Why Greenberg May Win the AIG Bailout Trial

Due to the hour, and the fact that I want to work up the argument longer-form over a series of posts, I’ll give only an overview now as to why the popular handicapping on the AIG bailout trial, that the suit is ridiculous and not worthy of attention, is wrong.

While this case by any logic should be ridiculous, the Fed so egregiously overstepped its authority in the way it handled AIG (and for that matter, its other bailouts) that they handed Greenberg a decent legal argument. And to add to the government’s self-inflicted woes, all of its bailout cheerleading also plays straight into Greenberg’s hands.

Probably the biggest relief to the government so far is that the media has virtually ignored the trial. The only major news organization that has a reporter there daily is Bloomberg. Their reporter, Andrew Zajac, concurs with our view (and quoted us) that David Boies, the Greenberg attorney, has decent odds of winning the case. If Boies does prevail, you can expect an Administration-led firestorm of outrage, with the arguments previewed in a Steve Rattner op-ed in the New York Times.

But the grandstanding serves to obscure the legal argument, which when you get past the technicalities, has real significance politically. That is why the officialdom would rather distract the public by hammering on “That ungrateful deadbeat Greenberg. Who is he to want more money when by all rights he should have been wiped out?” If anyone bothered to look at what is really at stake here, it is that the Fed, with the help of the Paulson Treasury, greatly abused its powers. And that matters because as a practical matter, the Fed is unaccountable for its actions.

The guts of the AIG bailout trial revolves around the Federal Reserve’s “unusual and exigent circumstances” powers, known more formally as its Section 13 (3) lending authority. Under Section 13 (3), the central bank can lend to pretty much anyone against just about any collateral. And it can structure those loans with the full intent of wiping out shareholders, as the Fed did in its first post-Depression intervention, the implosion of Franklin National Bank in 1974, then the largest bank failure ever.

Section 13 (3) authority was created in the Depression, amid much controversy, since there was great reluctance to give the Fed, which was not accountable through democratic processes, the power to create winners and losers via who got emergency loans and on what terms. To prevent that outcome, the statute curbs the Fed’s discretion in rate-setting on Section 13 (3) loans. Thus while (somewhat in contradiction to the position that the Boies camp is taking in the AIG bailout trial) former New York Fed attorneys who had direct involvement in Fed discount window lending decisions say the central bank can lend at rates intended to be punitive, they have to be the highest of published rates, and they have to be applied consistently. Note that the lending agreement that AIG entered into on September 22 was at higher rates than the Fed had published, so on that basis alone it was impermissible under Section 13 (3).

It is conceivable that the Fed could have deemed AIG to be more distressed than, say, Morgan Stanley by some objective standard, and applied a less harsh rate to Morgan Stanley. However, the fact that both AIG and Morgan Stanley (and plenty of other firms) were dead without Fed emergency assistance, yet AIG was charged a rate well in excess of any published Fed rate, while the wobbly banks were given most favored nation treatment also flies in the face of Section 13 (3) requirements.

Another not trivial problem, which the New York Fed’s attorney Tom Baxter and the Board of Governors’ general counsel Scott Alvarez tried desperately to finesse in their trial testimony, is that buying or owning stock is verboten under 13 (3). The Fed can take warrants, and the term sheet that the Board of Governors approved did authorize the Fed taking warrants in connection with the tidied-up version of its lending facility (the central bank used a demand note to provide funds while it worked out the details, but to the considerable surprise of AIG’s board, they also increased the interest rate considerably when the central bank came back with terms for the longer-term facility).

The Fed’s attorneys have tried to pretend to the judge that the Board approved an equity interest and all equity is kinda-sorta the same (uh, no) and that the Board resolution gave the New York Fed latitude in dealing with AIG. While the latter may be arguably true, it is moot as far as the matter of taking anything more than warrants is concerned. A principal can’t convey rights to its agent that it does not possess. The Board of Governors did not have the right to take anything beyond warrants in connection with a Section 13 (3) loan and thus could not confer that authority to the New York Fed.

