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Just last week, the House Committee on Oversight and Government Reform held a hearing on the U.S. Federal Reserve's decision to directly pay billions of dollars to banks as part of its scheme to bail out insurance giant American International Group Inc. (NYSE: AIG).
According to committee Chairman Dennis Kucinich, D-Ohio, the testimony that congressmen heard just didn't "pass the smell test."
What really stinks about the whole mess is not only the cover-up of what really happened and why, but the inability of anybody in Congress to actually do their homework and be able to frame pointed questions and get to the truth.
It's not complicated, but it is convoluted. Here are the facts and some questions that Congress needs to ask – and that the American people deserve straight answers to.
What the House Committee heard, overwhelmingly, on Wednesday was that AIG had to be bailed out because if it wasn't, the financial implosion that would result would send unemployment to 25% and America into the tailspin of another Great Depression.
U.S. Treasury Secretary Timothy Geithner and former Treasury Secretary Henry M. "Hank" Paulson Jr. both testified that the systemic risk resulting from the bankruptcy of AIG would destroy the company's insurance businesses, devastating millions of Americans and resulting in economic ruin.
Let's start there. The reality is that at the time of the government's initial $85 billion infusion into AIG on Sept. 16, 2008, for which it received a 79.9% ownership interest, there was no mention of AIG's endangered insurance subsidiaries. In fact, New York Insurance Superintendent Eric Dinello, who oversaw AIG's insurance businesses, was confident enough in the subsidiaries to consider transferring $20 billion in excess reserves from the insurance subsidiaries to their AIG parent.
What was really sucking the life out of AIG were collateral demands – in other words, margin calls. A wholly owned, London-based financial-products subsidiary of AIG had written hundreds of billions of dollars of credit-default-swap contracts on exotic collateralized debt obligations (CDOs).
The derivative swaps on the CDOs were insurance policies that would protect the buyers of those CDOs against losses on underlying subprime mortgage pools. As losses on subprime mortgages mounted, the insured parties demanded more collateral from AIG.
AIG ran out of cash to make the collateral calls.
At the time of AIG's crisis, the Fed and the Treasury Department were terrified that if the "counterparties" to AIG's credit default swaps weren't paid, the ripple effect would threaten all counterparties – not to mention the entire financial system.
So here's what the Fed did. It formed two Delaware-based, limited-liability companies, Maiden Lane II and Maiden Lane III (Maiden Lane I had already been set up and funded by $29 billion of taxpayer money to buy and hold the bad assets from the failure of The Bear Stearns Cos., so that JPMorgan Chase & Co. (NYSE: JPM) could take over whatever remained of Bear's carcass).
Maiden Lane II borrowed $19.5 billion from the Federal Reserve Bank of New York to buy $39.3 billion of residential mortgage backed securities from AIGs solvent insurance subsidiaries for $20.8 billion, or about 50 cents on the dollar. Maiden Lane III borrowed $24.3 billion from the New York Fed to buy an asset portfolio of CDOs, whose "fair value" was estimated to be $29.6 billion.
The CDOs were purchased from AIG's counterparties. Between the $29.6 billion the counterparties received, and the cash they got from the collateral calls provided by taxpayers when AIG didn't have the cash to make good on its obligations, those counterparties were made 100% whole on more than $62 billion in par value of toxic-derivative CDOs.
Here's the rationale behind this egregious maneuver: Government officials believed that the counterparties would sell their toxic junk, and would then cancel their CDS insurance contracts with AIG – which would then end the margin calls.
In the public hearings, House Committee members focused on why the Fed paid out 100 cents on the dollar to the counterparty banks and why those involved in the payout scheme then tried to hide who got that taxpayer money.
But the real story was unfolding behind the scenes. Congress doesn't know about it, and the American people don't know about it. But it will prove to be nightmare of massive proportions.
Although there were many U.S. banks that received inordinate amounts of money in this pay-off scheme, an equally sickening amount was paid to a handful of foreign banks.
