It turns out that much of the money AIG paid out to banks wasn't to cover losses they suffered on bad real estate deals. Though we still lack all the facts, apparently most of the credit default swaps hadn't defaulted. They had only declined in value.
I repeat: THEY HADN'T DEFAULTED.
Why then was AIG ponying up money to the banks (money the US taxpayer was being asked to fork over)? The banks had written into the contracts with AIG a provision allowing them to collect in the event that AIG's ability to cover losses was put in question.
From the banks' standpoint this made sense. The insurance wasn't worth much if AIG went bankrupt. The point of the insurance was to lower the banks' capital requirements. (That was why the banks took out insurance in the first place. The insurance was collateral as real as a gold bar sitting in a vault at Fort Knox.) But it made no sense for the US government to step in last fall to help AIG honor these contract provisions. The smarter move would have been to take over AIG, break all these contracts (when companies go bankrupt contracts are routinely broken), and move to guarantee only real losses (and not pay 100 cents on the dollar, as we have been doing).
The banks easily could have been protected by giving them written assurances that AIG's obligations were now backed with the full faith and credit of the United States government. The Federal Reserve could have issued a ruling that the banks could continue to count the insurance policies as collateral for the loans they made.
Why Bush didn't do this I don't know. Why Obama didn't do this when he became president I don't know.
A friend suggested that officials in both administrations were using AIG to secretly funnel money to the capital-starved banks so the public wouldn't realize where the money was going. He may be right. I don't know. I think he probably is. There seems to be no other reasonable explanation for the decision to bail out AIG.
Whatever the explanation we may have just wasted more than 100 billion dollars because the government failed to act in a reasonable manner to protect the taxpayer's assets.
If government officials knew the money was going to the banks all along and were simply using AIG as a secret conduit, then perhaps the money wasn't really wasted. One way or another we were going to have to pump those banks full of money.
But officials should have been up front about what was happening. By refusing to level with the public they have severely impaired future bailouts and damaged public trust.
That Bush went along with this deception is unsurprising (if he even understood what was happening, which is doubtful). That Obama did is astounding. He almost certainly knew the money was going to the banks and he almost certainly knew the terms under which they were getting the money (that it wasn't for real losses). Because Obama didn't level with us trust in government has taken yet another big hit. What he needs to do now is level with us.
One question he needs to answer is why American taxpayers had to bail out foreign banks. It seems obvious that the taxpayers should only have to bail out our own banks. Had we been told the money was going to overseas banks there would have been a public outcry. There still should be an outcry.
This is outrageous.
I know that people want to focus on the bonuses. They're outrageous too. But we need to make sure we don't neglect the aspect of the scandal I have outlined here.
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