In fact, one has to look cynically at the extremely aggressive measures that the government took to get AIG to take the deal it was offered (such as allowing the board only two hours to decide) as well as the machinations to get control of the company without facing a shareholder vote. Given that the Fed and Treasury could easily have reduced AIG’s shareholders to penury without taking the equity, that clearly was not a driving factor. Nor does the lame “We were afraid of what AIG’s lawyer Rodgin Cohen might cook up” hold water. Cohen, America’s top bank regulatory lawyer, could not afford to cross the central bank. So the most obvious reason also seems to be the logical one: the authorities wanted control of AIG so they could launder bailout money through it, via its payouts on credit default swaps and on its other black hole, its securities lending portfolio. And that wasn’t the only method. Consider this post from March 2009: Guest Post: The Banks Were Profitable In January And February Thanks To… AIG. Note that the trades being unwound went well beyond the CDS related to Maiden Lane III, as in the toxic subprime-related CDOs:

I present the insider perspective of trader Lou (who wishes to remain anonymous) in its entirety:

“AIG-FP accumulated thousands of trades over the years, all essentially consisted of selling default protection. This was done via a number of structures with really only one criteria – rated at least AA- (if it fit these criteria all OK – as far as I could tell credit assessment was completely outsourced to the rating agencies).

Main products they took on were always levered credit risk, credit-linked notes (collateral and CDS both had to be at least AA-, no joint probability stuff) and AAA or super senior portfolio swaps. Portfolio swaps were either corporate synthetic CDO or asset backed, effectively sub-prime wraps (as per news stories regarding GS and DB).

Credit linked notes are done through single-name CDS desks and a cash desk (for the note collateral) and the portfolio swaps are done through the correlation desk. These trades were done is almost every jurisdiction – wherever AIG had an office they had IB salespeople covering them.

Correlation desks just back their risk out via the single names desks – the correlation desk manages the delta/gamma according to their correlation model. So correlation desks carry model risk but very little market risk.

I was mostly involved in the corporate synthetic CDO side.

During Jan/Feb AIG would call up and just ask for complete unwind prices from the credit desk in the relevant jurisdiction. These were not single deal unwinds as are typically more price transparent – these were whole portfolio unwinds. The size of these unwinds were enormous, the quotes I have heard were “we have never done as big or as profitable trades – ever“.

As these trades are unwound, the correlation desk needs to unwind the single name risk through the single name desks – effectively the AIG-FP unwinds caused massive single name protection buying. This caused single name credit to massively underperform equities – run a chart from say last September to current of say S&P 500 and Itraxx – credit has underperformed massively. This is largely due to AIG-FP unwinds.

I can only guess/extrapolate what sort of PnL this put into the major global banks (both correlation and single names desks) during this period. Allowing for significant reserve release and trade PnL, I think for the big correlation players this could have easily been US$1-2bn per bank in this period.

For those to whom this is merely a lot of mumbo-jumbo, let me explain in layman’s terms:
AIG, knowing it would need to ask for much more capital from the Treasury imminently, decided to throw in the towel, and gifted major bank counter-parties with trades which were egregiously profitable to the banks, and even more egregiously money losing to the U.S. taxpayers, who had to dump more and more cash into AIG, without having the U.S. Treasury Secretary Tim Geithner disclose the real extent of this, for lack of a better word, fraudulent scam…

What this all means is that the statements by major banks, i.e. JPM, Citi, and BofA, regarding abnormal profitability in January and February were true, however these profits were 1) one-time in nature due to wholesale unwinds of AIG portfolios, 2) entirely at the expense of AIG, and thus taxpayers, 3) executed with Tim Geithner’s (and thus the administration’s) full knowledge and intent, 4) were basically a transfer of money from taxpayers to banks (in yet another form) using AIG as an intermediary.