But the biggest recipient of the cash siphoned from taxpayers was Goldman Sachs Group Inc. (NYSE: GS).
A Conspiracy Theory You Can't Laugh Off
The same day that AIG received the $85 billion taxpayer infusion back in September 2008, Goldman Sachs Chief Financial Officer David A.Viniar said he "would expect the direct input of our credit exposure to both of them [referring also to bankrupt Lehman Brothers Holdings (OTC: LEHMQ)] to be immaterial."
Goldman officials had been telling every analyst or journalist who would listen that the investment bank was hedged against any counterparty risk. But what Goldman officials weren't saying at the time was that the company was also hedged against AIG going bust. How? The company had purchased credit-default-swap insurance on AIG's demise.
We know that is true because Stephen Friedman – the former Goldman CEO and onetime New York Fed chairman who was called to testify at the hearing – said so.
Attached to Friedman's "Factors Affecting Effects to Limit Payments to AIG Counterparties: Prepared Testimony of Stephen Freidman Jan. 27, 2010," was a "Chronology of Selected Events and Disclosures."
That chronology included a reference to an Oct. 31, 2008 Wall Street Journal article that Friedman specifically chose to illustrate that it was common knowledge that Goldman was not in need of any government assistance, and wouldn't be in any danger if AIG were to fail. This Journal excerpt included by Friedman contained the statement: "Goldman hedged its exposure by making a bearish bet on AIG, buying credit-default swaps on AIG's own debt, according to one person knowledgeable about this move."
Friedman was called to testify for one very key reason: At the time of the payments to the counterparties, he was chairman of the board of the New York Fed, which authorized those payments. But that's not all. As a member of the board of directors and a former CEO of Goldman Sachs, Friedman would no doubt have had an excellent idea of the investment bank's exposure to AIG – as well as what it stood to gain from those payments.
Freidman subsequently resigned from his post at the New York Fed on May 7, 2009, in response to criticism of his December 2008 purchase of $3 million of Goldman stock, which added to his substantial holdings – a purchase made only after he had ushered through Goldman's approval to become a bank-holding company, enabling the firm to feed at the Fed's generous liquidity trough.
Friedman continues to serve on Goldman's board. But that's another story.
Another Way to Print Money
Congress and the public have forgotten what was happening in the fall of 2008. Mortgage-backed securities (MBS) were not trading. There were no buyers. It was impossible to accurately price mortgage securities and even harder to price CDOs. The only "price discovery" mechanism was the London-based Markit Indices. These indices were supposed to represent various pools of mortgage securities and CDOs.
Unfortunately, it is possible to make bets on the direction of the indexes. In order to hedge what holders of these complex and toxic assets couldn't sell – or for pure speculation or "other" purposes – traders sold short and drove down the indexes.
It didn't matter that mortgage pools really weren't defaulting and that they were still paying out cash flow, they were judged to be worth pennies on the dollar simply because the only "active" price-discovery mechanism against which they could be valued were the indexes. And it was these indexes – which were being shorted by "interested parties" – that drove down prices and triggered collateral payments on credit default swaps to AIG's counterparties.
Goldman was paid 100 cents on the dollar – or some $12.9 billion – for the CDOs it had AIG write credit default swaps on. All the counterparties got 100 cents on the dollar. Why is that an issue? Because the CDOs that were insured hadn't actually defaulted and were still – according to what Maiden Lane III paid – worth about 50 cents on the dollar. So why would the Fed assume the CDOs were never going to recover and that the insured parties were entitled to get paid as if the collateralized securities were totally worthless?
Even more suspicious is the fact that there was a more elegant and simple solution to the problem. And that solution was already available. Why was it not used?
The problem at the time was that rating-agency downgrades were about to trigger more margin calls against AIG. By then, however, the U.S. government already owned 79.9% of AIG. Surely it would have been cheaper for the government to make any margin calls than to pay off all of the counterparties. Even more sickening: If that solution was implemented as the value of the CDOs increased (which some have), collateral that was given to the counterparties would actually have to be returned to AIG – now 80% owned by U.S. taxpayers.
