Some reward should come to those that did it well

TO BE NOTED: From The Aleph Blog:

"The Bonus Canard in Financials

It was 2000 when I received my first significant bonus check working for a financial company as part of an investment department. Now don’t get me wrong, as an investment actuary at prior firms, I took on complex projects that no one else could do, and I did them not for any bonus that I might receive, but just to do my best. My bonuses were maybe 3-5% of my pay, and I was happy with them. That the NPV I created for the company was 5,000x that did not bother me. I work to do my best. I have turned down higher paying jobs that would hurt my family, but I love intellectual challenges, whatever they pay. (I tell this story in greater detail to younger people in investments, in order to show them that we do our work to do our best, regardless of the compensation.)

Now, in 2000, when my boss gave me the check, I looked at it and thought there must be an error. He told me that he was very happy with my work, and that we had all hit the top of the scale in our bonus formulas. He told me to invest it wisely. (How I invested it is another story, and one worth telling later.) I thanked him, and then called my wife, telling her that I had a check for 105% of my salary. We were amazed.

I didn’t get it, so I went back to my boss several days later, and asked him why the bonus was so large. We had a good relationship, and at the time, I didn’t realize that I was slowly becoming his main assistant. He told me, “The St. Paul wants its investment managers to focus on safety, not short-term returns. But they compete for investment talent among other investment firm that do swing for the fences. They want smart people, but they don’t want them to take undue risks. That’s why they make the bonuses easy to get, unless we lose a lot of money.”

That made sense, but it made me think that my real pay was double what I signed up for. Wow. I did not realize what a good deal I had. Double my pay to make money for the company, but keep it safe. That’s a challenge I could love.

When we merged into another firm that had the opposite philosophy, my pay went up, but my bonus went down in percentage terms. I would make more money if I took more risk, but I maintained the same behavior, because I serve a higher power than money.

At my next firm, my bonus was not predictable. Whether I did well or badly, I could not figure out how I would receive a bonus.

My main point here is that there is no one correct bonus formula. We can bonus for performance and/or safety, over short and/or longer horizons. It is easy politically to criticize the bonuses at AIG, because why whould a losing firm give bonuses, but perhaps employees did the right thing in their area of the company, while other areas failed. Some reward should come to those that did it well."

But the populist threat itself impedes Obama's ability to turn the country around.

TO BE NOTED: From the Guardian:

"Obama should beware the growing anger in America

With each revelation of fat bonuses at AIG, Americans grow increasingly willing to embrace a popular anti-Barack demagogue

Comments (102)

• Michael Crowley
• The Observer, Sunday 22 March 2009
• Article history

Spring has come to Washington DC and, with it, the sickly sweet smell of scandal. "Who knew what and when did they know it?" roared the House Republican leader, John Boehner, last week. At the White House's daily briefing, agitated reporters besieged the press secretary, Robert Gibbs, with similar questions: "Has the president been satisfied that he found out about this in a timely manner?" asked one. "Somebody clearly dropped the ball," sniped another. "Let's be fair, let's be fair," Gibbs pleaded, his usual easygoing air morphing into defensiveness.

The topic of these Watergate-like grillings is not sex or lies, but, rather, Wall Street bonuses. Specifically, the now $218m in awards that the reeling insurance giant AIG, which has already accepted $170bn in US taxpayer aid to keep it afloat, with another $30bn to come, was recently revealed to have paid out to a few hundred of its employees.

In response, an excitable news media and opportunistic members of Congress spent most of last week in a frenzy of assigning blame and stoking public outrage - never mind that plans to award the bonuses had been known for months. The outcry even threatened to topple Obama's treasury secretary, Timothy Geithner, until the president heartily defended him on national TV.

Ultimately, the bonus fury is about much more than a gross payday for a crew of undeserving cretins. In the near-term, it has created a huge and unwelcome distraction for political leaders desperately trying to manage the financial crisis. In the medium term, it threatens to undermine Obama's future flexibility to save the US economy. Above all, it has fuelled a rising populist tide that threatens to swamp Barack Obama's presidency altogether.

The notion that Obama was cavalier about giving taxpayer dollars to corporate villains is potential political cyanide for a president who, as a candidate last year, was viewed by some working-class voters as an aloof academic. "It's a pretty critical moment," says Stan Greenberg, former pollster to Bill Clinton. "Voters are trying to make a judgment about Obama and, to some extent, about the new, mostly Democratic political class now in control of the government. And I think they're trying to decide, 'Whose side are they on?'"

There's no question that the bonuses are sickening, a moral outrage. While some of the benefactors may have done little or nothing wrong, many are known to have worked in the specialised London unit whose creative trading gimmickry effectively ruined the company. Those people are more worthy of jail cells alongside Bernie Madoff ,the loathsome Ponzi king, than new vacation homes.

But with the global economy slowly burning down, the current obsession over this lone injustice - just one of countless others that define and explain the current crisis - has become a destructive force of its own.

