This Is the End


Markets, Risk and Human Interaction

March 20, 2009

Collective Punishment for AIG

I have heard the argument that those at AIG should not get bonuses because they destroyed the firm, or because they destroyed the firm and in doing so helped precipitate the current economic calamity to boot. This sort of argument doesn’t make sense to me. The vast majority of those in the bonus pool at AIG had nothing to do with precipitating the firm’s failure. They were marketing insurance products, managing call centers to handle customer inquiries, and other exciting stuff like that. They just happened to live in the same corporate city-state as the evil-doers. Pulling their bonuses based on such an argument is collective punishment.

A more reasonable argument is that without the government assistance, AIG would have gone bankrupt. And if it had gone bankrupt, those who are pulling in bonuses not only would have had no bonus, they likely would have had no job. So then, the argument goes, why should the government’s bailout money – which of course is tax payer money – go to give out-sized bonuses?

That makes sense. But then we come to some follow-up questions.

One is why Paulson didn’t include compensation controls as one of the terms for keeping AIG afloat. You could ask the same thing of Geithner, who frankly is taking on far more grief than he deserves, but the time to have done this was back when the government bought the majority stake in the company.

A second is why the argument stops with the boundaries of AIG. We should ask who beyond AIG would have gone bankrupt if the government did not keep AIG from default, and make the same demands on bonuses that are being paid there.

Think of it this way: If time had not been so tight, the creditors would also have been in the bailout meetings. These creditors would have include those on the hook in the event of default due to their CDS exposure. The meeting would have started off with Paulson saying, "We can pull AIG from the brink. It will take a lot of taxpayer money to do so. We want concessions all around, both from AIG and from its creditors, and especially from those creditors that will go under with it.

That is the correct route to collective punishment. A route that starts with questions like this:

True or False: If AIG had gone into default, Goldman Sachs would also have failed.


  1. RE: GS I'm not smart enough to know, but GS got $2.5B in collateral from AIG (and maybe another $4.5B from shorting AIG), $5B from Buffett, and $10B in TARP funds. And they still reported a loss, right?

  2. At an individual employee level, it also begs the question, how do you keep a company facing these restrictions staffed? Surely putting caps on pay shifts labor from companies that have accepted TARP funds to those who have not. Why would anyone still there want to continue to work at AIG? Especially if, as you pointed out, many of the employees subject to these restrictions had nothing to do with the killer CDSW trades that have burried AIG.

  3. surely many AIG employees are as outraged as the public at what happened in parts of AIG. But at the end of the day, the paychecks they received came from AIG -- and AIG was bankrupt. As you said in previous blog 'shit happens' -- AIG shouldn't be allowed to pay out money they don't have.

    Employees at goldman sachs are with a separate entity. perhaps goldman would have gone bankrupt too, perhaps not -- but the employees at goldman have a solvent parent and therefore deserve bonuses.

  4. "True or False: If AIG had gone into default, Goldman Sachs would also have failed."

    False. See Goldman's conference call today addressing this very issue: it had very little net exposure to AIG, despite the patently false claims about Goldman and AIG that have been endlessly parroted in the media. The vast majority of its exposure was collateralized or hedged via CDS on AIG. Nothing has annoyed me more during the financial crisis than the media's willingness to push absurd conspiracy theories about Goldman.

    P.S. Rick - I'm a big fan of your book, and have recommended it to everyone who has asked me: "how did this happen?"

  5. Rick:

    Interestingly, under Section 555 of the Bankruptcy Code, the CDS would not have been subject to the automatic stay (while the parties that AIG insured would have). I believe that means that the counterparties would have had priority claims on AIG's assets, even if it were not on a timely basis.

    The immediate impact of the failure of AIG may have been cascading defaults, but not necessarily cascading bankruptcies.

    I am still investigating this, but take a look at the (admittedly complex) law.

    Besides, suggesting that the counterparties should contribute to the recovery of AIG outside of bankruptcy is a little bizarre. The law is one most important of the bases for capitalism - and contracts are part of that foundation. When we start abrogating contracts, we put the whole system in jeopardy.

    By the way, if you review the sequence of events that led to the initial investment of the TARP money, the entities receiving the funds were not given a choice - they were told they had to accept so that nobody looked particularly weak.

    What is really unfortunate is the problems are incredibly complex, and yet the media and Congress (who clearly don't have a firm handle on the issues) feel entirely comfortable making misleading and partially correct statements to voice their outrage and direct anger at Wall Street.

    Two primary drivers of the current crisis (to be overly simplistic) are disintermediation and excess capital.

