AIG Bailed Out Again, but Endless Fire-Drills Don't Put Out Fires

By Nomi Prins, AlterNet. Posted March 3, 2009.

The fact remains that whatever evaluation model you use for them, however you capitalize them and whatever "bad bank" construct you chose to go with, rounding up and dumping arbitrary amounts of toxic assets somewhere will not do more than calm the financial markets for the amount of time it takes to realize there's more where that come from.

Think about it. There were $1.5 trillion subprime loans issued between 2003-2007. About $14 trillion of asset-backed securities and collateralized debt obligations were created using those loans as collateral. Yet, we're already in the hole about $10 trillion to "fix the banks."

It doesn't compute.

Why? Because we're still not even discussing the borrowing Wall Street did on the back of those securities. Throw that into the equation under the very conservative assumption that all banks borrowed up to 10 times the amount those securities were once worth, and we're looking at a systemwide maximum loss of $140 trillion.

See, these "toxic assets" don't live in isolation. They are like weeds overrunning a lawn. You can't just remove a section and assume the lawn will automatically convert to pure grass. They have separate lives as collateral for other things -- borrowing, credit derivatives, etc. You must determine what they connect to to decipher how much loss they represent. And that entails analyzing and reconstructing the whole system.

No, the fix to this is not simple, but it's doable. It's been done before. It entails pulling an FDR. Before he backed some of the banks, and not others, he shut them all down for four days. It was critical to evaluate them before moving forward then. And, it still is.

Then, we need to dissect all banks into manageable, backable parts by bringing back a modern version of the bipartisan Glass-Steagal Act of 1933. Wall Street screwed up then, and banks were given a choice. They could deal with citizens' daily financial activities or speculate away. The government, however, would only back the non-speculators.

By separating the banking landscape into less-risky commercial banks that dealt directly with consumers (and their deposits and loans) and risky investment banks (that package, leverage, speculate and trade these loans and other complicated securities), the government capped its (and the public's) potential losses. FDIC insurance only had to cover banks whose functions were finite. It made sense.

The same should go for today. The government should only back commercial banking activities, like injecting capital directly into loan principals.

It shouldn't be providing funding for speculation on the backs of other people's money or homes or to fix the problems it creates. It should definitely not be backing insurance companies like AIG that overspeculated in credit derivatives on behalf of those banks.

Plus, it should demand transparency, not just over where our money goes, but over what banks were doing as regular practice to begin with.

Sure, no bank wants to disclose all its ugly information and breadth of potential losses. But, neither is anyone in Washington asking for it. This must happen.

It should start with the biggest, most secretive bank in the country, the Fed.

Already this informational stalemate has amounted to grand larceny, and it will continue to ooze taxpayer money until there is a complete show-and-tell of every book in the banking system. It has also frozen any confidence that once existed between banks, and as a result, credit.

We must move past the fear of the unknown. The losses sitting on the books of banks are enormous. Denying that fact, doesn't change it; all the secrecy only inflames the crisis. But, exposing the details, fixing the loans and reconstructing the banking system will.

See more stories tagged with: insurance, economy, financial crisis, aig, geithner, baliout

Nomi Prins is a senior fellow at the public policy center Demos and author of Other People's Money and Jacked: How "Conservatives" are Picking Your Pocket (Whether You Voted for Them or Not).

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