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Comment by pmorici | Hacker News Reader

Perhaps it is explained further in the book but what brings up questions more than anything is what prompted them to save AIG 2 days after Lehman's bankruptcy. A cynical person looks at the circumstances and says that AIG owed Goldman Sachs a ton of money on credit default swaps and since Hank Paulson, the Treasury secretary, was the former CEO of Goldman he was sympathetic to that situation.

The stated reason is often that AIG was so huge that it had to be saved to avoid disaster. Yet, this article seems to argue that the exact reason Lehman wasn't saved 2 days earlier was because it was just too large for the government to handle and that it didn't have the authority to do so until a month later when TARP was passed.

You have to wonder how candid memoirs by former officials are vs attempts to influence the historical record. Wikipedia says that Bernanke now advises Citadel which benefited to the tune of $200 million from the bailout of AIG.

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Geithner talked about this in his book and basically said that they wanted to do something for Lehman but couldn't and only after that collapse was everyone aware of how serious the situation was and the rules changed. The Fed was operating in no man's land and didn't have the authority to do what it needed to do. This is pretty clear in hindsight with the huge AIG lawsuit. They stretched the rules for AIG because they were staring into the abyss.

> ... and the rules changed.

That is, the unwritten rules about what was politically possible. The regulations didn't change in that time. But after Lehman, there was the political cover to save AIG. Before Lehman, there wasn't the political cover to save Lehman.

>That is, the unwritten rules about what was politically possible.

I've spoken with some of the people named in this thread and I think this is probably the most concise explanation for some of the questions being raised on Lehman v AIG.

Perhaps there's a more benign explanation for the AIG bailout. It was quicker and more efficient to give the money to AIG and let them pay their failing counterparties (all those crooked investment banks holding the credit default swaps) than it was to negotiate a bailout for each counterparty separately.

The paperwork for a first round startup financing is so complex and expensive a lot of investors can't afford a deal below a few megabucks. Can you imagine the paperwork to bail out an investment bank, multiplied by dozens and dozens, that had to get done in a few days.

Once the govt and the fed had decided to intervene, they needed to get it done. This got it done.

I'm afraid this is a case where justice for a few hundred bad actors took a back seat to righteousness for the whole economy.

You say 'justice for a few hundred bad actors.' What precisely do you mean by that? Who were these actors and what did they do?

Fraud and gross negligence. There's evidence that banks and other players knowingly or negligently failed to do proper due diligence on the mortgages that they packaged into bonds and sold off to investors, the subsequent deterioration of which started the chain of events. http://www.economist.com/blogs/democracyinamerica/2010/10/fi...

Still no good reason for counterparties not even taking a minor haircut on CDS.

It encourages moral hazard.

Can you explain? If I know that I will recover less than expected if a counterparty defaults, I'm going to diversify my counterparties. That reduces moral hazard.

I'm agreeing. Not taking haircuts encourages moral hazard.

This is the explanation we were given as employees: That the federal government helped us meet our contractual obligations to our policy holders. And, that we would have to work very hard to pay back the taxpayers.

It's worth reading what was written immediately after Paulson decided to let Lehman fail, but before the ramifications were known.

Paul Krugman, Sept. 14 2008: " Mr. Paulson seems to be betting that the financial system — bolstered, it must be said, by those special credit lines — can handle the shock of a Lehman failure. We’ll find out soon whether he was brave or foolish...And so here we are, with Mr. Paulson apparently feeling that playing Russian roulette with the U.S. financial system was his best option. Yikes. "

Larry Kudlow, September 16, 2008: "Treasury Secretary Henry Paulson is the man of the hour. This weekend he drew a clear line in the sand: no more federal bailouts. Not for Lehman Brothers. Not for global insurer AIG. Not for Merrill Lynch. Not for anyone, at least as of this writing...Mr. Paulson talks about a housing and financial recovery in terms of months, not years. And I think he’s right."

Agree! This whole narrative that the govt couldn't save Lehaman's doesn't even touch the fact that:

a) Hank Paulson and Dick Fuld are arch enemies, have been vicious rivals for all of the prominent careers and this was an opportunity for Paulson to destroy Fuld utterly.

b) AIG's instability was in fact because of its ties to the very markets that Lehman's was a major pendentive for. If Lehman's went down AIG would be next and everyone knew this.

You really thank Hank was that petty, knowing what was at stake?

Time will tell but without this motive, the decisions Paulson made remain incoherent.

Even today many people believe that all the banks should have been allowed to fail.

Easy to see how people in 2008 could decide to let one bank fail. Many felt that 'bailout capitalism' was a bad idea in the first place, and that the system should just learn to absorb the shock. Only a small minority had any idea what was coming. People at the top "should have known", but the history of finance has no shortage of examples where foolish economic beliefs overrides common sense.

Only a small minority had any idea what was coming.

Everyone knew what was coming. All bubbles pop. The trick is knowing when to pull out.

Meanwhile, everyone pointing out the obvious were shouted down.

> Everyone knew what was coming.

> everyone pointing out the obvious were shouted down.

You just said two opposite things. Also, a big [citation needed] on the first thing.

I apologize. You're right.

NO ONE saw the housing bubble forming.

NO ONE noticed the Bush economy running on empty.

And the people that didn't advocate for sane economic policy were most definitely not told to shove their Keynesian beliefs where the sun doesn't shine.