This whole affair raises scores of questions. Last week's hearing before Congress drove that point home. In fact, as I watched the testimony, I realized that our elected representatives didn't even know the correct questions to ask. That's why it's time to write your congressmen and tell them to ask:
- Why didn't the Treasury Department make the required margin calls – if they were needed – and stand to get collateral back if the insured CDOs rose in value?
- Why did the New York Fed buy paper at 50 cents on the dollar and pay banks 100 cents, when they had no idea what the intrinsic value of those securities was at the time?
- Who really leaned on the New York Fed to not disclose who got our taxpayer money?
- What did Stephen Friedman know about the payments to Goldman?
- What records exist of correspondence between Friedman and Timothy Geithner, who was then president of the New York Fed?
- What records exist of correspondence between Friedman and Henry M. Paulson, Geithner's predecessor as Treasury secretary and a former Goldman CEO himself.
- If Goldman was really hedged as Friedman appeared to claim, then why did taxpayers pay the investment bank 100 cents on the dollar?
- Did Goldman (and others) drive down the value of securities to collect cash, demand to be made whole and at the same time buy credit-default-swap insurance on AIG, which they were helping to sink?
- Can we see the trade blotters of Goldman's trading desks to determine what trading strategy those traders employed during this period and later when making record profits?
- Why are so many Goldman Sachs people in so many powerful government positions?
- Why has the United States government allowed a cabal of financial interests to hijack America?
That's a start. I urge you add to the list and forward it to President Barack Obama and to your elected representatives in Congress. It's our money, our future and our financial freedom being held hostage.
[Editor's Note: Retired hedge fund manager R. Shah Gilani is one of the leading experts on the global financial crisis, and the credit crunch that it spawned. His opinion pieces and economic analyses have been read by millions across the Internet. Gilani last wrote about how Wall Street's shenanigans are choking the American economy. To read that story, please click here.]
News and Related Story Links:
- Money Morning Commentary:
Wall Street's Stranglehold on the Economy Is Choking Americans. - Money Morning Investigative Report:
The Credit Crisis and the Real Story Behind the Collapse of AIG. - Wikipedia:
Dennis Kucinich. - Money Morning Investigative Report:
How U.S. Missteps Triggered a Spiral of Worldwide Margin Calls and Deepened the Financial Crisis. - Money Morning Special Report:
The Real Reason for the Global Financial Crisis…the Story No One's Talking About. - Wikipedia:
Subprime Mortgage Crisis. - Investopedia:
Mortgage-Backed Security. - Wikipedia:
Counterparty. - About.com:
Limited Liability Company. - Money Morning News Analysis:
Bear Stearns' Friday Stumble, Sunday Sale Reignites Concerns About More Failures in U.S. Financial Sector. - Politico.com:
What's in a Maiden Lane name? - Federal Reserve Bank of New York:
Maiden Lane Transactions. - Investopedia:
Collateralized Debt Obligations. - Markit.com:
Official Web Site. - Federal Reserve Bank of New York:
Official Web Site. - Wikipedia:
Maiden Lane LLC. - Investopedia:
Fair Value. - Reuters:
Stephen Friedman's Welcome Resignation.
About the Author
Shah Gilani boasts a financial pedigree unlike any other. He ran his first hedge fund in 1982 from his seat on the floor of the Chicago Board of Options Exchange. When options on the Standard & Poor's 100 began trading on March 11, 1983, Shah worked in "the pit" as a market maker.
The work he did laid the foundation for what would later become the VIX - to this day one of the most widely used indicators worldwide. After leaving Chicago to run the futures and options division of the British banking giant Lloyd's TSB, Shah moved up to Roosevelt & Cross Inc., an old-line New York boutique firm. There he originated and ran a packaged fixed-income trading desk, and established that company's "listed" and OTC trading desks.
Shah founded a second hedge fund in 1999, which he ran until 2003.
