2008 to cover potential losses in mortgage securities. But AIG wasn’t a complete pushover. It argued that the securities it insured were worth more than Goldman estimated, and even asked Goldman to return one and a half billion dollars. AIG never would have become a global insurance giant without building a reputation for being very tough on paying out claims, but this time Goldman Sachs gained the upper hand.

The Times article seems to support the recent contention by former AIG CEO Hank Greenberg in the Wall Street Journal that Goldman Sachs was a major contributor to AIG’s fall. At the height of the housing bubble, Goldman Sachs created derivatives backed by subprime mortgages, in effect, betting the market would collapse. AIG took that bet by insuring Goldman against its losses. When the bubble burst, Goldman demanded AIG payments as the value of those securities dropped just 4 percent, even though their underlying payment streams remained intact.

But Goldman Sachs is not the only villain. Government missteps also contributed to the collapse of AIG. The government pushed AIG to pay Goldman Sachs and other banks in full immediately, but if it had just guaranteed those funds, AIG might not have needed a bailout or a much smaller one. Those hundreds of billions of dollars in derivatives AIG wrote are actually worth something now. The government bailout resulted in AIG making $14 billion in payments to Goldman and billions more to other banks.

Today, an astounding 79.9 percent of AIG is owned by the government. No other U.S. company had to turn over so much of its organization. Look at Citibank: it was deeply troubled too, but the government owns much less (36 percent.) Treasury Secretary Henry Paulson has to be faulted for this decision. To the outsider, it looks like he began to regret letting Lehman Brothers go bankrupt and thus saved AIG, but at a huge price to the stockholders. And then to make matters worse, he put Edward Liddy in charge of AIG, and he was just in over his head. His only experience was running Allstate, a domestic auto insurance company

AIG has received $180 billion in taxpayer money, paid off Goldman Sachs 100 cents on the dollar, and now Goldman is making record profits. AIG has started to rebound a bit, but can it ever recover from being “nationalized,” as Greenberg has put it? Yes, AIG made a tremendous mistake by getting into the business of insuring something it couldn’t cover, but did it have to pay by giving up its independence? The Times says the SEC is now looking into whether Goldman’s demands for AIG payments “improperly distressed the mortgage market.” That should prove interesting, but perhaps the federal government should be contemplating how its actions nearly ruined what was once one of the world’s most successful companies.

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