[citation needed]

What measure evidence do you require? Methinks infinite.

https://news.ycombinator.com/item?id=10188898

Here's the evidence I remember, so this is primary information, no citation needed: I used to work for the Federal Reserve Bank. Every fiscal quarter we'd meet with the chair where he would give us the inside straight talk about policy and governance. In 2006 during one of these conferences, the chair mentioned (paraphrasing) "We continue to be very concerned about the rise in subprime mortgages as a percentage of the mortgage industry in general but we have no way from inside the fed to change this trend. We're currently working very hard to figure out some kind of policy measures we can implement to ameliorate this." In 2006 I had no clue about how dangerous this was but as a mere software engineer, I remember distinctly lifting my chin from my screen to mark this utterance, sadly in retrospect, only to wonder what I personally should be doing to help.

It seems naive to assume that neither Paulson's personal relationship with Fuld nor his strong ties to Goldman influenced these events.

We wouldn't let a judge with as many potential conflicts of interest rule on a case, but when you're treasury secretary all is forgiven

I can understand rationale for saving AIG but no one has come up with a plausible reason why GS got paid 100 cents on the dollar on CDS.

There's certainly a plausible reason for that. Just not a plausible reason why it was in the taxpayers' interest.

Yeah, unfortunately. True sham.

Comparing Lehman's to AIG is like comparing a ocean tanker to the ocean it travels through (or at the least the port system it uses).

AIG was an assurer-of and garantier-on just about everything financially related. Even when not directly, everything came back to it indirectly.

If it went down, the entire system would have to follow, including the economic value of the average person's bank account.

The banks could have been failed to some extent, but that was never an option for AIG.

AIG was such a safe bet, that during the height of the financial meltdown, brokerage accounts for "risk averse" clients where purchasing high yielding AIG bonds without so much as breaking a sweat.

If the regulatory regime allows one insurance company to be responsible for underwriting so much of the economy's risk, then of course if regulators are wrong about the required amount of risk capital the firm should be required to hold, regulators are on the hook to nationalize it or to provide credit.

Most of the post-depression financial regulations were intended to put barriers in place to large firm size/share, and it wasn't until this was eroded by the financial modernization act of 1999/2000 that AIG's growth was even possible.

It's not that the outcome was a surprise, it was just low probability enough that everyone involved was willing to take the risk in exchange for the financial and career benefits that supporting the loosening of regulations offered.

There still exist many other low probability events that could cause a similar disruption, in spite of the regulatory response to the credit crisis.

I always understood it to be related to the fact that AIG was a major insurer of airplanes and cargo trucks. If they went bankrupt, all of those planes / trucks would have to stop until new insurance could be obtained.

The reluctance of the Federal Reserve to lend to Lehman contrasts with its actions regarding Bear Stearns and A.I.G. The difference is that in the other two cases, the Fed saw itself as lending against reasonable collateral.

See my comment below for further explanation. Of course, at the end of the day it's all somewhat arbitrary - the Fed was just placing (decently-educated) bets on risk-laden firms: "Hmmm...this bank is probably too important for us to let it fail, this one might pay us back if we pump money into it, this one looks rotten, if we let this one fail now it might trigger a death spiral..."

I don't think Bernanke's account is fully candid. Perhaps he is not even honest with himself. The impression I have (granted, a remote one) is that Paulson and other financial industry alumni within the administration convinced Obama that they needed a blank check to avoid collapse. They ignored long-standing policy, and arguably the law of the land, essentially to give money to companies they did not want to fail. To argue that they lacked authority to save Lehman seems disingenuous to me, because they lacked authority to do a lot of the things they did -- until Paulson went literally on bent knee to Congress to ask for that authority. He did not bend his knee for Lehman, and neither did Bernanke. Not that Lehman deserved a bailout -- perhaps none of them did!

Obama? Bush was president at the time.

There was New Yorker article about.

I think this one:

http://www.newyorker.com/magazine/2009/09/21/eight-days

Hank Paulson's brother worked for Lehman brothers. It may have been perceived as far too great a conflict of interest if the Treasury Secretary bailed out the company that hired a family member.

Yet it wasn't a problem they helped banks that helped Goldman. Come on.

This, absolutely true. It's all self serving drivel. Shame on NYT for playing into it. Anyways, the real crime was that these bankers did not go to jail.

What specific crime do you believe they committed, and why?

Fraud: every liar's loan which was sold on in a mortgage-backed security was a fraud. Arguably, any liar's loan, where the lending officer knew that it was a liar's loan, was a fraud.

See Bernanke's take: http://www.usatoday.com/story/news/politics/2015/10/04/ben-b....

Yes, liar's loans enabled a lot of fraud to be perpetrated against the banks. Apparently you believe we should jail bankers because the banks were the victims of fraud?

It seems like the right person to jail in this case is the person who lied to the bank.

You are absolutely right, and they should have been punished.

But those loans also shouldn't have been granted, which was the bank's responsibility. Most of them should have been caught during underwriting and verification. What, exactly, were they doing?

This is a deception or failure on both parts.

Did the banks know that these loans were fraudulent? Yes. Did they sell them on anyway? Yes. Did their executives encourage these fraudulent loans? Yes.

The corrupt regulators who passed the financial modernization act of 1999/2000 should also go to jail.

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