We won … or did we?
Pre-post update: Greece referendum
As I wrote this over the weekend, the Greeks were emphatically voting No to the ECB’s ‘last best’ financial extension offer, plunging the EU into its own new ‘Lehman Redux Week.’ Though the Greek drama will consume the financial markets this week, events will happen at a crazy pace, no one will really know anything, and armchair speculation will be worse than informed speculation. So I’ll wait before posting until something emerges that approximates a direction.
Then I’ll claim I knew it all along.
By: David A. Smith
The morning of September 15 was clear and sunny, with the fresh warmth of a full-summer day; the flowers were blossoming profusely and the grass was richly green.
– Shirley Jackson, The Lottery
In the New York Times (June 16, 2015) reporting that I’ll use as source material for this post about AIG, author Andrew Ross Sorkin of the New York Times, though deeply familiar with the cut-and-thrust of the 2008 financial crisis, nevertheless gets the wrong end of the stick:
For years, critics of the bailouts during the financial crisis argued that the rescue efforts weren’t harsh enough. The chief executives of failing institutions should have lost their jobs. Shareholders should have suffered more pain. Taxpayers should have received substantial compensation for the risk they took.
That is curious if revealing opener for what should be a news story:
In a stunning ruling, Judge Thomas C. Wheeler of the United States Court of Federal Claims [The only court where a private entity can sue the Federal government – Ed.] said on Monday that those terms were too “draconian.” In other words, he suggested
taxpayers the Department of Justice should have offered AIG a more generous non-punitive deal. [Inaccurate editorializing struck through and accurate words substituted. – Ed.]
Do I look like a villain?
Seeing AIG as a villain of the piece, author Sorkin fails to recognize that the government must turn square corners even with alleged villains:
“I have always loved to use fear, to take it and comprehend it and make it work and consolidate a situation where I was afraid and take it whole and work from there.” – Shirley Jackson
In so doing, he misses what’s really important about the AIG case:
We represent justice around these parts
The big public-policy questions at stake in AIG
1. Fiduciary duty. When a government wields power against a private entity, does it have a fiduciary duty to that entity?
2. Vigilante financing. If a government financial entity thinks a private entity is ‘guilty but essential,’ is it justified in financially punishing the entity that it reluctantly saves?
3. “The lottery”. Can a moral government consciously sacrifice one private entity to protect the larger financial ecosystem?
I believe these issues were unquestionably in the back-of-mind thinking of Messrs. Geithner, Bernanke, and Paulson on Lehman Weekend, and that how they were answered lies at the heart of Maurice Greenberg’s fury at the government, and why he will never settle the case, but will litigate it to the Supreme Court.
Much better exposition is found, as seems usual when it comes to complicated recapitalization cases, in the U. S. Court of Federal Claims opinion, and in this case the executive summary suffices:
Writing more clearly than the New York Times: Thomas C. Wheeler
On the weekend of September 13-14, 2008, known in the financial world as “Lehman Weekend” because of the impending failure of Lehman Brothers, US Government officials feared that the nation’s and the world’s economies were on the brink of a monumental collapse even larger than the Great Depression of the 1930s.
Lehman Weekend, as I will call it, was a global catastrophe narrowly averted, and though the passage of seven years dims many a memory, for some of us the events are still clear.
That was close
Bobby Martin had already stuffed his pockets full of stones, and the other boys soon followed his example, selecting the smoothest and roundest stones.
– Shirley Jackson, The Lottery
Recalling them scares me all over again – and reminds me that, in times of great duress, people take actions they ordinarily would not, in the name of expediency.
The main issues in the case are:
1. Exceeding legal authority? Whether the Federal Reserve Bank of New York possessed the legal authority to acquire a borrower’s equity when making a loan under Section 13(3) of the Federal Reserve Act, 12 USC. § 343 (2006); and
2. Uncompensated taking? Whether there could legally be a taking without just compensation of AIG’s equity under the Fifth Amendment where AIG’s Board of Directors voted on September 16, 2008 to accept the Government’s proposed terms.
It is entirely possible that the government’s actions both worked (in large) and were illegal/ immoral (in small) because they were overkill.