Not that this should shock anyone. America has a rich tradition of populism, one that runs from the Great Depression-era "Share Our Wealth" plan of Louisiana Senator Huey Long, to the 1992 and 1996 reform candidacies of Texas billionaire Ross Perot. And a surge in inequality within US society over the past few years has set the stage for the latest populist explosion. Under George W Bush, middle-class workers saw their productivity rise, but not their wages. Meanwhile, healthcare costs soared. The average American CEO now earns almost 350 times the salary of the average American worker. At the same time, Americans watched a slew of political scandals unfold in which business lobbyists literally bought off members of Congress and their aides. Thus, anger towards corporate America and its allies in Congress has increasingly come to shape US politics. Populism may have been as important a factor as the Iraq war in the 2006 Democratic takeover of Congress, as evidenced by the election of corporate-bashing Democratic senators that year in then-Republican states such as Montana, Ohio and Virginia.

"Constituents are sending Congress a clear message: it's torch-and-pitchfork time," says a senior Democratic congressional aide, invoking the image of angry mobs storming Washington. That has members of Congress scrambling for scapegoats. "We need perp walks, CEO scalps, trophies to mount on the wall. The country needs villains to focus its rage on."

The problem is that no magic villain exists whose punishment will neatly mollify Americans who are reeling from job losses, foreclosures and a sense that the middle class was essentially ripped off by a modern plutocracy based in Washington and New York. The inevitable jailing of Bernie Madoff will be just one stitch in a gaping national wound, especially when Madoff's wife is still enjoying a life in a posh Palm Beach, Florida, home.

That means public anger could be directed at Obama and the Democrats who control Congress. For now, however, the good news for Democrats is that no strong opposition leader has emerged to harness that public rage. Republicans have mounted a largely inept assault on the Obama administration, hamstrung by their own corporate ties and, in the case of AIG, the fact that they opposed earlier (Democratic) attempts to limit bonuses for corporations getting federal assistance.

The best way for Obama to avoid being consumed by the public's free-form anger is to put Americans back to work, ensure a rising stock market and, if he can accomplish it, easy access to affordable health care. But the populist threat itself impedes Obama's ability to turn the country around.

That's because such a turnaround will require political capital, a commodity Obama and the Democrats are now haemorrhaging. Many economists believe, for instance, that a proper recovery will require billions more in taxpayer dollars. But the AIG fiasco is sure to leave the Congress gun-shy about supporting more assistance to Wall Street. A pending effort in Congress to impose 90% tax rates on big bonuses at companies that have taken taxpayer dollars could make things worse. It threatens to undermine support in the financial world for nationalisation of America's most dysfunctional banks, a move even the free-market Economist magazine has grudgingly suggested may be necessary. Opponents of nationalisation, after all, argue that management of government-run banks will be subject to illogical political impulses, just like those on display in dozens of blustery congressional speeches, hearings and press conferences on Capitol Hill last week.

Just how much more latitude the public will afford Obama remains to be seen. Greenberg hasn't yet given up hope. "The stakes are high," he says. "People want Obama to succeed. They're just trying to make the judgment about whether he's going to forget the ordinary people who are struggling and having to pay for this bailout."

Those people would do well to remember Obama's words during his address to Congress in February: "[In] a time of crisis, we cannot afford to govern out of anger." Thus far, America's political system has not responded well to his call. With time running out on the effort to save the economy, Washington can't afford the luxury of more cheap scandal politics.

• Michael Crowley is a senior editor at the New Republic magazine"

the potential effect of the bill that emerged from Congress on efforts to stabilize the financial system

TO BE NOTED: From the NY Times:

"Obama Uneasy About Tax on Bonuses

By DAVID M. HERSZENHORN

WASHINGTON — The White House stopped short on Friday of endorsing legislation to severely tax bonuses paid to executives of companies that accepted taxpayer bailout funds.

Administration officials said instead that President Obama would assess the potential effect of the bill that emerged from Congress on efforts to stabilize the financial system.

At the same time, as Wall Street executives anxiously pondered the ramifications of the measure quickly passed by the House this week, some Senate Republicans began to voice opposition to the legislation, saying it was hasty and abusive.

The House overwhelmingly adopted on Thursday a bill that would impose a 90 percent tax on bonuses paid since Jan. 1 by companies that owe the government at least $5 billion in bailout funds. That tax would apply to employees with family income of $250,000 or more, and would have an impact on businesses like Citigroup and Bank of America.

The Senate has proposed its own bill that would apply to all employees at companies owing $100 million in bailout money. The Senate measure would impose a 35 percent tax on the bonus recipient and on the company, which would apply to any amount above $50,000 for a merit bonus and to the full amount of any bonus paid solely to retain the worker.

Representative Barney Frank, the Massachusetts Democrat who is chairman of the Financial Services Committee, introduced another bill on Friday to curb bonuses. His measure would bar bonuses not based on merit for as long as a company owed bailout money to the government.

Wall Street firms reacted angrily to the tax proposals, with several saying they would explore ways to end their participation in the bailout program.

