Here’s my new column. And, just to give you the readers of the Curious Capitalist some added value, I have reproduced the column I originally wrote, then tore up because I didn’t like it, after the break. I’m currently sitting in a semi-comfy chair at the Santa Clara Marriott, which is right across the street from a roller coaster. In a couple of hours I will be giving a speech, titled “Is the market rational, and was it ever?” to an audience much, much smarter than I am. I’ll let you know how it went.
For now, here’s that rejected column:
The $165 million in bonus payments sent out in mid-March to executives and traders at AIG’s Financial Products subsidiary (also known as AIG FP, or the people who tried to bankrupt the world) are an “outrage,” President Obama has said. His top economic adviser, Larry Summers, called the AIG saga the “most outrageous” of the current financial crisis. “It’s an outrageous situation,” agreed Senate Minority Leader Mitch McConnell. His House counterpart, John Boehner, said the Obama Administration’s handling of AIG mess was “outrageous.” Senate Banking Committee Chairman Chris Dodd claimed to have warned Treasury Secretary Tim Geithner that the bonuses would be met “with an unprecedented level of outrage.”
It’s somehow heartening to see that, at a time when so many things—credit, confidence, consumer demand—are in short supply, our political leaders still possess such bounteous supplies of outrage. But outraged people often do really dumb things. And if official Washington decides that its most important task on the financial front is punishing a few bonus recipients, we’re in big trouble.
The AIG bonuses were retention payments that were promised early last year, when it was clear that London-based AIG FP was in trouble but not yet apparent that its parent company wouldn’t survive without $170 billion (and counting) in taxpayer aid. Without that aid, AIG would have gone bankrupt in September and all those bonus promises would have been torn up. AIG was not allowed to go bankrupt because Lehman Brothers had just failed and the people at the Treasury Department and the Federal Reserve worried (with reason) that another failure—in particular the failure of a firm that wrote default insurance for banks around the world—might wipe out the global financial system and unleash an economic catastrophe far, far worse than the one we’re going through now. In short, the people at AIG FP, the very division that wrote the default insurance contracts that dug AIG into such a deep hole, got their bonuses by holding the global economy hostage. That is outrageous.
Since then, the people at AIG FP have resisted any change in the bonus contracts, and AIG’s government-appointed chief executive and his Treasury and Fed overseers have caved in part because of fears of the havoc that might ensue if the quants at AIG FP suddenly all headed for the exits. More blackmail, in other words—and more good reason for outrage.
It is a bit odd that, though, that everybody’s getting worked up about it now, when the outlines of the bonus plan have been public since January, when Bloomberg News revealed them. And the current discussion in Washington slides right past the true cause of the outrage—that a few financial whizzes were allowed to avoid the full consequences of their errors because their errors were so gigantic they risked bankrupting us all. That blackmail wouldn’t have been possible if Congress, the Federal Reserve, the other financial regulators and the past couple of presidential administrations had not allowed financial companies to grow into border-crossing behemoths whose disorderly failures could unravel the global economy, and made no contingency plans in case of trouble. It’s not just AIG, of course—Citigroup’s current limbo-like state is in part the result of the lack of any plan or legal structure for winding down or taking over such a gigantic global financial conglomerate. It’s also not just government officials who whiffed—financial journalists (this one included) and financial economists missed the dangers too.
That’s in the past now, and it is natural that the missteps of current officeholders get more attention that those of people now on the after-dinner speaker circuit. But it’s important to remember that the bailout isn’t the problem. It’s the answer—a flawed, haphazard but still mostly correct answer—to massive problems created years ago. It could be done a lot better if there were a set of rules and authorities for winding down financial institutions other than simple, deposit-taking banks, yet no legislation has been introduced to that effect. It is supposed to be an element of the Obama Administration’s regulatory reform plan, but we haven’t seen the details yet.
That’s the appropriate context in which to view the sudden congressional fixation for going after the bonus-getters. It’s understandable, even justifiable. It’s also a self-serving distraction. If we want to get the financial system moving again and avoid AIG-style outrages in the future, some really big things need to happen in Washington in the coming months. Loading extra taxes on a few bonuses is not a big thing.