Cost of Insuring Financial Markets in Taxpayers’ Name

A hearing Wednesday conducted by the TARP oversight committee provided some quite tense moments as Chairperson Elizabeth Warren had a contretemps with Treasury Department Restructuring Officer Jim Millstein about the effects of bailing out malpractice by financial operatives. [See hearings video at 359ff.]

While Dr. Warren saw that by using the value of a bailout to reassure investors that there would be no losses as a sell-out of taxpayers’ interests, Millstein insisted that because losses are being recouped that the effect was ultimately good. The scene they admitted they had not attended, but were reviewing by its effects, was the meeting of the potential purchasers, now owners, of majority interest in AIG – when its debts were assumed, with the assurance that they would continue to profit. That the government assumed the burden of those debts is postulated, though no one has actually divulged that that occurred.

The future effects of insuring that the taxpayer will make good on debts they create when the mogul hordes violate all standards of sound investing offends and scares Dr. Warren. I join with her in thinking that relieving the gamblers of any burden for their losses is very bad for the financial future of the country. Proposals for strengthening regulation are once again under attack by the corporate welfare crowd, an ominous sign for future responsible behavior by financial interests.

Warren takes AIG to task for its blatant disregard for sound practices. “The company was a corporate Frankenstein, a conglomeration of banking and insurance and investment interests that defied regulatory oversight,” she says in her prepared remarks.

But she hits even harder at AIG’s regulators and the government’s extraordinary intervention. “[AIG’s] complexity, its systemic significance, and the fragile state of the economy may all arguably have been reasons for unique treatment. But no matter the justification, the fact remains that AIG’s rescue broke all the rules, and each rule that was broken poses a question that must be answered,” she argues.

AIG’s regulators and regulations failed the American taxpayer, Warren says. And thankfully, the House and Senate reform bills create a much better process for monitoring systemically important firms and winding them down if they falter — a process designed precisely as a response to the wildly expensive and unruly bailouts of companies like AIG.

At the moment, as Treasury’s Millstein assures us, the economy is gaining back the strength it lost when AIG above all others invented ways of endangering our financial health by extending credit for losses it could not cover. When the extent of the risk was realized, the world economy contracted in more than simple fear. It had discovered the risks it had incurred by investing in ‘toxic assets’ that were based on contracts which were impossible for the debtors ever to meet.

The bailout is a promise that even though their contracts were invalid, the financial manipulators who made them can pass on the cost to the taxpayer. If that is not contradicted by the imposition of real regulators using strong regulatory legislation, the lesson is learned. Laws are meant to be broken.

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