For banks to proclaim their profitability in January and February is about as close to criminal hypocrisy as is possible. And again, the taxpayers fund this “one time profit”, which causes a market rally, thus allowing the banks to promptly turn around and start selling more expensive equity (soon coming to a prospectus near you), also funded by taxpayers’ money flows into the market.

In case this is still all a bit arcane, the critical part is that these “portfolio unwinds” involved corporate credit default swaps, not credit default swaps related in any way to subprime risk. These were NEVER mentioned as a trouble spot at AIG, yet they were wound down (a step of questionable necessity to begin with) in a way that provided big and unnecessary losses to AIG (increasing the total size of its bailout) and corresponding profits to its Wall Street counterparties. While this tidbit is not part of the AIG trial, it serves to confirm the idea that the government wanted to get control AIG to launder bailout money through it.

Now of course, the judge could deliver a Solomonic solution and declare Greenberg to be a winner but award him minimal damages. At this point in the trial, we only have the Greenberg valuation arguments. However, a not-trivial issue for the government is that to justify lending to AIG, they worked up rough internal valuations and those show excess value, meaning that they deemed AIG to have positive net worth. And they’ve since brayed that all the bailouts made money for the government. So their own machinations and PR do pose a bit of a hurdle they need to overcome. We’ll work through the valuation experts’ testimony in due course.

What is the political argument that the government must be pleased as punch has gone missing? Boies has not touched the fact that Section 13 (3) loans are only meant to be for short-term liquidity needs. Even them extending beyond a few days is (or was) considered questionable; the Fed finessing its Franklin National loans to extend five months back in 1974 was seen as a dubious stretch of its authority. Recall that when the Fed was called in to lend to Bear Stearns, it originally was going to lend only for 28 days, then cut it back to what amounted to overnight, for reasons that were never explained. Fed watcher assume that the reason was that Bear was insolvent, and Section 13 (3) loans are not meant to go to insolvent institutions.

In other words, even if the Fed has stuck to the term sheet that the Board of Governors authorized, and extended a two-year loan with warrants, in the opinion of the former NY Fed lawyer I spoke to, that amounts to an impermissible capital injection. That action should have been undertaken only as budgetary allocation, subject to the approval and oversight of Congress. In the Depression, the Commerce Department would have sought authorization; during the crisis and now, Treasury runs that drill. And in the Depression, there was a vehicle for making bailouts, called the Reconstruction Finance Corporation. Its head, Jesse Jones, was widely described as the second most powerful person in Washington, which troublingly is the status that the Fed has held for decades.

In other words, unless Greenberg wins his suit and the judge’s decision focuses firmly and articulately enough on the issue of the Fed abusing its powers so as to stir pundits and media to focus on this issue, this trial is going to serve as a lost political opportunity. The Fed’s conduct during the crisis, and its efforts to step into a quasi-fiscal role with QE, is a wild expansion of its scope of authority. Yet despite hand-wringing since the Nixon Administration about the rise of an imperial presidency, we’ve seen far less concern about mission creep at the Fed and a similar encroachment upon Congressional authority. Let’s hope we get lucky and that if Greenberg prevails, it leads to calls for Audit the Fed 2.0.

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  1. Philip Snead

    Well, just because, you know, now Boies can set up shop as he’s always wanted to do defending anyone who bears a grudge against government … oh, and I almost forgot to mention, a few tens of billions of n’importe quel currency.

  2. vlade

    Ah, it’s fascinating how Rattner mixes F&F case (where I understand the power to appropriate the earnings was legislated) with AIG one (where nothing was legislated).

    Incidentally, what I’d like to know is, would US court be able to dismiss the F&F case if US was a party to TTIP/TTP and got sued by a non-US investor?

    1. JohnnyGL

      It really was a remarkably scatter-brained op-ed, packed with lies and misportrayals and completely ignores the evidence that’s been revealed at the Greenberg trial that Yves has pointed out. By the end, he’s inexplicably moved on to Delphi and the auto-bailouts. I certainly hope no one has hired him for his op-ed writing skills!

    2. Jim

      Isn’t Rattner the guy who should have been incarcerated?

