An Update on AIG, Pensions, Quantative Easing, Mark-to-Market Accounting, and the Fear of Bank Nationalization

Today's piece is an update on the US Government's continued bailout of AIG, the deterioration in US pensions, the use of Quantitative Easing by an increasing number of governments globally, and a potential rule change that could allow banks to further manipulate numbers to falsely inflate the prospects of their viability as ongoing concerns. This analysis is part of my ongoing interest in the substantial structural problems facing the US economy. My final conclusion, while inflammatory, is that US citizens such as bank executives and government officials have done more to destroy the livelihoods of American taxpayers via excessive risk-taking and deregulation than any terrorist organization has thus far via attacks on the US, including 911. 

The US Government recently announced an increase in its bailout of AIG for a current total of $170+ billion so as to ensure that taxpayers have a greater shot at being paid back by keeping AIG afloat. The real reason is the fear of the tremors that will reverberate through the financial system should AIG fall. Why? As noted in a recent article, AIG had an unregulated 'Financial Products' unit that was run basically as a hedgefund. It participated in what is known as the Credit Default Swaps market and took bets totalling over $300bn, in which companies could buy protection from AIG against other companies defaulting on their bonds. If the latter companies did indeed default, AIG promised to pay the original companies the equivalent values of the bonds insured in return for premiums paid by those original companies to AIG. In turn, AIG paid massive bonuses to the executives running this unit and profits at AIG grew immensely. Those executives are now gone, after pocketing immense sums in salary and bonuses, leaving the taxpayer responsible for preventing mass contagion and deterioration in the system at large. The threat is that if AIG goes bankrupt and can't stand behind those CDS agreements, countless numbers of those 'original' companies that paid AIG for protection would have to book further losses on their own balance sheets, exacerbating the deterioration in perceived health of many already ailing banks and other institutions. Therefore, endless taxpayer dollars will be pumped into this 'zombie' institution to prevent this, even after AIG announced a $60bn quarterly loss! That is staggering that a company can lose that much, and a total of $100bn+ over five quarters and still be standing. (See Senate article)

The most recent comedic aspect of the AIG fiasco is that the megalomaniac ex-CEO of AIG is now suing the 80% US taxpayer owned company which he built over 40 years, claiming that AIG inflated its stock price and fraudulently inflated the value of his deferred retirement compensation package in which case he is due the difference between the inflated price and 'fair value' for the shares. Does he truly believe he had nothing to do with the rogue actions of his 'baby'? If he is successful, where does the litigation end? Can all ex employees of companies like Bear Sterns, Lehman, and others sue the companies on like terms, even after years of said employees pocketing enormous bonuses and salaries? The US taxpayer should have to pay not a dime in such circumstances; as it is, we are paying handily for bets gone wrong. There is not an entity in the world that would bail out a gambler for going to a casino and making huge bets that went sour in the same way as the taxpayer is being forced to do now. (See article) 

Another major issue that has surfaced again this week is the shortfall of private and public pension funds. I first wrote about this topic a couple of years back in relation to the fiscal deterioration of the Pension Beneficiary Guarantee Corporation which is an agency that picks up the tab, again with taxpayer dollars, when a company fails to meet its pension obligations. A recent Bloomberg article exposes the accounting tactics utilized by pension funds to artificially hide their shortfalls on their obligations and estimates that there could be a further need for up to $1 TRILLION in taxpayer dollars to bailout the pensions in the US.

Bloomberg Link to this story

Finally, as the US continues to expand its policy of Quantitative Easing, or simply printing dollars, Japan and Britain have announced similar measures in an effort to battle deflation, or the fall in prices of assets because of lack of liquidity for buyers. The end result of these policies is the potential for governments to excessively print their currencies to flood the system with liquidity which would temporarily artificially push the prices of those assets back up. This is another crack in the structural problems with the global fiat currency system. I ask the question again: How do we value one currency v.s. another currency if we don't know how much of each currency is in circulation? (see article)

Finally, a congressional panel will review easing the current 'mark to market' accounting rules which govern financial institutions (see article). These rules require that financial companies once a year state the value of their assets based on current market prices and are intended to give the public an accurate view of what the values of the banks assets are if they had to be sold today as opposed to simply relying on models produced by the banks themselves estimating the value of assets on the balance sheets. The fear was that those institutions might announce values that were optimistically inflated beyond their actual worth. Banks and other large financial concerns have been arguing that it is this very set of rules that has increased the veracity of the financial hailstorm facing the US and the global economy, and that banks should again be allowed to value their assets based on internal models of what the assets will be worth in the future and not what they could be sold for today. I agree that many of these institutions' assets would be worth more in the future than the zero offered by the market, given there are no buyers for the toxic portions of many institutions balance sheets. But I am far from encouraged by the prospect that banks can be trusted to  to value their assets properly given their executives' predispositions for greed and balance sheet manipulation to extract excessive bonuses. 

If the government does announce an ease to mark-to-market rules, financial institutions will leap for joy as they won't have to post further collateral against the currently falling values of their assets, making their balance sheets look far healthier than they really are. It will be a victory for the very sector that is holding the US taxpayer hostage and take away one of the only tools for transparency into those institutions balance sheets. This lack of transparency will only delay the inevitable structural challenges from coming to fruition, which is in line with the other actions taken by government to 'stem the crisis'. 

This final point raises the issue of nationalization: fiscal conservatives are chattering that Obama wants to nationalize banks, and fear the slippery slope of 'what will the government take over next?' and 'is this a Hugo Chavez Venezuela?'. Let's be clear, these institutions would simply have exploded into oblivion with every worker fired and bankruptcy courts' dockets filled to the brim. Is that really what free-marketers want? Is that truly the better alternative? For all of the employees of Citibank, the prospect of nationalization is far better than simply being fired en masse. Ask them. There is no way these entities could have survived through the very disaster they helped create and benefited from over many years. Simply put, any claptrap about Nationalization is unwarranted and inappropriate when it is the taxpayer bearing the brunt of the carnage. 

I will continue to post essays in attempts to demystify the processes afoot in the US and around the world. It is my belief that many of the structural problems are a result of deregulation to the detriment of the taxpaying public and are leading to the deterioration of the US economy. Underfunded pensions, taxpayer bailouts, printing of dollars, job losses (which rose to just shy of 700,000 in Feb) are highlighting gross mismanagement of funds as some would view it, or negligence derived by greed as others see it. Either way, the systemic challenges the US faces are the results of actions by US citizens primarily (executives in tandem with government officials) and are doing far greater damage to the 300 million American taxpayers than any act thus far by terrorist groups. The internal greed that has greased the wheels of the US is doing the dirty work for Osama Bin Laden and other terrorists. What need do they have for another 911 when forces within the US are doing it for them? The Dow is currently at lower levels then after September 11, 2001 and the subsequent stock market crash. No terrorist group could destroy the value of the US dollars that have been saved by hard-working Americans as effectively or efficiently as the officials in the US government itself. Yet, it is those very officials who want the American public to believe that the main threat to the American way of life is terrorists seeking to harm Americans through violent means. Although it could be argued that the actions of our government aren't actually killing Americans (although more US citizens have been sent to their deaths in Iraq than perished in 911), I am sure there are hundreds of thousands of Americans who have lost their jobs as a result of the financial crisis who would tell you they are suffering far worse now than after 911.