Geithner Must Go: He's Costing Us and Obama Too Much

The first casualty of the president's political debacle will likely be Timothy Geithner, the severely over-confident treasury secretary well known as a lapdog of Wall Street. Geithner was effectively repudiated by the president last week when Barack Obama abruptly announced a new, more aggressive approach to financial reform. But the immediate threat to Geithner is the scandal of collusion and possibly illegal behavior gathering around the Federal Reserve Bank of New York for its megabillion-dollar takeover of insurance giant AIG.

Tim Geithner is standing in the middle of the muck because he was still president of the New York Fed in the fall of 2008 when it rescued AIG with tons of public money (now totaling $180 billion). The facts of the deal are catching up with him now and none are good, since they raise doubts about his competence and his public integrity. This scandal has smoldered for several weeks in newspaper business sections, but is about to grab front-page attention.

The House Oversight Committee, chaired by Edolphus Towns, has turned up damning evidence and called Geithner to testify the week of January 27. Committee investigators are poring through some 250,000 e-mails and subpoenaed documents and finding smoking revelations. House Republicans smell blood. House Democrats, given the present climate of popular discontent, are unlikely to rally around tainted goods.

Perhaps the most explosive revelation is that Geithner's subordinates at the New York Fed instructed AIG executives to evade securities law and conceal from the public the $62 billion the insurance company paid out on contracts with the largest investment houses and banks. AIG was already bankrupt and 80 percent owned by the government, kept afloat solely with the billions being injected by the central bank. Yet the Fed told the company to pay off the bankers at full value--100 percent on the dollar--without negotiating a better deal for the public. The bankers would not have collected a dime if the government hadn't come to the rescue.

The Fed, in other words, gave the largest, most prestigious banks a very sweet deal--much sweeter than anything the banks or the federal government will offer to homeowners facing mortgage foreclosure. The central bank, in effect, was operating a backdoor bank bailout that nobody could see. The public billions devoted to AIG went in one door at the insurance company and came out another door to the private banks. Goldman Sachs alone collected $13 billion.

Failure to disclose is a big no-no in corporate finance. People can go to jail if they willfully withhold material information from shareholders and the Securities and Exchange Commission (SEC), or they may be sued for investor fraud. Yet that is what the New York Fed told AIG to do. The company officers wanted to report fully to the SEC. Their Fed overseers told them to take out the disclosure out of their report to the SEC (the facts were ultimately not disclosed until five months later). The Fed, remember, is the government's principal banking regulator. It is supposed to enforce the laws, not tell regulated firms to break them.

What was the Fed anxious to hide? Clearly, it was the clandestine and illegitimate conduit it had devised at AIG to funnel billions to the banks, unseen by the public. Keeping this bailout secret would avoid arousing even greater anger about the bailouts. It might also help prop up stock prices at endangered banks, though savvy financial players swiftly figured out what was going on. Only the people needed to be kept in the dark, along with their elected representatives in Congress.

The Federal Reserve was trying to cover its own butt. And Timothy Geithner's. Disclosing precisely what Geithner had done to arrange backdoor bailouts on the New York end would have definitely damaged his chance of becoming Obama's treasury secretary. When the facts were eventually acknowledged, members of Congress repeatedly demanded to know which firms got the Fed's money. The Federal Reserve Chairman and his top deputies said it would be "inappropriate" to say.