      Quote of the Day: Joe Klein on Rattner
      By DealBook
      October 15, 2010 4:52 pmOctober 15, 2010 4:52 pm


      “I know Steve pretty well; I’ve had dinner at his house; we’ve had good conversations; our kids have played together. He also is lucky that he’s not going to jail.”

      – Joe Klein of Time Magazine

  3. John Zelnicker

    Thanks for the overview, Yves. I look forward to your long-form treatment. I think it is important to understand all of the various ways that the elite are controlling our institutions for their benefit. It helps in putting together the Big Picture. And this topic is certainly “in your wheelhouse”.

  4. Michael Hudson

    Yves, are you saying that IF the Fed had NOT bailed out AIG, then the corporate CDOs would have recovered in due course and AIG would have made money, not Goldman Sachs? Giving AIG two months credit to get from September to February would have made it profitable — but not left bailout funds for GS etc.
    Right? (or wrong)?

    1. JohnnyGL


      I see what you’re saying. I spotted the below portion, as well:

      “In case this is still all a bit arcane, the critical part is that these “portfolio unwinds” involved corporate credit default swaps, not credit default swaps related in any way to subprime risk. These were NEVER mentioned as a trouble spot at AIG, yet they were wound down (a step of questionable necessity to begin with) in a way that provided big and unnecessary losses to AIG (increasing the total size of its bailout) and corresponding profits to its Wall Street counterparties. While this tidbit is not part of the AIG trial, it serves to confirm the idea that the government wanted to get control AIG to launder bailout money through it. ”

      The insurance company subsidiaries of AIG held lots of investment grade corporate bonds, as do most insurance companies. Another way to accomplish this is to get ‘long’ buy selling protection against existing corporate bonds. I’m not sure how much AIG created a portfolio of corporate bonds synthetically, with CDSs, but it could be substantial. If this is what Yves is getting at with the above, then it’s really questionable why they’d have closed out those positions. Investment grade debt took a beating in the short term from liquidity concerns, but came back very rapidly throughout 2009. You can get a very rough approximation of what happened in this space by looking at the pricing history of the ETF, LQD.

      I wonder if the Feds purposely locked in those losses, knowing exactly who was on the other side of those CDS trades? This would have created more losses, whereas holding on to those positions would have reduced losses in a matter of months.

    2. vlade

      IIRC, the losses on corporate CDO/CLOs even in US were relatively small, around 5% of the total. So unless AIG had a very concentrated portfolio of bad stuff, it’s quite likely they would have no problems with the stuff.

    3. Yves Smith Post author

      The problem is one of nomenclature

      There are two different major kinds of CDOs. The older type is made of CDS from corporate loans. A newer type (starting to be produced in 2005) was made largely of subprime mortgage loan credit exposures. The latter type is more technically called “asset backed securities CDOs” or ABS CDOs. Even as recently as 2009, if you’d speak to some derivatives professionals and say “CDO” like Satyajit Das, they thought you were talking about the corporate type.

      The press started talking regularly about ABS CDOs as if they were the only type. The press now refers to CDOs made of corporate credit default swaps as synthetic CLOs, or “collateralized loan obligations”. They are vastly lower risk than ABS CDOs because (among other reasons) they aren’t resecuritizations. A few have been turkeys, but those were ones designed during the crisis to dump really bad corporate credit risk on foreign dummies. They can and do fall in price like any investment, but they don’t fail catastrophically like ABS CDOs did. And they were never implicated in AIG’s liquidity/solvency problems.

      1. financial matters

        The term synthetic CDO also seems to come into play here which seems to be a CDO which contains or is entirely composed of CDS.

        Abacus is referred to as a synthetic CDO but I don’t get this. I understand that Paulson was allowed to pick the mortgages in this CDO but it seems that that would still make it a standard CDO. But he used this inside knowledge that they were garbage to set up his personal CDS to bet against it. Meanwhile it was marketed as healthy by Goldman essentially just giving Paulson a target to bet against.

