Confirmed: US used AIG to bail out banks

Most people have already concluded that the bailout of insurance giant AIG had a lot more to do with rescuing banks than with AIG itself.  Rumors had already swirled, backed by public testimony, that the government had used AIG as a front in order to make banks healthier without giving the appearance of direct cash infusions to financial institutions.  Today, the Washington Post follows up on a Bloomberg report that the New York Fed forced AIG to use the federal bailout dollars to stop negotiating its losses with banks and pay full dollar value instead, costing taxpayers an extra $13 billion:

The Federal Reserve Bank of New York said Tuesday that it had no choice but to instruct American International Group last November to reimburse the full amount of what it owed to big banks on derivatives contracts, a move that ended months of effort by the insurance giant to negotiate lower payments.

Fed officials offered the explanation in a rare response to a media report after Bloomberg News said that the New York Fed, led at the time by then-President Timothy F. Geithner, directed AIG to make the payments after it received a massive government bailout. The officials said AIG lost its leverage in demanding a better deal once the company had been saved from bankruptcy.

Lawmakers and financial analysts critical of the payouts say it amounted to a back-door bailout for big banks. AIG, the recipient of a $180 billion federal rescue package, ended up paying $14 billion to Goldman Sachs over months and $8.5 billion to Deutsche Bank, among others. Before the New York Fed intervened, AIG had been trying to persuade the firms to take discounts.

The precise cost to taxpayers of these decisions is difficult to determine. Bloomberg, quoting an industry source, reported Tuesday that AIG was aiming to pay just 40 percent of the $32.5 billion it owed to the banks. Using those figures, the report concluded that the government needlessly overpaid $13 billion.

The 40% figure is debatable.  AIG may have wanted to limit their payouts to four dimes on the dollar, but even without the Fed’s interference, that would not have been a likely outcome.  However, AIG would probably have avoided paying off all of the contracts at 100%, especially with everyone facing potential ruin in the event of AIG’s collapse.  The government intervention obliterated any need for the banks to negotiate and forced taxpayers to pay a back-door bailout through the smoldering hulk of AIG.

This isn’t exactly shocking, of course.  It had been clear that the AIG bailout had been used in just this manner almost from the very beginning.  It does, though, put a much different spin on the actions and rhetoric used by the administration and Democrats in Congress this year.  They have used AIG as their poster child for Wall Street run amuck, made national issues of its compensation to executives, and played class warfare on its bailout with very little reservation.  Not only did they use AIG as a political tool for their populist bombast, now it’s clear that they used AIG as a money-laundering service to bolster other financial institutions with as little transparency as possible.