Last September, following the bankruptcy of Lehman Brothers, Treasury secretary Henry Paulson and Federal Reserve Board chairman Ben Bernanke learned that the American International Group was also insolvent. They feared that AIG’s collapse would bring down with it several other financial institutions whose derivatives had been insured by AIG, among them Goldman Sachs, which held some $20 billion in such contracts which would become worthless if AIG failed. They claimed that firms like AIG and Goldman were “too big to fail” — meaning that their collapse would produce further collapses that would bring the banking system to a halt. Paulson, the head of Goldman before taking the job at Treasury, was assured by former Wall Street colleagues that this was the case.
Goldman wound up receiving $12.9 billion in December from AIG in an initial payout from the TARP money. Thus, taxpayer funds were used not so much to bail out AIG, but rather its “counterparties,” including Goldman and a dozen or so other major banks.
Now, in an interview with the press on Friday, Goldman’s chief financial officer has declared that the company was never in jeopardy from a collapse of AIG — that it held some $7.5 billion in collateral against its AIG account and that it had hedged the remaining $2.5 billion in its net exposure using credit-default swaps with other parties. The “notional value” of Goldman’s contracts with AIG amounted to some $20 billion, which apparently refers to the book value of the contracts insured by AIG, not to their market value, which was far less. David Viniar, Goldman’s chief financial officer, insisted that the company would not have been damaged if AIG had been allowed to collapse. Even so, the company profited handsomely from the payout from AIG, courtesy of the American taxpayer.
Goldman could not turn down the payout without damaging its shareholders, Mr. Viniar said. In other words, if the U.S. government — via AIG — was going to offer a gift, Goldman was not in a position to turn it down.
Which raises the question: What then was the point of the AIG rescue? The claim by Paulson et al that a collapse of AIG would bring down the international financial system was entirely unsubstantiated. Congress passed the bailout bill under pressure from the financial authorities that they had to act to “save the system.” It turns out that this was far from being true.
The lesson from this is that everyone — most especially members of Congress — should look skeptically upon claims that this or that institution is “too big to fail” or that a catastrophe awaits of a major financial institution is not bailed out. Depositors, of course, should be protected, which is a far different concept than guaranteeing the misguided bets of prosperous Wall Street firms.
See the article here: “Goldman Insists It Would Have Lost Little if A.I.G. Had Failed”
— James Piereson is president of the William E. Simon Foundation and former executive director of the John M. Olin Foundation.