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

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

Note to Washington: Take Finance 101 -- STAT!

How many Washingtonians does it take to screw in a light bulb? All of them. And, they'd still be in the dark. Indeed, murkiness is a preferred bipartisan state on the Hill. That's the only explanation for consistently doing the wrong thing regarding the financial crisis, every step of the way and losing obscene sums of our money in the process.

Piecemeal fire drills don't put out fires.

One of the first things you learn as a trader is buy the rumor, sell the news. Treasury Secretary Tim Geithner missed that lesson. His latest blindfolded shoot-a-dart, save-a-bank move came on Feb. 27. That was followed by today's confirmation to dump $30 billion more into AIG, a private insurance company whose claim to public funds is that it backed Wall Street's lousy credit bets, a cry that got bipartisan belief.

Last week, after leaking the Citi stock idea for a few days (giving spec-traders time to scoop up shares to later dump), the government then announced it would convert its preferred shares in Citigroup to common stock, increasing its ownership stake in the firm to 40 percent. (A note on the structure of a bank: common shareholders have no claims to repayment, preferred ones have some. If it was my money (which it kind of is), I'd shy away from that conversion trade.)

The great part of the plan supposedly? No extra public money required! Except that Citi's stock dropped nearly 40 percent, which equates to a $5 billion, or so, market loss. In solidarity, Bank of America's stock dropped a mere 30 percent; Wells Fargo was down 16 percent. I'd have wanted to opt out of the next government investment round, into AIG's coffers this week.

But, after $152 billion has already been swallowed by AIG and it posted a $61.7 billion loss, the insanity of replenishing its funds underscores rampant federal cluelessness and desire to buy into a misplaced fear that inaction is worse than action.

And all the explanations for this nosedive in Citi's stock were painful. Which is why it's likely similar conversions will take place soon for Bank of America.

The business press said shareholders were concerned about the dilution effect on their own shares, so they dumped them. (If new shares were issued to the government, existing shareholders would own proportionately less of the new total amount.) The progressive press called it another step toward nationalization (Which it really isn't. Purchasing stock in a black hole of a risk cesspool of a financial institution is not nationalization, it's simply bad investing strategy). And, the conservative press considered it a step toward the destruction of capitalism (Which it really isn't; capitalism thrives on raising funds for assets that have no value. Ask Bernie Madoff or Hank Paulson).

My interpretation is that the savvier traders did the same thing they've been doing, unrestrained, throughout this crisis: they dumped or shorted Citigroup shares because they knew the government remains oblivious to the root cause of the decimation of the banking industry and isn't asking the right questions to quantify the potential downside still out there.

Without full disclosure, the market assumes the worst. Traders trade down. Banks don't trust each other. And credit remains in a coffin. Throwing money at this situation reminds me of the bottomless-pit scene in the old "Flintstones" cartoon.

The Real Problem

Between these punts at explanation lies the true problem. It's the same one that has been at the core of this crisis and stemmed from the complete deregulation of the industry in 1999.

It's that no one has a clue about the true nature of Citigroup's books or health, or AIG's. Nor of Bank of America's or Well's Fargo's, or for that matter, JPM Chase's, although its CEO, Jamie Dimon, maintains the best poker face. Because the banks were allowed to grow to be too big to regulate and too complex to decipher.

The very idea that the government should capitalize these convoluted institutions rather than separating out and concentrating on the specific divisions that are fully understandable and whose risks are quantifiable, defies logic. It has also proved tremendously inefficient and costly.

No amount of equity injections or Geithner's stress tests or private-public government-backed investment plans will change that. No one should think of nationalizing, as in taking over and running, anything they can't quantify. Ever. I mean, would you consider buying a car that exudes smoke from under the hood, no matter what you do to it? Of course you wouldn't.

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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