        I see synthetic CDOs composed of CDSs that are being marketed now as sort of a shadow banking scheme enticing investors looking for yield. They essentially seem to be getting the unwary to provide ‘insurance’ for various CDOs that they probably know essentially none of the details of what they are composed of.

        1. financial matters

          Actually, I could see this as ‘synthetic’ if Paulson’s bet against it, which was also brokered by Goldman, was considered an integral part of the Abacus CDO.

        2. GuyFawkesLives

          They lose me also on synthetic CDOs. I believe the synthetic CDOs are made up of the investment in credit default swaps themselves, but that blows up my mind…….hard to comprehend what’s going on. I think they like it that way.

          1. Yves Smith Post author

            The Abacus CDOs (Goldman had a series) were all pure synthetics, as in made entirely of credit default swaps. One of its Abacus CDOs was the subject of the SEC lawsuit that led to a $550 million settlement.

            The Magnetar CDO program was hybrids, largely but not entirely made of CDS. Including some actual cash bonds widened the universe of investors who’d be willing to take up the trade.

  5. psychohistorian

    As much as I like to hold my breath for some things, expecting positive results from this kabuki will not even have me inhaling.

    I watched Greenburg and Saint Ronnie make SS INSURANCE the political football it is so there is no love lost there for Greenburg who is now advising folks to buy gold……what a putz!

    I guess an audit of the Fed, IMO, would end up just like the torture report of world wide criminality done in our name and never see the light of day.

  6. not_me

    However, the fact that both AIG and Morgan Stanley (and plenty of other firms) were dead without Fed emergency assistance, .. Yves Smith

    When it comes to “on demand”, illiquid = insolvent and banks widely accept this principle when applied to the “little people.” So why isn’t it applied to them?

  7. Peter Pan

    Both the plaintiff (Greenberg) and the defense (Fed/Treasury) in this trial are despicable. It seems to me that the best outcome would be for the defense to lose with substantial admonishment from the court and pay out a large sum of damages that would be finessed toward those that are in real need of financial assistance.

    1. MyLessThanPrimeBeef

      If we can have a ‘Greenberg vs. Fed/Treasury,’ why not a ‘People vs. Fed/Treasury?’

      It’s true, the Justice Dept is the People’s lawyer, but it can’t be the ONLY lawyer for the People. I am not aware of an ‘exclusive right to represent’ deal.

      Then we can look forward to monetary award to the people, directly, and not to another 0.01% er.

  8. Banger

    Interesting problem. Certainly the Fed has consistently exceeded its role under the statutes and rules and regs were systematically violated leading up to the crisis of 08 but will the system want to roll this trend back? The. Fed does determine, to a degree, winners and losers in the marketplace as does Congress and the Executive. So far the Judiciary has ignored the issue–this case offers us to open the whole can of worms, it appears. In our system judges tend to rule in very narrow legalistic ways and try to avoid controversies. We’ll just have to see. If the judge feels free to open up the can that would signify some change in the balance of power among the oligarchs that might offer us some hope.

  9. Chauncey Gardiner

    Maurice Greenberg as possible national hero?… Audit the Fed 2.0 and subsequently imposed legal constraints on Fed behavior?… Geithner, Bernanke & Paulson required to testify?… AIG as another bailout money conduit from taxpayers to save the Squid & other TBTF’s being brought out-of-the-closet in a very public “Show & Tell”?… Golly, Whodathunk?

    Wonder whether the AIG set-up was premeditated? Would luv to hear more of his perspective on this from “trader Lou”.

    … and the World turns.

    Thank you for this post.

    1. Yves Smith Post author

      I’ve regularly described this trial as a beauty contest between Cinderalla’s ugly sisters. I neglected to issue one of my normal caveats about Greenberg. I’m certainly not a fan. This trial nevertheless has the potential to do some public good by accident but not if the government succeeds in persuading the media that this is a nothingburger and that Greenberg isn’t raising some troubling issues about the Fed’s lack of accountability.