    Disintermediation has been going on for over 30 years and has led to huge benefits for the consumer. Washington is just as responsible for that as Wall Street (perhaps more so).

    The flood of excess capital is an international problem and relates to our trade deficit (and the lack of places for our foreign partners to invest their cash without creating inflation at home or driving up their exchange rate).

    Hearing that Cuomo and Frank want to release individual names and that they are getting letters from people wanting to hang AIG employees and their families with piano wire is very scary. It sounds like the Russian Revolution or the French Revolution.

  6. It is complex and it is scary. Congress has a case of ADD -- they are focusing shorter and shorter term, while Treasury has more problems on more fronts without the staff to deal with them.

    The AIG problem is infuriating, but if you have over a trillion dollars of problems, there are going to be a lot of multi-hundred million dollar errors along the way. Especially when you have to work with a short time frame and without adequate staffing.

    On "suggesting that the counterparties should contribute to the recovery of AIG outside of bankruptcy is a little bizarre", when a firm is fighting against bankruptcy, it is usual that the creditors make concessions. And if a creditor might go under if the bankruptcy occurs, then the concessions are all the deeper.

  7. Rick...are you reading this:

    do you understand what it says?....or have you turned off forever that part of your brain....

  8. I am saying that many of those at AIG had nothing to do with the "fraud, conflicts of interest, indifference to suffering, repudiation of responsibility, and systemic absence of individual moral judgment" described in the article you reference. So if you are withholding bonuses on that basis, then it is the equivalent of the sort of collective punishment where ten people from a town are lined up and shot because someone in the town -- whom those being lined up might not even know -- killed a Nazi soldier. (It is always helpful in an argument to compare the other side to something Hitler would do). The "perpetrators" in the case of AIG are mostly long gone, out the door and living in retirement with substantial wealth that will be untouched by the current attempts to pull back the bonuses.

    To repeast a point of the post: if, on the other hand, the view is that the bonuses should be returned because without government aide the money would not have been there, so these payments are a misappropriation of tax payer largess, then the argument should be applied broadly, not focused on AIG.

    Although I did not mention the following in the post, given that it was known months ago that this would be the case, then that is when the decision should have been made. It is wrong to do it now, after the work has been done by the employees based on the opposite understanding, when no new information has come forth. (I do not consider the second-guessing of the initial decision by others, even by many others, to be new information).

  9. nope....your witchcraft and others like you (including all quants in AIGFP) had everything to do with the destruction of old peoples savings for retirement (including both my mother and my mother-in-law) & your ilk should be burned at the stake....

  10. To anonymous,

    You appear to benefit from a society held together by rules that you would destroy. I can certainly understand the anger, but "burned at the stake"? If we succumb to that, who's next? You and your family for some "crime" committed by someone else in your community? Rick's example is right on point in the world to which your suggestion points.

  11. i am speaking about quants....their ideas are so wrong....but their egos are so big....look at the destructioon they have caused....and they were so well's not fair....

  12. to be fair to mr. bookstabber....and i still don't know why i should be when fairness was not given to's like when the allies stormed the beaches on d-day, captured the Germans, and proceeded to treat them like humans, even though just 5 minutes before the Germans were ruthlessly shredding them with ammo....anyway, i haven't read your book....because i can't buy it....because i don't have any money, you see....a common problem for us plebians....

  13. I believe GS would have become bankrupt even in october 2008, when it had to take $10 billion help from Gov. It is easy to forget the market moves of those days now, but I recall it clearly. Infact many banks including MS may have suffered the same fate.

    These banks are now planning to buy toxic assets under the PIPPP plan. So much for arms length transactions, moral hazard. I though the whole idea of PIPP was to get toxic assets off the bank's balance sheets.
    Okay I get that with the huge taxpayer subsidy in-built into the Geithner plan, the idea of buying may appear lucrative. But have Bankers become so morally depraved. Why do we even call them Banks now - they are all hedge funds and all taxpayers are unwilling hegde fund investors.

  14. Interesting to revisit this subject/post now that GS has is likely to come out with record profits. It's pretty clear that money flowed directly from the AIG bailout to GS coffers in additional to the cheap money provided by the government. Hard not to see an evil conspiracy in all of this with Paulson's former firm magically being the only survivor and a huge benefactor from the government policies.

    As to whether AIG employees were unfairly punished in term of bonuses, sadly, I think the phrase is "tough shit" - you belong to a firm, not some individual or department mandate. My company has three divisions - if management allowed one division to effectively take down that entire firm, then I would not expect to get a bonus - that is called being part of a corporation. Just my two cents now 2 months after the last comment! Great blog btw....


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