Shah's vast network of contacts includes the biggest players on Wall Street and in international finance. These contacts give him the real story - when others only get what the investment banks want them to see.
Today, as editor of Hyperdrive Portfolio, Shah presents his legion of subscribers with massive profit opportunities that result from paradigm shifts in the way we work, play, and live.
Shah is a frequent guest on CNBC, Forbes, and MarketWatch, and you can catch him every week on Fox Business's Varney & Co.
Shah Gilani's article raises some questions that I think our Congress is too afraid or stupid to ask, after all, no one in Congress is going to loose their jobs over the financial crises that has this country in a strangle hold. And perhaps the people of this country are too afraid or stupid to hold Congress accountable for allowing the banks to rob us blind, yet again.
There are two reasons Congress did not ask the correct questions. The first being most of them are lawyers, a group of people who gain success by memorizing what someone else has done. Original thinking is frowned upon. Few have any financial knowledge or interest except to get reelected. Questions would embarass their primary funding sources and perhaps cut off their supply of money for their next run. This situation will be swept under the rug after appropriate grandstanding and we savers will be left to pay the bills.
All of this corruption may very well be swept under the rug because it would be politically unfavorable to go after the responsible parties. Plus the details are all just too complicated to express to the American public whose outrage is the only thing that will drive an in depth inquiry. Then again, if expressed in more simple terms, the public may be able to latch onto a theme and begin to call for the heads of those who are responsible. One serious concern, though, is who else might fall from that tree once we begin to shake it.
A good summary – but for anyone dligent please tell us something we don't know already.
Want to bring real change to Wall St and Banksters? Subcontract the job to the Chinese government perhaps? With their laws and penalties applicable retroactively.
Could we see how smug these white collar hoods are when summary executions start?
Can we buy derivatives on this type of quality control, er default?
Get the facts out there so everyone can see the exposure! Time for Goldman Sachs to be exposed, not swept under the carpet!
The rich get richer because the poor give them all of their money (and labor). What this country needs is a consumption tax.
Rush Limbaugh once did an April Fool's show about how we should tax the poor to motivate them to work harder.
Little did he know then (1993?) that that is exactly what this country needed. It shouldn't have been a joke. People should get paid all of their money and be deterred from spending it, which burns up resources. Economists are just an impedence matching device between sustainability and disaster. Anything that uses their theories is closer to disaster than sustainability.
What ARE people FOR? Certainly not to sit on their rear end watching soap operas (the 'news') and commercials which coerce them to buy a bigger car to haul a bigger TV which will tell them to buy a bigger car…etc.
The centralizing flow of money away from the people and the land needs to be reversed at the source, not at the top where more banks can find more ways to subvert any new 'banking' laws.
The problem is consumption.
Double the FairTax (HR25).
I'm just a dumb old trucker, but I know one thing for sure; I never bought more fuel than I could use, I never stole any of the freight I was entrusted to transport and I never borrowed money I couldn't repay.
When I retired, I didn't get a golden parachute…I got SSI.
We need to elect some straight-shootin STATESMEN
Hank P was on TV last night, I believe he's promoting a book, He was on the Kudlow show, he's not a very good speaker and left a lot of doubt in my mind. He protected president Bush saying that he know and understood everything that was going on and happening.
I believe the truth is that president Bush didn't have a clue on how the finical system works. He watched jobs go out of this country by the train loads for eight years and couldn't see the implications of it. (Tax Base for One) Future Growth for another. Discretionary spending buy consumers that had those jobs which makes up for over 70% of our GDP
The sad fact is that if he would have privatized Social Security and (IF) it would have been implemented … many people surely would have been wiped out completely.
This is a common story that includes myself, I have two water front property's, the plan
was to sell one to pay for the other and then retire debt free with my pension.
Now because of this mess I know I have lost $50,000 plus and still loosing as these properties just will not sale. And the 3 to 5 years of construction work I need to retire just is not there
anywhere. I travel all over the US, It's just not there.