      1. trinity river

        As I read this post today, I was again glad that I found this website. I hate it when this kind of insight is kept underground. I realize that one aspect of this is because you are financially independent. Yet I know your journalism will keep you out of the 1%. Once in a while, I have to say thank you all over again.

      2. ChrisPacific

        Which it is very likely that they will do, absent some pretty significant efforts to the contrary. We’ve already seen how this is going to be presented in the court of public opinion and the Rattner op-ed is a pretty good summary. (If it’s proven and publicly reported that they broke the law then I would also expect some variants of: we broke the law because it was the only way to prevent financial Armageddon; the law is wrong and needs to change). The legal basis for the decision will only be relevant if people do the digging to illustrate the flaws in the public argument, and if it’s picked up by the media. It sounds like you and Zajac are doing the first which is good. The second will be the real question.

        There are a couple of points in favor. Firstly, there seems to be no evidence that the administration is trying to turn the screws on the judge, which suggests that they may still think this is a non-issue that will blow over. If the fix was in I would expect to see a lot more CYA from the judge in the transcript and there doesn’t seem to be any evidence of that yet. Secondly, they will need to be careful about hitting the “rich bastards screwing the taxpayer” line too hard, just in case the argument gets applied more broadly than they would like.

  10. Dino Reno

    That this dispute, hatched in Hell, turns out to be the only thorough examination of the Biggest Losers Take All outcome of the financial crisis, complete with testimony from the most of the bad actors, is really quite incredible. How to contextualize it to make it as telling and as irrelevant as it is? Only an Oligarch could drag his fellow Oligarchs before the bench in this crippled era of the rule of law. No one else could or would dare. At the same time, we must all look away because there’s nothing to see here. Is there a French philosopher in the House who can help me grasp its meaning in a way that will make symbolic sense because nothing real can come it if the game is to go on?

  11. Bonkers

    If Starr and Greenberg win the case and are awarded damages, will other shareholders of AIG be entitled to get payment as well?

    1. Yves Smith Post author

      Yes, and I neglected to mention that. Starr got class action certification, so if he wins damages, the other shareholders also collect.

      1. Interested

        In the bailout agreement AIG agreed to indemnify the Government if there was a lawsuit pertaining to the bailout.

        My question is, who will ultimately have to pay the awarded damages if Greenberg wins, AIG or the Government? Will the indemnity clause be throw out as well, if the class action prevails?

        Are the statements made by MaroonBulldog below on
        November 4, 2014 at 9:19 pm correct?

      2. Interested

        In the bailout agreement AIG agreed to indemnify the Government if there was a lawsuit pertaining to the bailout.

        My question is, who will ultimately have to pay the awarded damages if Greenberg wins, AIG or the Government? Will the indemnity clause be throw out as well, if the class action prevails?

        Are the statements made by MaroonBulldog below on
        November 4, 2014 at 9:19 pm correct?

    2. MaroonBulldog

      Looking at the complaint, I see this case is a shareholder derivative action, which is to say that shareholders are bringing this lawsuit as representatives of the AIG corporation. The complaint requests that damages be awarded to the AIG corporation. Shareholders stand to benefit from the lawsuit, if at all, only to the extent that an awarded of damages increases the assets of the corporation in a way that is reflected in the price of the shares.

      1. Ken Shaw

        Is the above statement correct?

        What about the indemnity clause AIG signed with the Gov’t, in case of a lawsuit pertaining to the bailout? Who would have to pay if Greenberg wins, AIG or the Government? Would the indemnity clause be tossed out as well?

    1. steelhead23

      Holy Moly, I have frequently enjoyed Ring of Fire. This propaganda piece – make fun of the suit by demonizing Greenberg (a ready target) and wholly ignoring the facts of the case – is contemptable. Boy, that one interview torpedoes my interest in what Pap has to say. Thanks for the link.