The chief executive of Citigroup, Vikram S. Pandit, sent employees a memorandum Friday saying, “The work we have all done to try to stabilize the financial system and to get this economy moving again would be significantly set back if we lose our talented people because Congress imposes a special tax on financial services employees. It would affect countless number of people who will find it difficult, if not impossible, to pay back the bonuses that they earned.”

Other companies said they would probably refuse to participate in other Federal Reserve programs aimed at stabilizing the financial sector.

For private investment firms, the prospect that the rules can be changed at the whim of Congress introduced a powerful element of doubt in their calculations.

“When you don’t have the goal posts, you don’t know where to run and how far,” said Thomas J. Barrack Jr., the chief executive of Colony Capital, a $38 billion private equity firm.

Mr. Obama, who initially said he welcomed the effort by Congress to tax bonuses, is now taking a more measured approach. The White House press secretary, Robert Gibbs, said the administration would have to consider the impact of the legislation on its wider efforts to prop up banks and increase the flow of consumer credit to families and small businesses.

“The president shares the outrage and the frustration that everybody has,” Mr. Gibbs said at his daily press briefing Friday, referring to $165 million in bonuses paid by the American International Group. Mr. Gibbs also acknowledged the larger goals. “All of that will be evaluated throughout the process when a bill gets to his desk,” he said.

The White House has called on A.I.G. employees to return the bonus money and reimburse the federal government, while the company’s chief executive, Edward M. Liddy, has asked workers to give back at least half of their bonuses. Some officials said action on the tax proposals could depend on whether A.I.G. made good on the refunds.

Business leaders struggled to digest the terms of the House bill, which would clearly hit some companies and employees sooner than others. The tax would apply retroactively to bonuses paid since Jan. 1 or paid in the future. But it would not apply to bonuses paid in 2008. For example, one of the most controversial payouts on Wall Street involved the $3.6 billion bonus pool at Merrill Lynch; the firm paid out $2.5 billion of that amount in December, earlier than usual, before its merger with Bank of America.

The effect of the House measure on stock options and other benefits was not fully clear.

Nearly half of House Republicans joined most Democrats in favor of the tax on bonuses, which was approved by a vote of 328 to 93. But it was far from certain that there would be such bipartisan support in the Senate, where some Republicans began to voice objections.

“It is wrong for members of the United States Congress and the president to propose to use the taxing authority of the government in a manner that is arbitrary, punitive and targeted on a single group of people,” said Senator Judd Gregg, Republican of New Hampshire, and the party’s senior member of the budget committee.

The Senate Republican leader, Mitch McConnell of Kentucky, has not yet expressed a position on the tax proposal, but has said that Americans deserve an explanation of how the bonuses at A.I.G. were allowed, even though the government now owns nearly 80 percent of the insurance conglomerate.

“Taxpayers are still looking for an answer to the question of how this happened, so we can make sure their hard-earned pay isn’t wasted in the future,” Mr. McConnell said Thursday on the Senate floor.

Graham Bowley, Michael J. de la Merced and Louise Story contributed reporting from New York."

One of my favorite things about the news is the randomness of what becomes a big story.

TO BE NOTED: From the Washington Post:

"Bonuses on a Slow Boil
By Michael Kinsley
Friday, March 20, 2009; A19

Maybe you don't spend your weekends perusing SEC filings, so perhaps you missed the one in November in which AIG, the world's most unloved big company, reported that it planned to distribute $469 million in bonuses to some employees. This was after the government began pouring billions into AIG to save it from the fate of Lehman Brothers but long before populist outrage over the bonuses exploded this week.

And maybe you aren't a regular reader of Rep. Elijah Cummings's blog on the Huffington Post. His Nov. 27 entry, "A Bonus by Any Other Name Still Stinks," complains that "just one day after being told that top AIG executives would be forgoing bonuses this year," he had been "shocked" to learn that they would be getting "cash awards" as "retention payments."

But surely you didn't miss the Oct. 8 article in this very newspaper headlined "AIG Spa Trip Fuels Fury on Hill; Pressing Executives to Concede Mistake, Lawmakers Blast Them About Bonuses." Or how about the New York Times on Oct. 17: "A.I.G. Agrees to Let New York Review the Propriety of Its Pay Packages"?

In short, you knew about this, if you cared. So why didn't your self-righteous populist fury boil over before now? One of my favorite things about the news is the randomness of what becomes a big story. This is far from the first time some scandal that was reported with a yawn on Page D13 popped up months later on Page 1.

In this case it's not entirely inexplicable. Part of the fury is precisely because public officials and AIG's executives knew or should have known about the bonuses and knew or should have known what the reaction would be -- and allowed them to go ahead anyway. This suggests, even more than if they were blindsided, that "they just don't get it."

As an explanation for anything, "they just don't get it" has a know-nothing, bullying quality that I don't like. Obama and his colleagues had other things on their minds in October and November. In short, I want to be sympathetic. But they don't make it easy.