We don't even have insurance now, I have never been so close to being debt free and so close to being wiped out and put on the curb as right now. By the way, the ripple effects are still in full force because our states are just going to go broke.
They were running on stimulus money and now the states probably wont get any more help.
I could go on, and on but I'll say this. I believe I have witness one of the brightest presidents I have seen in many years. He understands on our systems work. Politics will surely keep normally people from bouncing back. Because. . . and here it is:
If the republicans can KEEP THE JOBLESS RATE HIGH THEY WILL TAKE BACK MORE OF THERE SEATS. This is there plan and people should be mad as hell because they just don't care, They wouldn't even extend the unemployment benefits.
I'll stop
CR
A great article. I have written both Senators and my Congressman, John Sarbanes, in Maryland about this topic previously. There has been no answer which makes any sense. Would you grant permission to send the body of this essay to both Senators and my Congressman? Advertising and miscelaneous items not related to the body of the essay would be deleted.
Many of Editor Galani's articles should be sent to every Senator and Congressman.
Best regards,
R. Kayea
Dear Raymond:
Absolutely please feel free to forward this article to Congress. It will take action to bring about change. And the action that you suggest is a good place to start.
Thanks for your note, Raymond.
William Patalon III
Executive Editor
Money Morning
Much has been discussed about Goldman and the shady interaction with the Fed however, a more discusting aspect of this giveaway is that $36 billion was sent to pay counterparties in France and Germany with US taxpayer dollars to keep their economies afloat while ours sinks.
This SUCKS!
http://www.businessweek.com/the_thread/economicsunbound/archives/2009/03/german_and_fren.html
Although I fully agree with Mr. R. Kayea, that Mr. Galani's article brought out some of the truth about this conspiracy to squander the treasury, sending letters and petitions to congressmen and senators will not have any effect on these politicians, because they do not care. They are just as self serving as the big guns on wall street. So don't hold your breath to get any positive results from this effort. You will only increase the US post offices' income.
The only path to a successful resolution of the political problems is to become a politician and work from the inner circle, it is if you have $$$ to campaign to run for office to start. Like it, or not, the working people (have nots) are DOOMED and will always be treated as MUSHROOMS or SHEEP by the Politicians, Wallstreeters, and the Media who all become super rich by doing so.
Frustrated loyal reader.
TN
Have a great day……Tin
OBAMA and Bernanke are featured in a movie– about greedy hedge funds called "Stock Shock." Even though the movie mostly focuses on Sirius XM stock being naked short sold nearly into bankruptcy (5 cents/share), I liked it because it exposes the dark side of Wall Street and revealed some of their secrets. DVD is everywhere but cheaper at http://www.stockshockmovie.com
I thought you could good to prison for lying to Congress? Maybe, not true if you have enough power.
If America really and truly cares to know who wanted and waited for 9/11 to occure, look to the governm… not the ghouls in government, no. Look, please FIND the trial left behind by those involved in the put/stock options on United and American airlines in the days leading up to September 11th, 2001.
The people who begged for "A New Pearl Harbor" (in writing) -they are the ones who use rich brats in oil lands who'se relatives , at risk of losing American backed military protection, and at no concern to themselves who is killed in the U.S. and wealthy benefits increase so long as they do what they are told, are the one's who take the billfold fall.
The way Unied States policy is run these day's, with torture and theft of foreign resorts for lame excuses, I have to admit that milions of us regular, ordinary people here fear America may one day attack Canada. Perverted Power is making everybody nervous.
I'm very interested in the Fed Balance sheet disclosure discussion. Things tend to get worse until they collapse completely as fraud goes. Here is a story that I think ties in well;
http://www.youtube.com/watch?v=cQyFxBG6dhY
How do we really know what the Fed is trading in? I too have wondered where the liquidity has been coming in from and what the Fed might be further involved with. Has the Fed been taking equity positions?