  12. steelhead23

    What the testimony presented in this trial clearly shows is that the Fed, having blown the bubbles that started the whole mess and having failed to effectively regulate its member banks, was dead-set against making the big banks eat their own cooking – likely out of fear of how a serial bank failure event would affect them, their authorities, and their legacies. A series of bank failures would have grossly increased the Fed’s transaction workload, would likely have led to some very serious congressional inquiries, perhaps even leading to more oversight and control from Congress. Yes, this information should make all U.S. citizens mad as hell, but I would think that the folks who should be the angriest are members of Congress (are you listening, Liz). The AIG deal was an extralegal takeover designed to funnel taxpayer dollars to the TBTF banks. And it was done so ham handedly that not only did it make the banks functional – it made them and senior management of them wildly rich. By ignoring black-letter law, abandoning the Fed’s role as a public servant and giving aid to foreign as well as domestic banks, Fed leadership effectively served as a foreign agent during a time of crisis. I suppose its a bit over the top to term this behavior treasonous, but from where I sit its close. Damn close.

    1. Mark P.

      ‘By … abandoning the Fed’s role as a public servant and giving aid to foreign as well as domestic banks, Fed leadership effectively served as a foreign agent during a time of crisis. I suppose its a bit over the top to term this behavior treasonous, but from where I sit its close.’

      [1] On that score, you’re wrong. Given that Wall Street and Washington bear primary culpability for the GFC of 2008 it’s deeply unjust. But the geopolitical/foreign policy effect of that event has paradoxically been to enhance U.S. power, at least in the short term.

      Remember that one of Timothy Geithner’s selling points for saving the TBTFs was that the big U.S. banks were instruments of U.S. global power. Geither is slime, but he was correct there.

      Specifically, for instance, without the Fed funneling funds in 2008 to Deutsche Bank AG — which via its insurance arrangements with AIG received at least $11.8 billion provided by U.S. taxpayers — Deutsche Bank would have gone down. If Deutsche Bank had gone down, so would the German economy and, consequently, the whole EU.

      Hence, here in 2014 — as Deutsche Bank remains deeply vulnerable — Angela Merkel’s Germany (and the rest of Europe) will tow the U.S. line as Washington dictates economic warfare against Putin’s Russia, however that inconveniences or stresses the Europeans. In turn, what’s being done to Russia — however it works out in the long run — is being done in no small part to send a signal to Beijing.

      [2] As somebody or other once said: History repeats itself, first as tragedy then as farce.

      This enhancement of U.S. power following the 2008 GFC has parallels with the consequences of 1971, when Nixon and Kissinger were forced to close the gold window, inadvertently placing the U.S. in the extraordinary position of owning and being able to print the global reserve currency as needed. i.e. as Michael Hudson’s book SUPERIMPERIALISM: THE ORIGIN AND FUNDAMENTALS OF U.S. WORLD DOMINANCE was the first to pick up on in the early 1970s, by ceasing to back dollars with gold the U.S. forced other countries to lend the surplus dollars created by our trade deficit back to the U.S. government (by buying treasury notes) thereby forcing them to subsidize our deficits.

      It’s a remarkable situation, with no parallels in world history that I know of.

  13. Lune

    While this trial is interesting in a man-bites-dog sort of way, I don’t think even the ideal outcome you describe, i.e. audit the Fed, is going to do much. The point of auditing the Fed in the early years was to prevent it from further bailouts. Practically speaking, once the Fed gives out money to the banks and takes on toxic dreck, it’s too late to do anything about it. The taxpayer’s money is already gone. This horse has already left the barn.

    The hope of guys like Ron Paul and Alan Grayson was that if you could audit the Fed and show to the public that the firehose of money being poured on Wall St. was nothing but gifts to connected firms, and placed the public at far more risk of financial losses than the Fed was letting on, then we could find the political will to turn off the spigot. But now that the bailouts are over, what exactly will happen if we thoroughly audit the Fed and realize that, why yes, the AIG bailout (for example) was nothing but a way to shovel $20bil to Goldman Sachs by making them whole on their CDS junk? Is there anything in our power now to reverse the massive multi-trillion dollar expansion of the Fed’s balance sheet, or to recover that money which has now flowed into every asset class in the world (with, of course, record private profits by Wall St. from the requisite skimming off the top)?