Now, trying to get ahead of the story, AIG and the administration are just digging themselves a deeper hole. CEO Ed Liddy says that execs who received more than $100,000 will be asked to return half. Why half? No one is complaining that the retention payments are too large. The complaint is that they exist. As Cummings put it tartly in his blog, "These executives' bonuses are that they still have a job."

If you buy the theory that "retention payments" are needed, then they need to be big enough to work. If $100,000 is the right amount to keep an AIG employee from leaving for one of the many job opportunities no doubt available in the middle of a depression at companies that wish to duplicate AIG's success in marketing securities too complicated for anyone but an AIG employee to understand, then paying $50,000 is a waste. AIG will lose the employee and $50,000.

Treasury Secretary Timothy Geithner said Tuesday that he is going to cut AIG's allowance. The AIG bonuses will be deducted from the government's next bailout check of $30 billion. The point, I suppose, is that the government can then say that no bailout money is being used to finance these bonuses. Except that money is fungible -- one dollar is as good as another -- and as long as the government is writing checks to AIG and AIG is writing checks to these employees, the government might as well be writing the employees' checks directly.

Anyway, the money the government shells out to AIG is not supposed to be an allowance. It's supposed to be the minimum necessary to rescue the company, which is supposed to be absolutely necessary to save the economy. If $165 million or $469 million or any other amount can be trimmed from the bailout without serious harm to the country, why is AIG getting that $165 million or $469 million in the first place?

Like everything about the bailout -- and Obama's economic policy in general -- these "retention bonuses" are being presented as a tragic necessity. You may not like it -- heck, we don't like it either -- but we have no choice. Earmarks in the budget? Look, let's just get past this so we can move on. In a way, this is terrific. Tragic necessity is a concept that has been missing from the American political dialogue. Generally, politicians present every proposal as wonderful in every way, with no downside. But tragic necessity is a get-out-of-jail-free card that loses value if it is used too often, and Obama is going to need it later, when he takes on health-care reform, entitlements, the budget deficit and other delights."

The recent Congressional hearings on AIG generated intense heat. But was there any light?

TO BE NOTED: From US NEWS:

"7 Surprises Buried Beneath the AIG Bonuses

March 20, 2009 07:35 AM ET | Rick Newman | Permanent Link | Print

The recent Congressional hearings on AIG generated intense heat. But was there any light?

Actually, quite a lot. The scandal over bonuses paid to AIG’s rogue trading unit has obviously dominated news coverage and public attention. But while explaining the bonuses, AIG CEO Ed Liddy and other experts also provided lots of information on the most important question of all: Is the $170 billion AIG bailout working, or not? And what would happen if the government simply pulled the plug? Here’s some of the new information that has emerged:

The unit that brought down AIG was a tiny part of the company. AIG Financial Products Corp., which generated the credit-default swaps and other derivatives that brought AIG down, comprised just 438 people as of last fall. AIG’s total employment at the time was about 116,000, including about 50,000 Americans. In other words, a group representing just 0.4 percent of AIG’s global workforce wrecked the entire company.

[See what’s good and what’s bad about the AIG bailout.]

AIG is an unwieldy mess. Liddy said that AIG is “too complex, too unwieldy, and too opaque” to be run effectively. A blinding flash of the obvious, perhaps. But still important. With sweeping new regulations on the way, AIG will serve as one model helping policymakers slim down firms that are “too big to fail,” or prevent them from getting too big in the first place. (Citigroup will serve as another model that must be avoided in the future.)

The AIG bailout has helped, so far. Rodney Clark of Standard & Poor’s told Congress that “the government’s continuing actions with respect to AIG have significantly reduced the risk of further rapid deterioration in the company’s creditworthiness.” That, in turn, has forestalled the panic that nearly erupted last fall, when it looked as if AIG might collapse and default on billions of dollars worth of derivatives contracts.

[See more companies that could fail in 2009.]

Since the feds effectively took over the company last fall, AIG has reduced its derivatives holdings – the main source of its problems – from $2.7 trillion to $1.6 trillion. The plan, ultimately, is to close its Financial Products division and get out of the derivatives business.

Meanwhile, to pay back the government, AIG’s plan now includes four basic elements. It hopes to sell some of its smaller business units. Some of the larger, more valuable business lines could be spun off as initial public offerings, though probably not until the financial markets are healthier, which will take a few years. At least two of AIG’s valuable foreign-based insurance businesses will be put into a trust as collateral backing the loans from the Federal Reserve. And AIG’s U.S.-based life-insurance companies will be securitized and sold as investment vehicles, which AIG describes as the best way to maximize the value of those companies. That may also take a few years.

[Read about the bonus outrage at Merrill Lynch.]

The bailout is far from over. Selling business units and other assets has turned out to be difficult, because the value of many businesses – including other insurance companies - has been falling, not rising. And with large-scale financing difficult to secure these days, buyers have been scarce. “All of these issues will continue to adversely impact AIG’s ability to repay its government assistance,” according to a study by the Government Accounting Office. That means AIG might require still more taxpayer funds.

