Noam Scheiber brings up the AIG bailout, once again.
Which leaves only two possible explanations for the overly solicitous treatment of Goldman and the others. The first is that their own financial position was so precarious that accepting anything less than the billions they expected from A.I.G. would have destabilized them, too. Which is to say, it really was a backdoor bailout of the banks — many of which, like Goldman, claimed they didn’t need one. Alternatively, maybe Mr. Geithner simply felt that Goldman and the like had a more legitimate claim to billions of dollars in funds than the taxpayers who were footing the bill.
Five years ago, AIG had more liquid liabilities (“collateral calls”) than liquid assets. There were a number of ways this could have been resolved.
1. No government action, AIG’s creditors go to court, they win a quick judgment, and AIG has to sell off assets in order to pay the creditors.
2. No government action, AIG’s creditors go to court, things stay tangled up for a while, meanwhile AIG’s liquidity position improves, and creditors get paid out without AIG having to sell assets.
3. What I advocated, which was that the government tell creditors that they could get most of their money now or all their money later, but not all of their money now. I called this the “stern sheriff” solution.
4. A pure government bailout, which ensured that creditors could get all of their money now, courtesy of the taxpayers.
5. What we got, in which creditors received their money, but the government made sure that AIG shareholders suffered in the long run.
Note that (5) ended up close to (1), and (3) would have ended up close to (2). Had the government done nothing, then the courts would have effectively decided which path to head down. The advantage is that we would have gotten there by the rule of law, not by arbitrary exercise of power.
I think that the lesson we should draw is that in future cases of liquidity problems, officials should stand back and let nature take its course. I think that the number of prominent economists who agree with me on that approaches zero.
Question: Suppose that the top officials involved in dealing with the financial crisis had been forced to wear cameras and an audio recorders during all of the meetings during the crisis, with the stipulation that they could delay the release of the recordings for 90 days if they determined that immediate release would be harmful to financial stability. Do you think that this would have changed either their decisions or the public perception of those decisions?
They went the “rule of law” route with Lehman, and that decision is not remembered fondly.
I think AIG was bailed out because the European governments were telling the US treasury that there would be a financial meltdown in Europe without a bailout.
If the Argentina bond mess is any evidence, I’d be very wary of trusting the fate of the entire US economy in the hands of the courts.
Also, #2 assumes that AIG’s liquidity would have improved in a few years. The government bailout of the banks, for good or ill, did help restore confidence and therefore reduce risk of liquidity/bank runs. I don’t think you can assume that in the absence of the bailouts, the recovery would have proceeded in the same manner.
But AIGs liabilities were liquid in that they were exempt from bankruptcy while their assets weren’t, expect they had no means of satisfying those immediate liabilities, so their bankruptcy would have triggered many other bankruptcies. The Lehman payout is 27%, so bankruptcy is very expensive, very time consuming, and involving suing everyone else involved to extract even that. Meanwhile money is being destroyed and is continuing to be destroyed. Where to halt a run is always a question, but it is fantasy to think a run will stop itself.
How about personal liability for anyone in a government-backstopped organization paid over $1m a year? Charge them a dime on the dollar if they fail. I bet you will get a very different attitude towards risk pretty fast.