If Starr prevails on either or both of these questions of liability, then:
3. Damages from government action. The Court must also determine what damages should be awarded to the plaintiff shareholders.
Other subsidiary issues exist in varying degrees of importance, but the issues stated above are the focus of the case.
[As I’ll be extensively referencing those three issues (legal authority, uncompensated taking, and damages), I’ve added some formatting to the above paragraph. – Ed.]
Sources used in or relevant to this post
AHI blog post: Anatomy of a Coup (April 28, 2008; mumble font)
Insurance Journal (October 19, 2014; sepia font)
Starr International v. United States (June 15, 2015; pdf; blue font)
As I’ve previously documented, during TARP the government did in fact recapitalize – in some cases, forcibly recapitalize – many of America’s major commercial banks (and even, under coercion, some of its investment banks like Godman Sachs), and on terms considerably less draconian than those it crammed on AIG.
All that [Shareholder pain, government profit for risk taken] did come to pass in one case –
Tough luck, Ford
– the bailout of the American International Group, the large insurer and symbol of the crisis.
Don’t I look trustworthy?
Yet on Monday, a judge in Washington decided that the government’s actions were too severe, and the rescue was illegal.
That too is inaccurate; Judge Wheeler ruled illegal not the fact of the recapitalization, but unilaterally imposed terms – but I’ll let the judge frame it for himself:
Plaintiff Starr International Company, Inc. (“Starr”) challenges the Government’s financial rescue and takeover of American International Group, Inc. (“AIG”) that began on September 16, 2008. Before the takeover, Starr was one of the largest shareholders of AIG common stock. Starr alleges in its own right and on behalf of other AIG shareholders that the Government’s actions in acquiring control of AIG:
Constituted (x) a taking without just compensation and (y) an illegal exaction.
Both in violation of the Fifth Amendment to the US Constitution.
In plain language, the plaintiff (Starr), as principal shareholder of AIG, asserted that stole AIG’s economic value by dictating the terms of new capital, with many provisions much more severe than imposed on any other TARP recipient (to say nothing of the sweetheart giveaway the Administration delivered to the union pension beneficiaries in GM):
Under the current plan [May 27, 2009] GM’s union retirees will receive 39% of the restructured company and $10 billion in cash in exchange for $20 billion in claims. Bondholders, however, receive a mere 10% for $27 billion in claims in the form of stock (and no cash).
Further, AIG’s principal shareholder quantified its damages:
The controlling shareholder of Starr is Maurice R. Greenberg, formerly AIG’s Chief Executive Officer until 2005, and one of the key architects of AIG’s international insurance business. Starr claims damages in excess of $40 billion.
Though forty billion is enough to say grace over, it’s not even the most important thing about AIG:
For these damages we are about to recover
The judge’s decision could have far-reaching consequences should another financial crisis occur — and if history is any guide, one will.
And that, though Mr. Sorkin may not have recognized it, is precisely why the Lottery questions – fiduciary duty, vigilante financing, and high ecosystemic purpose – must be properly answered.
Soon the men began to gather, surveying their own children, speaking of planting and rain, tractors and taxes. They stood together, away from the pile of stones in the corner, and their jokes were quiet and they smiled rather than laughed.
– Shirley Jackson, The Lottery
That’s why this Court of Claims ruling, and the eventual Supreme Court appeal that will surely follow (probably not from the government, but from AIG) will likewise be so important. One must treat fairly with the devil, as James Blish wrote in The Triumph of Time, there is no good alternative.
Pre-post update addendum: Greece referendum
Mr. Tsipras is an elected leader; those with whom he and his government are negotiating are not; they are technocratic servants of elected leaders (e.g. Chancellor Merkel). His referendum call has given him a political trump card which he will flourish and play at every opportunity.
And he’s shown he’s canny; forcing out incendiary finance minister Yanos Varoufakis is a simple sop to the creditors, akin to compelling a change of CFO; it makes no difference in the overall negotiations and lets whoever comes in now say the same things, without the interpersonal baggage.
[Continued tomorrow in Part 2.]