Much of the bailout money has already been spent. AIG says about $126 billion in federal money has been disbursed. About $35 billion has been posted as collateral backing derivatives contracts with trading partners like Barclay’s, Deutsche Bank, and Goldman Sachs. Another $49 billion has been used to purchase “toxic assets” like mortgage-backed securities and park them in a couple of holding companies for sale later on. AIG used $21 billion to shore up reserves at its life insurance companies. Another $37 billion or so has gone toward ongoing operations and other expenses. The company supplied further details about who got what in documents submitted to Congress.

[See 5 lessons from the AIG and Merrill bonuses.]

Taxpayers may not get all their money back. AIG’s plan to restructure and pay back the government is contingent on a bunch of things you probably wouldn’t want to sell an insurance policy against. The economy and the financial markets have to bounce back. AIG’s insurance businesses need to remain profitable, which is a lot harder now that the antics of the Financial Products division have trashed the company’s name. Aggressive competitors may even capitalize on AIG’s woes and poach customers. “Competitors are actively pursuing AIG’s accounts and key underwriting personnel,” says Clark of S&P. If the money does find its way back to federal coffers, it will take years.

If AIG failed, it would be more damaging than the Lehman Brothers collapse last year. That’s what AIG contends, anyway. In its submission to Congress, AIG paints a doomsday scenario that gives some idea what the Fed and the Treasury Dept. felt they’d be faced with last fall if they stepped aside and let AIG implode. More than 1,500 major corporations, for instance, would lose money on derivatives issued by the Financial Products division. That could generate a commercial-grade bank run by thousands of other companies seeking to redeem contracts and get their money back.

[See why the AIG bonuses are a welcome scandal.]

AIG’s insurance, aircraft, and financial-services businesses could create other shock waves if the company failed. The results, according to AIG, could impact 30 million U.S. policyholders, and another 44 million policyholders in other countries. Retirement accounts containing $134 billion might be jeopardized. Boeing and many airlines would take a huge hit, as AIG’s large fleet of commercial aircraft got sold off at steep discounts, bringing down prices for every kind of competing aircraft. The U.S. dollar would fall, the U.S. government’s borrowing costs would rise, and investors worldwide would suddenly question the ability of the United States to support its banking system. If true, all of that makes AIG too big to fail, too complex to succeed, and too dangerous to abandon. Not a good choice among the lot."

In AIG’s case, the US government is now the de facto owner.

TO BE NOTED: From the FT:

"Rage at AIG bonus pay-out is no excuse

Published: March 20 2009 20:22 | Last updated: March 20 2009 20:22

Politicians acting in haste rarely act wisely, least of all when guided by rage. In response to outrage over retention bonuses paid to employees of AIG – the failed insurer, now mostly owned by the government, which has received tens of billions in public support – the US House of Representatives rushed to pass a punitive tax aiming to claw the bonuses back. It would apply to all groups receiving help under the government’s financial stability plan, not just AIG. A similar measure is before the Senate.

The outcry over these bonuses is entirely understandable, though less than fully thought through. Understandable or otherwise, the response smacks more of banana republic than good government.

The country is furious at the idea of rewarding the very people, in AIG’s now notorious financial products arm, who helped sink both their company and the wider economy. Yet these bonuses were paid not as a reward for past performance, which would indeed be absurd, but to retain people deemed necessary to the unwinding of its mistakes. That reasoning offends against the principle of fairness, but if one is more interested in stabilising the economy than striking back at supposed culprits, it should not be dismissed out of hand.

In AIG’s case, the US government is now the de facto owner. As such it has rights and responsibilities, and it should attend more conscientiously to both. The Treasury should decide whether the bonuses are necessary to retain people essential to the success of its stabilisation plan. If they are, much as one may recoil at the idea, the bonuses should be paid: the cost pales in comparison to the vastly larger sums at stake. If not, the people who received them – those who have not already left, that is – should be told to return them or be fired. The government is within its rights as a new owner to set new terms for its employees.

The legislative blunderbuss about to be discharged by Congress, on the other hand, is likely to blow up in taxpayers’ faces. It forbids the case-by-case judgments on pay which are necessary to ensure that the stabilisation plan succeeds. And it expresses the tyrannical principle that Congress can use the tax code to void contracts that the executive branch has consented to, after the fact and with retrospective force. The measure is constitutionally dubious, as Congress well knows. All these considerations have been set aside for the purpose of venting the country’s anger. It is an abdication of responsibility.

Barack Obama, asked whether he approves of this law, has declined to answer. It would have been better if things had not come to this pass, he says. Quite so, and indeed there are lessons here about the conditions that must be attached to future assistance. But things have come to this pass – and the administration must resist this bad new law."

the majority owner of a public company (in this case, the government) can't just abrogate enforceable contracts.