    So while a full auditing of the Fed will be interesting to historians decades from now trying to reconstruct how a great country imploded in such a short time, I’m not sure what it gets us, the body politic, in the present.

    1. MRW

      The hope of guys like Ron Paul and Alan Grayson was that if you could audit the Fed

      The Fed gets audited twice a year before Congress, and there are other audits conducted as well.

  14. John

    To win wouldn’t AIG have to prove they would have survived without the bailout?

    That should be fun.

    1. Nate

      In my view Greenberg has the burden to prove “but-for solvency” in the absence of a bailout. Greenberg’s filings seem to completely ignore the “remedy” issues. As I read Greenberg’s filings and the trial testimony to date, it appears Greenberg “concedes”, and indeed affirmatively argues, that AIG would have definitely been in a worse position in bankruptcy without a bailout, so I’m quite confused about how Greenberg could possibly show any economic loss…

      1. Yves Smith Post author

        The government’s own analyses shows AIG having a positive net worth at the time of the bailout. I personally don’t buy that, but illiquidity is not the same as insolvency. And the Corrected Statement of Facts, which I filed in an early post. It clearly states that from multiple methods of looking at what AIG was worth that common stockholders wuz robbed. So I don’t agree with your statement about what the Greenberg filings say.

        Equityholders can go into a bankruptcy and come out with money afterwords. Happens to art dealers a lot. They can’t sell their inventory quickly, but it they can get the court to sell it in an orderly manner (over months rather than in day or two) they come well. AIG had a holding company bankruptcy. Moreover, the size of the loans made to AIG was greatly increased by the amount of money laundered through it. You can guesstimate $30 billion on its securities lending portfolio, maybe $20 billion on the corporate credit default swap unwinds mentioned in the post, and probably another $20 billion on paying out the CDS on subprime CDOs at par. I’m not saying I buy Greenberg’s argument on the valuation, but he’s making that case, so we are in dueling experts territory.

        And having to prove the counterfactual, “what if AIG went under” is just not relevant. The issue is how the Fed acted. The Fed could just as well have wiped out shareholders with how it structured a loan to AIG. But under 13 (3), it is required to treat recipients of loans similarly. That is based on conversations with former NY Fed lawyers in charge of discount window lending. The Fed could have conceivably treated AIG harshly and others somewhat less harshly, but that could have ONLY been based on analysis, like “AIG’s illiquidity hole is 10% of its balance sheet, while Goldman’s in only 5%, so the rate to AIG is super high and the rate to Goldman is only pretty high.” But giving AIG a punitive rate and Morgan Stanley and Goldman the Fed’s most favorable rates is not permitted.

        Nor is the Fed permitted to lend to insolvent institutions under 13 (3). And it is absolutely not allowed to take stock. Warrants is the most it can take.

        1. Nate

          As I read the parties’ trial briefs and the testimony to date, there has been no evidence presented by either party that AIG would have fared better in the absence of a bailout. It appears that Greenberg’s counsel deliberately chose not to present any testimony or evidence supporting many of the allegations contained in Greenberg’s proposed finding’s of fact. For example, Greenberg never called any witnesses from any companies who were allegedly considering a loan to AIG.

          More importantly, however, Greenberg has not presented any evidence or arguments (thus far) in trial that AIG would have been better-off without a bailout. I haven’t read the latest dumps of trial transcript posted on the trial website today, but so far I haven’t seen any testimony (expert or otherwise) on AIG’s valuation without a bailout, let alone testimony showing that AIG would have been better-off in bankruptcy (which I believe is required to show economic loss).

  15. Nate

    Given that the decision to award or deny a 13(3) loan is solely within the exclusive discretion of the Federal Reserve, how could a court offer any remedy other than (a) total recision, or (b) “agency remand” for a new loan decision based on proper factors?

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