Our elected representatives don't particularly care about us. They participate in these sham hearings in order to demonstrate that they "serving the people and defending them from the evils of Wall Street." They don't understand the first thing about high finance. In fact, most of them would be in jail for embezzlement if they didn't employ smart lawyers and accountants to help them hide their ill-gotten gains.
Congress is owned by Wall Street. Blankfein and Dimon let their dog bark at them from time to time to perpetuate the illusion of democracy. But it's all bullshit. Your role is to shut up, buy cars and LCD tv's, eat fast food, and send your sons to die in some foreign hell-hole so Halliburton shareholders can get richer.
The beauty of this system is that Americans actually believe all the crap and believe they are the best.
Great Story!
Who cares?? It is all monopoly money. The biggest crooks are the Fed and the US Treasury.
Stop printing paper, and save the forests !
I am very impressed by the intelligence of your readership's comments. I have been loosing hope that there is any intelligence remaining in society. Shah is one of the primary reason in give Money Morning much attention. Thanks for a great job, if this country is salvaged the information which you put on the wires will be seen as a major contributing factor.
Do any of you really think writing congress is worth the effort?
Especially after the recent supreme court ruling concerning corporate campaign donations.
With that ruling democracy died.
The challenge with this stuff is distilling it down to a simple message that the masses will understand and react to. This a huge challenge as most do not even know who Geitner, Bernanke or Paulson are much less CDO's etc.
I agree with Flip (reply above) that the wave of joe six pack discontent needs be that much greater now, considering that the Supreme Court decided that corporations have the same rights as living, breathing citizens (if not greater rights…. considering the access to capital they have).
We will end up hunting the perps down like we did the Nazi's after WW 2. Friedman, Paulson, Turbo Timmy and all the rest when this now defunct system collaspes.
They know that and that is why they will all jump on a flight to China, South America, ect to evade prosocution. They are all making the exit plan now.
I propose getting them now, either through legal means, but Oh I forgot, the justice system is just as corrupt!
What thieir real fear is semtax vests going off in Goldman Sach offices, individuals taking execution into thir own hands!
Remember, 15 million plus out a job because of this bullshit, sooooooo at least a few of them are capable of taking on the task! Fortunate the greedy bastards are still around to take out , but it must be done soon!
Where are the Timothy McVeigh types when they are needed!!!!
We are in the final part of the process just prior to the end of a great nation. Democracy made us great when we had government of the people by the people and for the people. Our greatness is being eradicated by government of the people by the lobbyists for the powerful corporations and special interests. Many books have been written about this process and many more will be written in the future. The Golden Rule has been reduced to "He who has the gold makes the rule!" I was born in 1934. I remember F.D.R. and all who followed after him in D.C. I especially remember Eisenhower when in his last State of the Union message he warned all of us of the great danger of Corporations having too much influence on our elected officials. Nobody listened then and nobody is listening now. Too bad.
The range of readers/commentors on this site is fascinating. The latest poll is that 86% of the country mistrusts Congress and that we're still headed in the wrong direction. I agree that most of Congress has to go, but people are turning away from incumbents and voting in the new person, who tends to be a Republican. Since it's the Repubs who got us here, it means we will continue our downward death spiral. I really do think it's game over unless we take to the streets–and we start with Wall Street first.
Yes Sharon, it's time to take America back from Banksters
•If this government is legitimate, then why hasn't Congress and the Senate held full and formal investigations and open televised hearings on credit default swaps , collateralized debt obligations and fraudulently securitized mortgage backed securities?
•Please explain to the American people why the largest property crime in the history of civilization still goes uninvestigated and why no one has been prosecuted.
Greenspan Says Worst Financial Crisis EVER, INCLUDING the Great Depression « naked capitalism
listen to conspiracy radio with Paul A. Drockton M.A.!
Heres another bite to swallow, I am a home owner with a 1,164.00 mortgage payment 7.25% interest and a full time job, but I cant get refinanced because my credit score is too low. So dont go around wondering why there are so many foreclosures in the paper, the so called "help" from the government is just another smoke screen to get us to "believe" they are trying to help. I have never been late on a payment.