TO BE NOTED: From the Economics Of Contempt:

"The Government and AIG

Josh Marshall unleashes a very strange rant against AIG:

The problem is what appears to be the president's mortifying impotence in the face of bankers and financiers who created the problem. The president speaks and acts for the federal government, which is to say, the American people, who have mobilized more than a trillion dollars and all powers of the state to repair the damage emerging out of the financial sector. And with all that, he's jacked up on a employment agreement between a company the government now owns and derivatives traders who sank the world economy and may quite likely be looking at criminal charges for their activities in the not too distant future?

Anyone can look at that and see that the equation of power and accountability is all screwed up.
...
[F]undamentally, Obama needs to start showing that he's in charge, that he's operating as the American people's advocate and that he has the power to do it -- which these stories of getting jacked up by some Gordon Gecko wannabes in London just terribly undermines.

What's shocking is that Marshall finds any of this shocking. The government is in control. When the government took an 80% stake in AIG last September, it fired then-CEO Robert Willumstad, and hand-picked Ed Liddy to be the new CEO. The president doesn't have time to run AIG, so the government essentially hired Liddy to do it instead.

Liddy is, for all practical purposes, acting as "the American people's advocate." When confronted with the bonus contracts, Liddy consulted outside counsel, who informed him that AIG was, in fact, contractually obligated to pay the bonuses. Liddy determined that refusing to pay the bonuses would ultimately cost the taxpayers more than simply paying the bonuses—which is undoubtedly true, seeing as failure to pay the bonuses would have triggered the "cross-default" provisions in AIG's derivatives contracts. As CEO, that's Liddy's decision to make. Marshall just doesn't like Liddy's decision.

Now, some might argue that the bonus contracts wouldn't be enforceable if AIG was in bankruptcy, and that the only reason AIG isn't in bankruptcy is because the government bailed them out at the last minute. That's true, but the fact of the matter is that AIG isn't in bankruptcy. Marshall and others might wish that AIG was in bankruptcy, but it isn't, and so the bonus contracts are enforceable. Marshall seems to be appalled that the majority owner of a public company (in this case, the government) can't just abrogate enforceable contracts.

TPM is one of my favorite sites on the internet, but its coverage of the AIG bonus controversy has been sub-par. TPM is way out of its depth on matters of finance, so they've allowed pure emotion to replace thoughtful analysis.

Posted by Economics of Contempt "

The AIG bonus kerfuffle is beyond absurd, but what else would you expect from a flawed bailout program with conflicted motives littering the landscape

From Information Arbitrage:

"Note to the Administration: The AIG Flap is Because of YOU

The AIG bonus kerfuffle is beyond absurd, but what else would you expect from a flawed bailout program with conflicted motives littering the landscape? Congress and the Treasury should be ashamed of themselves: they've committed hundreds of billions of taxpayer dollars yet work to undermine its value and efficacy, in real time. A casual observer from another planet looking at the recent flap would invariably say: short the US - or at least its legislators.

Consider a few observations:

• They (Congress, Treasury and the Administration(s)) entered into a bailout program with the stated (and reiterated) idea that sick institutions must be kept alive, e.g., preserving value for common stock and debt holders;
• They initially worked to minimize the Government ownership associated with bailout funds, hurting the US taxpayer's return on investment while ostensibly allowing the recipients free rein over how to deploy the funds;
• When it became clear that the capital injections were insufficient for the largest and most troubled institutions, more funds were committed on the same unstructured basis as before;
• When even these amounts were deemed inadequate, either more money was put in (AIG) or senior claims were converted to subordinate claims (Citigroup's investors' conversion of preferred shares into common stock);
• As ownership in bailed out instituions crept up, notwithstanding the earlier desire not to have the Government involved in the management of bailed out firms, Congress decided it was time to pass judgment on how the businesses were being run; and
• Now we have a Congress smelling blood (and a PR opportunity), passing odd and abusive legislation to convey their moral outrage (hypocracy, anyone?), while simultaneously damaging the US taxpayers' massive investment in the bailed out firms (and any firm either forced or desperate enough to take Government money).

President Obama, Congress and our friends at Treasury, you can't have it both ways. Either you are making investments and letting the private sector decide what to do with it or you are taking control and restructuring troubled businesses. By choosing a middle-of-the-road strategy, you have guaranteed failure. Troubled institutions are not getting fixed, and you have wasted US taxpayer money and damaged investor sentiment. All of this could have been avoided by supporting a Good Bank/Bad Bank initiative from the outset (one Government-controlled Bad Bank; many Good Banks). This would have enabled you to:

• Clearly segregate illiquid bad assets from the sound operating businesses, focusing US taxpayer dollars on bridging the liquidity gap for the Bad Bank while raising private capital for the Good Banks;
• Replace legacy managements and Boards of Directors to avoid the PR damage and ongoing concerns about the stewardship of restructured institutions;
• Hire a team to work out the Bad Bank over months and years, paying a small management fee and carry on the assets sold while staying out of the management and compensation policies of the privately-funded Good Banks;
• Avoid micro-managing private institutions with massive public ownership and driving the value of the public stakes into the ground.

