Another Voice of Reason

Wire: BLOOMBERG News (BN) Date: 2009-03-20 04:01:00
Congress Curses the AIG Frankenstein It Created: Ann Woolner


Commentary by Ann Woolner
March 20 (Bloomberg) -- For all the righteous indignation
at American International Group Inc. spewing from Capitol Hill
this week, you would think Congress had played no role in
creating this mess.
All the screaming this week at AIG’s Chief Executive
Officer Edward Liddy diverts attention from the role Congress
played. It helped build the mammoth firms taxpayers are bailing
out and the risky, unregulated derivatives business that made
them so vulnerable.
At a mid-week House hearing focused on AIG, New York
Democrat Gary Ackerman ridiculed credit default swaps as
insurance dressed up as something else to avoid regulation and
full collateralization. And yet, in just a few years swaps
became a multitrillion-dollar market, one so toxic that it lies
at the very heart of AIG’s near-collapse, spreading economic
chaos around the world.
“How is this suddenly an industry?” an outraged Ackerman
demanded, wondering aloud how it all happened.
Ackerman and other longstanding members of the House
Financial Services Committee should know full well how it
happened.
Lawmakers made the monsters they have reluctantly been
trying to rescue in recent months and which they’re now
bludgeoning by popular demand. They did it with laws passed in
1999 and 2000.
What ignited the firestorm this week was news that AIG, the
beneficiary of a $173 billion government bailout, had set aside
a $165 million pool of retention bonuses for people in the very
unit whose reckless trading threatened to bring down the firm
and wreaked havoc on the economy.

Eve of Destruction

“They’re getting paid for the destruction they’ve caused
to our communities,” House Ways and Means Chairman Charles
Rangel said yesterday. “They’re getting away with murder.”
House members traded partisan blame yesterday over who’s to
blame for mishandling AIG’s bailout. But no rescue would have
been needed if it hadn’t been for earlier legislation that
opened the door to the current meltdown.
First with the Gramm-Leach-Bliley Act in 1999, Congress
tore down a 66-year-old wall that kept investment and consumer
banks separate from each other and from insurance companies,
securities firms and any other outfit with a financial service
to sell.
That allowed the creation of “behemoths” that “would
would become too big to fail or, more importantly, too big to
manage,” says James Cox, who teaches securities and corporate
law at Duke University.


Bigness Is In

Next came the Commodity Futures Modernization Act of 2000,
which exempted credit default swaps and collateralized debt
obligations from government regulation by the Commodity Futures
Trading Commission.
President Bill Clinton signed both bills into law.
So to answer Ackerman’s question, that’s how this industry
was born. The 1999 law was Republican-driven in Congress and
pushed by the powerful financial services lobby. Sanford Weill
had already merged the Travelers Group with Citicorp in 1998 on
a bet that Congress would legalize the move.
Next, both parties in Congress gave Wall Street a Christmas
present at the end of 2000, allowing credit default markets to
grow in the dark, away from the spotlight of government
scrutiny.
“The credit default market has grown to gargantuan
proportion in a very sort period of time,” Cox says. “It’s a
classic illustration how private enterprise not closely
monitored by government can change the face of the Earth,” he
says.

$1 Trillion Collapse

Lawmakers can’t claim they weren’t warned against the
danger of letting credit default swaps avoid government
scrutiny.
When the hedge fund Long-Term Capital Management with more
than $1 trillion in derivative contracts almost collapsed in
1998, it should have set off alarms.
Yet when Brooklet Born, then-acting chairwoman of the
Commodity Future Trading Commission warned that an unmonitored
market in private derivative contracts would pose “grave
dangers to our economy,” she went unheeded.
Working against her was the powerful financial services
lobby as well as then-Federal Reserve Chairman Alan Greenspan,
Clinton Treasury Secretary Robert Rubin and Arthur Levitt, then
chairman of the Securities and Exchange Commission. Levitt is a
director of Bloomberg LP, parent of Bloomberg News.
They argued Born was trying to stretch the Catch’s reach
beyond congressional intent. So no agency was put in charge of
monitoring the derivative contracts.
Now there are more calls for regulating the derivates
market. Back in September SEC Chairman Christopher Cox called on
Congress to do it “immediately.”
We’re still waiting for that.
But don’t we feel better that Congress is so quickly acting
to recoup a few million dollars in bonuses?

(Ann Woolner is a Bloomberg News columnist. The opinions
expressed are her own.)