by John M. Curtis
(310) 204-8700

Copyright March 24, 2009
All Rights Reserved.

         Since approving payouts of retention bonuses March 10 for cash-strapped American International Group, Treasury Secretary Timothy Geithner has symbolized all that’s wrong with Wall Street.  Geithner, after all, was, as head of the New York Fed, intimately involved with former Treasury Secretary Hank Paulson and Federal Reserve Board Chairman Ben Bernanke’s original $700 billion bailout plan where the Bush administration refused to identify the largest recipients of government largess in U.S. history.  Dragged before Rep. Barney Frank’s (D-Mass.) House Financial Services Committee, Geithner continues to take heat from disgusted House members.  “AIG highlights broad failures of our financial system,” Geithner told Frank’s committee.  “We must ensure that our country never faces this situation again,” asking the House for fresh regulatory authority.

            Geithner asked for broad new powers with financial institutions, comparable to those of the Federal Deposit Insurance Corporation, allowing government regulators to seize institutions under specific circumstances.  Only banks, regulated by the FDIC, fall in the current regulatory scheme.  Granting Geithner more power won’t fix the fatal flaw in the system created in 1999 when the Congress, supported by former President Bill Clinton, passed Nov. 12, 1999 the Gramm-Leach-Biley Act, repealing the 1933 Glass-Steagall Act, prohibiting banks from stock market investing.  Geithner asks for more regulatory authority without reinstating Glass-Steagall, a necessary first step in fixing the flawed regulatory system.  AIG pushed “credit default swaps” a type of insurance for collateralized mortgage obligations, Wall Street’s once highly risky and profitable derivative investments.

            AIG was fed businesses worldwide by Goldman Sachs, the primary investment firm originating and pushing derivative investing.  Before AIG executives received the most recent $165 million in retention bonuses, they paid Goldman Sachs $12.9 billion, France’s Société Général $11.9 billion, Germany’s Deutsche Bank $11.8 billion, England’s Barclays $8.5 billion, totaling payments of $105.3 billion between Sept. and Dec. 2008.  AIG’s operation spanned over 130 countries with over 73 million customers, insuring risky investments for some of the world’s biggest financial firms.  When the real estate bubble popped last summer and derivative investments vaporized, AIG was left holding the bag, unable to pay out vast sums of cash guaranteeing risky derivative investments.  When the real estate market boomed, no one worried about the collapse of the derivative market.

            AIG’s exposure was so badly out of whack it threatened the entire global financial system.  “Its failure could have resulted in a 1930s-style global financial meltdown, with catastrophic implications for production, income and jobs,” Bernanke told Frank’s committee, justifying Fed and Treasury actions to rescue AIG.  Bernanke announced the Fed’s $1 trillion rescue plan designed to clean toxic assets from banks’ balance sheets.  Wall Street responded with a furious rally, jumping the Dow Jones Industrial Average March 23 nearly 500 points.    Wall Street’s big investors jumped back into the market, hoping that financial stocks had recovered from last month’s lows.  An estimated $10 trillion has already been paid to various institutions reeling from the collapse of U.S. financial markets.  U.S. budget deficits continue to spin out of control, now estimated at more than $1.6 trillion.

            Worldwide capital markets looked unfavorably on growing U.S. debt and budget deficits, causing oil prices to spike and the U.S. dollar to weaken.  “As we have seen with AIG, distress at large, interconnected, non-depository institutions can pose systemic risks just as distress at banks can,” said Geithner, begging the House for more regulatory authority.  Geithner hasn’t leveled with American public about how the end of Glass-Steagall robbed the government of necessary regulatory authority to prevent banks from speculating with depositors’ money.  AIG shouldn’t have jumped into insuring risky derivative investments promoted by Goldman Sachs and other less regulated investment banks.  Selling mortgage default swaps proved highly profitable until the derivative market collapsed and AIG was left with whopping payouts to cover banks decimated by the real estate collapse.

            Geithner and Beranke blamed the latest Wall Street disaster on a lack of regulatory authority.  They asked Congress for the ability to place insolvent non-depository institutions into a type of FDIC receivership to prevent the contractual payouts to undeserving executives.  Fed Chairman Bernanke balked on withholding retention bonuses when legal advisors cautioned against costly lawsuits.  “Quite differently.  It could have been take into receivership or conservatorship .  . . The bonus issue would not have arisen,” said Bernanake, missing the real issue behind improved government regulation.  Paying out $165 million paled in comparison to the unthinkable losses due to AIG insuring highly risky derivatives.  Neither AIG nor any responsible bank should be allowed to speculate with depositors’ money.  Geithner and Bernanke need to focus on reinstating Glass-Steagall.

About the Author

John M. Curtis writes politically neutral commentary analyzing spin in national and global news. He's editor OnlineColumnist.com and author of Dodging The Bullet and Operation Charisma.

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