I'm hoping it is abundantly clear that the Government's plan for handing sick institutions has been an unmitigated disaster. The primary argument against Good Bank/Bad Bank - the difficulty valuing the illiquid, bad assets - almost looks like a joke today. Yes, it would have been difficult. But yes, it could have been done. The collateral damage associated with the Administration's handling of AIG and Citigroup is only just beginning to be felt. What is now a public relations circus which makes for entertaining reading is anything but funny: it threatens the value of the bailout funds already deployed and has boxed the Government into a corner. Congratulations on showering your moral outrage on AIG; the fact that this issue could have arisen is simply indicative of your ongoing failure."

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Don the Libertarian Democrat 0 minutes ago 1 point

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This was bound to happen because it's a hybrid plan, in which the government and AIG have different interests and timetables. Let's remember the plan. It was to give AIG a bridge loan ( although we bought basically bought it, and it was more like a collateral loan ) which would allow AIG to keep going until the TAs appreciated, and to keep AIG from selling its Asian holdings and such. The problem is that keeping them going is costing more and more, and the appreciation of the TAs and holding out on a fire sale is looking more and more dubious.

The one place that I disagree with you is that AIGs not being able to raise capital could have caused a collateral run. To that extent, somebody was going to foot the bill to keep those CDSs from exploding. So, I believe that we should have done more or less what you said, but it still would have cost a lot of money. I think that the government has been reluctant to make that obvious.

Bleakly amusing Jon Stewart clip on the AIG hearing Wednesday:

From Paul Kedrosky:

"Congress Opens a Can of Dumb-Ass on AIG

By Paul Kedrosky · Friday, March 20, 2009 · ShareThis

Bleakly amusing Jon Stewart clip on the AIG hearing Wednesday:

The Daily Show With Jon Stewart	M - Th 11p / 10c
The Notorious AIG - Congress Wants to Blame Someone
comedycentral.com
Daily Show Full Episodes Important Things w/ Demetri Martin Political Humor

Me:

I'm begging you not to post anything where I have to listen to or watch a congressional hearing in the news. Seeing an elected representative mouth a prepared line about what AIG stands for almost made me rip my eyeballs out and pour molten lead into my ears. I'm going to watch Fawlty Towers all day now and sing Daisy, Daisy in a real slow cadence. I'm sure that I'll actually be humming Brazil before this is all over

There is backward-looking regulation; there is forward-looking regulation; and then there's just stupid regulation.

From News N Economics:

"Congress is being stupid again

Friday, March 20, 2009

There is backward-looking regulation; there is forward-looking regulation; and then there's just stupid regulation. From the NY Times:
The House overwhelmingly approved on Thursday a near total tax on bonuses paid this year to employees of the American International Group and other firms that have accepted large amounts of federal bailout funds, rattling Wall Street as lawmakers rushed to respond to populist anger.

Despite questions about the legality of the retroactive 90 percent levy, Democrats and some Republicans said the tax on bonuses for traders, executives and bankers earning more than $250,000 was the quickest way to show angry Americans that Congress intended to recoup the extra dollars. Even backers of the measure noted it was an extraordinary step.
...
The legislation would apply to bonuses paid to executives at companies holding at least $5 billion in bailout money and would essentially wipe out the phenomenal paydays that have been a tradition on Wall Street, at least until the firms reduce the amount they owe taxpayers to less than $5 billion.
At this point, I wonder what the Congressional members are trying to accomplish? To get re-elected? It certainly seems so. I can only imagine that this silly back and forth about bonuses is going to throw a wedge into other government plans to actually fix the banking system. This is so counterproductive; it's not going to pass; it can't.

Take a close look at both the firms that would be subject to the tax and those that wouldn't:

This data can be found on the Treasury's website, however, the NY Times lists total TARP appropriations, and the WSJ lists the initial recipients of TARP capital injections. All of the companies below the bold black line will not face the 90% tax on bonus payments.

Notice that the table (above) lists TARP monies received by banks, insurers, auto companies, and non-banking financial firms. And look at the list on the margin. Below the $5 billion mark are several sketchy deals, including the sum $5.5 billion aid to Chrysler and Chrysler Financial, the $2.3 billion to CIT Group, who only recently became a bank-holding company (i.e., regulated) in order to get TARP funds and was the centerfold for the securitization industry. Fannie Mae is paying bonuses, but are they on Congress' radar?

Congress is playing with fire here. The government Financial Stability Plan cannot work if the private sector is worried about the political ramifications of participating, or worse, that the government will amend the terms of any agreement six months later - and the private sector must be involved to make the deal big enough. For example, the WSJ argues that TALF is off to a slow start - the first round of TALF loan requests was $4.7 billion - in part because of the rage over the AIG bonus:

One reason for the slow start: the outcry over bonuses paid by American International Group Inc., the troubled insurer that received federal bailout money. Some investors are concerned that they too could be exposed to a political storm should they make too much money from the taxpayer-funded program.
Even if this is just for show, which I imagine that it is, it is highly counterproductive.

Rebecca Wilder

Posted by Rebecca Wilder

Me:

Don said...

