It wasn't simply the banks who dug in their heels, it was also the French government. The Commission Bancaire, acting on behalf of Societe Generale and Calyon, said that French banks could not legally be compelled to reduce their claims against AIG outside of a formal bankruptcy. Again, bank regulators can act swiftly and decisively on insolvent banks like Washington Mutual, but Geithner lacked any comparable authority to impose his will on the creditors of an insurance company.
That's why Spitzer's insinuation, that Geithner deserves some blame for creating the predicament faced by AIG, doesn't hold water. Spitzer writes that Geithner and others "grievously damaged the nation and capitulated to the very banks they should have been supervising. But Geithner's job was to regulate New York banks, not the shadow banking system, which is the multitude of non-bank entities " including AIG, hedge funds, brokerage firms, and mortgage lenders " that relied on short-term credit to fund their long-term investments. It was the shadow banking system that had collapsed in the fall of 2008. Prior to September 2008, Geithner's regulators could only know that the banks had credit derivatives with a big insurance company rated AA-; they did not have access to AIG's books. Everyone knew that the unregulated shadow banking system dominated the traditional banking system. But everyone also knew that any attempt to expand regulatory oversight while Bush was in office was a fool's errand.
"For Geithner to say it would have been ˜unethical' to negotiate for concessions is sheer silliness, writes Spitzer. Actually, Geithner said that it was unethical to threaten actions that he couldn't possibly enforce. But at the end of the day it wasn't a matter of being ethical or unethical. Everyone knew what the endgame was, and Geithner knew he couldn't fool the banks into thinking otherwise.
LTCM was Different
Krugman frames the situation somewhat differently, suggesting that Geithner could have strong-armed the banks, who are all members of the same Wall Street club, to do the right thing. But he cites the bailout of a hedge fund, Long Term Capital Management as a controlling precedent. The comparison is off base. The deal proposed by the New York Fed in 1998 was that all the major U.S. banks could contribute funds to acquire equity in LTCM. The offer was not compulsory, and Bear Stearns refused to participate. To bank executives, it's one thing to say that you should provide emergency financing to invest in a hedge fund with some upside potential, and quite another to say that you should write off your legal claim to several billion dollars. In October 2008 Wall Street executives knew that when the dust settled, a lot of finger pointing would ensue and a lot of people were going to get fired, so no one was willing to stick his neck out. (If you think that foreboding was unwarranted, ask Ken Lewis or John Thain.) Whether or not you find that attitude morally repellant, you should not be shocked. Look at how politicians respond to the crises in health care and climate change. "Major financial firms are a small club, with a shared interest in sustaining the system, wrote Krugman. That's what they used to say about the U.S. Senate.
Of course, there's still the most obvious question: Isn't this the government? Can't the government that bailed out these banks demand something in return? Yes it could have, at one time.
Hank Paulson's Preemptive Policy: Throw Money, Don't Ask Questions, Don't Negotiate
Every negotiation is a game of chicken. Geithner's ability to say to the banks, "You'd better make some concessions on behalf of the taxpayer, or else! was undercut by the actions of Hank Paulson. Two weeks before Geithner tried to resolve the problems of AIG's credit default swaps, Hank Paulson announced that he was throwing money at the banks indiscriminately. On October 13, 2008 he told the nine largest U.S. banks that they must take $125 billion in government funds, with no strings attached, whether they wanted to or not. Paulson's modus operandi was consistent throughout the crisis and afterwards. He pushed everyone into a corner to preempt any good faith negotiation or problem solving, he used threats to emasculate normal standards of government accountability and corporate governance, and he lied about his actions afterwards.
After October 13, 2008, Geithner and the banks knew that the Paulson's Treasury did not care about protecting the taxpayers' money, only about making problems go away. He could not withhold government aid, because the money was already out the door.
As with any complex financial transaction, if you overlook an important detail, you don't understand what's really going on. That's why the conventional wisdom about Geithner's role in the AIG bailout is wrong.
Finally, none of the foregoing is a slam on anything else written by Spitzer and Krugman, whose writings are almost always perceptive and illuminating.
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