A key and fundamental question was not broached during the fierce interrogation of Treasury Secretary Geithner during Thursday's hearings before Congress's Joint Economic Committee. The contentious subject at hand was the Fed and Treasury's role on the issue of the American International Group's multi-billion dollar bailout. The key question neither asked
nor answered was:
What was the nature of the myriad discussions at the height of the crisis in September 2008 between Treasury Secretary and former Goldman Sachs Chairman Hank Paulson and Goldman Sachs Chairman Lloyd Blankfein?
It is hard to imagine that the issue of AIG was not broached, and information exchanged. Most tellingly, Geithners's testimony yesterday reiterated the fact that the Fed and Treasury viewed the prospect of AIG's failure as posing a highly significant risk to the economy, and after Lehman, AIG's failure was not going to be permitted to happen. That morsel of information, had it been made available to Goldman Sachs in September of 2008, would have been worth tens of billions of dollars to them.
Goldman Sachs was AIG's largest counterparty and its holdings, directly or indirectly, through Credit Default Obligations and Credit Default Swaps, made up one third of the $62 billion counterparty trades on AIG's books. Given Goldman's know-how and connections it would seem probable that they also played a leading role as enabler in what Fed Chairman Ben Bernanke described to a Congressional Committee in March of this year as the following:
"AIG exploited a huge gap in the regulatory system; there was no oversight of the financial products division. This was a hedge fund basically attached to a large and stable insurance company, made huge numbers of irresponsible bets, took huge losses."
During the subsequent rescue of AIG, a game of high stakes poker evolved, perhaps with a touch of outright extortion. The New York Fed, which Geithner headed at the time, was charged with negotiating with AIG's trading partners to try to modify their counterparty contracts with AIG to levels more closely approaching their real time value, at the time hugely less than their face amounts. Discussions had taken place at one stage between the trading partners and AIG toward writing down the AIG obligations to some 40 cents on the dollar without success, as Goldman et al refused to budge.
And here the crunch, and key to the question: Did Goldman and the other banks know for certain that the bankruptcy of AIG was no longer a risk for them? That the Fed and Treasury were now irrevocably committed to saving AIG? With that foreknowledge all along that Goldman and the other banks were empowered to take, risk free, the inflexible position that "it would be improper and perhaps even criminal to force AIG's partners to bear losses outside of bankruptcy court." Thus Goldman, et al would have been playing poker with a clear view of the Fed's hand.
It raises the serious question of what Goldman knew and when did it know it and whether Goldman played the AIG derivatives card with "inside information" about the Fed's intentions. And, if so, what might be the legal ramifications?
As pointed out here, knowing Mr. Paulson conveyed a penchant for being showered with gold dust. Pimco pocketed $1.7 billion (Pimco's single largest payday was the proud boast) in taking positions in underwater Fannie Mae and Freddie Mac paper that were then surprisingly redeemed at full value piggybacking on the taxpayers $100 billion plus bailout of those institutions.
And when the big guys were in trouble because of the public's perception of greed and funny games, there was Hank Paulson telling us while flying on his way to Saudi Arabia, with oil on its way to $147 a barrel, that it was all about "supply and demand," thereby making us all feel better paying $4.00+/gallon at the pump and watching our economy go down the pipeline.