Excellent post. Oddly, I see the job of elected representatives as calming anger and working towards solutions. This was simply an organized contest of expressing anger and shock. I love how these hearings are always way behind the curve and oblivious to the real problems staring them in the face. Far easier to express emotions than analyze and argue for solutions. This retroactive plan is beyond belief.

Don the libertarian Democrat

March 20, 2009 10:54 AM

In that case, jabbering on about the AIG bonuses may be the perfect activity to keep them busy.

TO BE NOTED: From Greg Mankiw:

"Trivial Pursuit

The AIG bonuses now being debated in Congress and everywhere else represent about .001 percent of annual GDP. If a typical Congressman spent that fraction of a 2000 hour work year on the topic, it would consume only about 1 minute of his or her time.

Yes, I know, that calculation is silly in many ways, but here is my point: Regardless of how outraged you are about the AIG bonuses, it is probably not an optimal allocation of resources for our elected leaders to spend large amounts of time and energy on the topic. The economy has bigger problems right now, and it would be better to focus attention on those.

Unless, of course, you think that our elected leaders are more likely to make things worse than better. In that case, jabbering on about the AIG bonuses may be the perfect activity to keep them busy.

---

Updates from my readers: As evidence for my last conjecture, a reader recommends a research study that finds:

Stock returns are lower and volatility is higher when Congress is in session. This "Congressional Effect" can be quite large -- more than 90% of the capital gains over the life of the DJIA have come on days when Congress is out of session.

Another reader remarks that "the 'Congressional Effect' is merely a modern, attenuated version of John Randolph of Roanoke's famous observation that 'No man's life, liberty or property are safe whilst the legislature is in session.'"

This second reader also offers a good observation about how our leaders prioritize their efforts:

The phenomenon you describe in this post was identified by Norman Augustine in his book ("Augustine's Laws") as "inversion": the tendency for managers to spend disproportionate amounts of time and energy on the inconsequential. He attributed this behavior to the (in)ability of most managers to comprehend the larger issues. As an example, he described a board meeting in which it was proposed to spend several millions to build a large power plant (this was back in the 1960s), a proposal quickly and uncontroversially approved. The same group then spent a much longer time, with much more vigorous debate, on the proposed expenditure of a fraction of this sum on an ancillary building to house a maintenance facility. Augustine surmised this was because (1) no one had the slightest clue as to how much a power plant should cost, but (2) everyone had an idea of how much a tool shed should cost.

(A third reader claims the correct citation is Parkinson's Law of Triviality.)

Yes, indeed, that sounds like what is going on in the Washington right now. Our nation's leaders are focused on the tool shed.

permanent link "

It's hardball, but it might well be effective.

From Felix Salmon:

"How to Not Pay the AIG Bonuses

Barack Obama is a lawyer -- and a very good one, too, by all accounts. Andrew Cuomo, too, is a lawyer, and is attorney general of New York. And neither of them seem remotely impressed by AIG's protestations that it's contractually obliged to pay out $165 million in bonuses to members of the very financial products group which brought the company to its knees.

Is there a legal way to stop these payments being made? I don't know. Cuomo's attempt to paint the bonuses as "fraudulent conveyance" seems like a bit of a stretch, while a legislation trying to retroactively claw the bonuses back would easily pass Congress, only to face certain appeal on the grounds of being unconstitutional.

But right now, even Cuomo hasn't seen the contracts which AIG is convinced are so ironclad. And it might just be the case that AIG's contractual obligation to make the bonus payments is a bit like an underwater homeowner's contractual obligation to make his mortgage payments. If AIG simply didn't pay the bonuses, would the employees of the financial products arm really fancy their chances in court were they to sue to receive them?

It's possible that they would "win" such a court case -- if by winning you mean having your picture splashed across every TV screen in the land as an exemplar of out-of-control greed and avarice. Which is why AIG could probably have quite a persuasive conversation with the AIGFP employees, along these lines:

"We know we promised you this money, but it's clearly politically impossible for us to pay it to you. So you're not getting the bonus you were counting on. Sorry about that. At this point, you have three choices. You can continue to work for us, and keep your job. You can quit, and find a better-paying job elsewhere. Or you can quit, and sue us for the bonus that we promised you. Your call. But if you choose the third option, you'll probably want to hire a PR person at the same time as you hire a lawyer."

I suspect that most of the affected employees would not sue AIG, and that the bonus payments would therefore be saved. It's hardball, but it might well be effective."

Me:

Pay the bonuses and move on for God's sake, unless they're illegal. The first round went to the Investor Class. Get over it. While people are focusing on this, Liddy is probably doing the Moon Walk around the office laughing on how we're focusing on the $165 million. They're contracts. Honor them. Period.

What's the big story? How the hell do I know. But I'm sure that AIG's been backing us into a deeper corner while these bonuses are the issue.

As for the bonuses, I don't know about you, but, if I felt I deserved one, I'd want it. I wouldn't care what anybody else thought about me. They'd be wrong.

By DonthelibertarianDemocrat Posted: Mar 16 2009 5:26pm ET

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