The Deal Behind the AIG deal – Video: Warren vs Geithner

OK, the video is juicy and it’s fun to watch a very smart woman smack down the wizard of smart (H/T Rush). But, to truly enjoy Professor Warren’s performance and Tim Geithner’s squirm, you need some background.

The financial collapse of 2008 and the subsequent bailout of banks and investment banks in an attempt to avert what we were told was certain depression is complex to say the least. But what you need to understand is that while the banks certainly shoulder so much of the blame for assuming so much risk, the government’s role is key to the entire story.

Without the “promise” of government intervention in the event of default on so many different financial instruments it is highly unlikely these financial “wizards” would have assumed so much risk in one shaky market.

But intervene it did and it cost we the taxpayers billions of dollars. I am not questioning in this post whether intervention was necessary. That’s the subject of a much longer and I will admit ideological debate. But what does seem certain is that it wasn’t necessary to spend so much of our money just so the large investment banks could come out whole. It is the point that Dr. Elizabeth Warren, in charge of TARP oversight, made so well in her hearing last week with the real “wizard” of smart, Tim Geithner.

First some quick background. In October of this year Bloomberg reported on how AIG, which had taken on the role of insuring these bundled mortgage financial instruments called CDOs, was in the process of negotiating payouts on these policies with the large investment banks (which had recklessly invested in too many of these mortgage securities) for substantially less than the CDS’s had called for.

In the months leading up to the September 2008 collapse of giant insurer American International Group Inc., Elias Habayeb and his colleagues worked nights and weekends negotiating with banks that had bought $62 billion of credit-default swaps from AIG, according to a person who has worked with Habayeb.

Habayeb, 37, was chief financial officer for the AIG division that oversaw AIG Financial Products, the unit that had sold the swaps to the banks. One of his goals was to persuade the banks to accept discounts of as much as 40 cents on the dollar, according to people familiar with the matter.

That’s when Tim Geithner, then with the NY Fed and his buddies stepped in and made the big guys whole. It was like manna from heaven.

Part of a sentence in the document was crossed out. It contained a blank space that was intended to show the amount of the haircut the banks would take, according to people who saw the term sheet. After less than a week of private negotiations with the banks, the New York Fed instructed AIG to pay them par, or 100 cents on the dollar. The content of its deliberations has never been made public.

With that background then … this video becomes so juicy. Much thanks to Dr. Warren. The Treasury’s wizard of smart finally ran into someone who was smarter than he.

httpv://www.youtube.com/watch?v=PzGMEDWHD2o

Make sure you read the whole Bloomberg article. It will anger you much. Then just as an added bonus I am including a link to a WSJ story I frequently refer to, “The Weekend Wall Street Died”. Unfortunately you need a subscription to the WSJ to read it unless you can find a way to get it otherwise. It is the article I read last year before by daughter’s wedding that didn’t get much attention from my audience but I read it anyway. It details the details behind the Merrill Lynch rescue and the collapse of Lehman Brothers.

This background is critical to your understanding of what happened and why we as taxpayers paid so dearly. It explains why Cody Willard and I are so angry and why I continually use the phrase to describe TARP as the “Hank Paulson Push To Keep His Buddies From Moving From the Hamptons to Yonkers Act”.