Parallel Bankers

AIG is arguing that its people are uniquely qualified to clean up the mess they made and therefore need big retention payments. 

Of course, there are many things that are different and complex about this crisis in general and credit default swaps in particular.  But in every crisis I’ve ever seen, the (banking/corporate/government) insiders responsible for major problems always want to stay on – arguing that they have unique skills and can sort things out better than anyone else.  Countless times around the world I’ve heard some version of, “it’s very complex, no one else can figure it out, and you’ll lose a lot more money unless you keep us on.”

Yet, whenever possible, it’s better to clean house and bring in new talent at all levels to wind down bad business and more generally clean up/recapitalize/reprivatize the financial sector.

In the New York Times print edition (p.A25) this morning and online, James and I elaborate on why this is – drawing particular parallels with the Asian crisis of the late 1990s.

By Simon Johnson

30 thoughts on “Parallel Bankers

  1. The whole effort to protect and retain the individuals who made the terrible decisions that contributed to the financial crisis of 2008 is bizarre to me. Why on earth would you want to keep someone at the controls after they have conclusively demonstrated they have the worst possible judgment? We now know for a fact all of these people are wildly dangerous. To me the only sane thing to do is drive out all the top management at all the financial firms who needed bailout money and replace them with people who had nothing to do with causing the crisis.

  2. Even if it is technically on paper (hypothetically speaking) a way to lose more money, I think it is a key step to regain confidence in the market. I’d rather risk losing more money and actually end up fixing and returning confidence in the system than to limp along with all of this systemic fear.

  3. Simon:

    Do your remarks extend to Sheila Bair, the sainted one? I hear she just closed the Indy Mac deal for ONLY a $10+ Billion loss for the taxpayers. Sweet. I bet she’s essential to this whole war effort!


  4. As i noted in a chat on the WaPo web site yesterday, I find it ludicris tha AIG’s largest shareholder (the U.S. Government) is not doing what large shareholders normally do on corporate boards – dictating the therms of compensation. Unless, of course, what I was taught about how private enterprise works was a lie . . . .

  5. Before we assume that the government would save money by firing these folks, shouldn’t we look at the house that AIG built. According to the whitepaper that AIG filed with the government, if AIGFP employees don’t get paid then AIGFP’s counterpartys can force AIG to close contracts leading to billions in losses. Here’s summary from one site:

    This seems to beg a few questions:
    1) did AIG poison pill the company so effectively that now the US government is over a barrel? What’s the name for management that robs shareholders to ensure management gets paid? It’s not robber-barron, but it seems like a useful word whatever it is.

    2) what is the analysis of bankruptcy for a multinational corporation such as AIG? The whitepaper mentions the French government seizing Banque AIG, the French arm of AIGFP.

  6. re the NYT piece: “…This generated a great deal of political noise… as when the Carlyle Group bought a stake in KorAm Bank in 2000 and Lone Star Funds purchased the Korea Exchange Bank in 2003. But these reforms made all the difference…”

    as private equity seems to be part of your solution, and if PE “is one of the greatest exports of the United States”, how is it possible that the current mess occurred in the first place?

    May 06/08 – “…You have said the PE industry is in its “purgatory phase.” How do you suggest the industry atone for its sins?” Rubenstein: “…nobody ever asked me when I was raising money all around the world, “How many jobs have you created? How many factories have you built? What’s the quality of care that you’re giving to workers in your companies? How many charitable contributions are you making? And what kind of taxes are you paying?” We didn’t really have that information. Our whole industry didn’t really have it… the private equity industry will spend… much more time explaining to people how we create value, why we deserve to get compensated the way we get compensated”

    “…In a 2006 Forbes magazine article titled, “Private Inequity,” the authors wrote that buyout executives “don’t make their fortunes by discovering new drugs, writing software, or creating retail chains; they make their money by trading existing assets…” Rubenstein: “… private equity is one of the greatest exports of the United States… Sovereign wealth funds have purchased substantial equity stakes in several alternative asset managers over the last few years… They are among the private equity industry’s largest individual investors and they manage enormous amounts of money…”

    Oct. 28/08 — “Stephen Schwarzman, chairman of Blackstone Group LP, said private-equity firms that buy companies during the credit crisis may see “phenomenal” profits… “In periods like this, people get scared out of their minds… This kind of environment is tailor-made for making absolute fortunes in the private-equity business… This is a wonderful time to be an investor. In almost every asset class because of this dislocation, you can make phenomenal returns with very little risk…”

  7. The case for allowing the AIG payments and for not taxing them is not really about whether these people are the right ones to sort out the crisis. They’re almost certainly not, because they don’t want to admit what a mess they made.
    The real case is that the agreement was made much earlier, when AIG thought or said it thought that these were the right people. On the basis of that, at a time when it was not clear to them that the whole financial industry was heading to meltdown, they decided to make a firm and binding promise to the staff in order to get them to stay.
    That was a stupid thing to do, but they did it. It was a stupid thing to sign all the contracts with Goldman Sachs. That didn’t mean that AIG was allowed to walk away from them.
    I know it stretches the language to describe these particular employees as members of the proletariat, but it is striking and depressing that the only contracts anyone suggests should be reneged on are with employees. And it’s depressing that the Obama Administration has outsourced economic policy to such an uncritical fan of Wall Street as Mr. Geithner. But that’s a separate point.

  8. So explain to me who are the “insiders responsible for major problems always want to stay on…”. From everything I have read and including what Mr. Liddy testified to the people staying on had nothing to do with the part of the FP business that brought down AIG.

    Maybe you should check your facts before slandering people that are actually trying to fix the problem.

    It seems to me this blog has reduced itself to nothing more then a vehicle for Johnson’s and Kwak’s self promotion.

  9. Stepping back from the AIG specific situation, the bonus issues highlights the potential of a larger, endemic problem – namely compensation structure.

    For years, we have seen a steady move towards short-term payoffs that allow the individual to carry personal financial success easily from job to job. This includes lower marginal rates for the highest wage earners, for bonus compensaion through short-term performance (cash bonuses or stock grants vesting in only a few years), and for tax policies favoring individual retirement accounts over pensions.

    That has been great for the individual, especially at the top – just look at the ratios of CEO pay to the average worker. However, is it great for the corporation? or the collective society? In the AIG case, either the AIGFP managers were incompetent – or more likely – the AIGFP managers had little leverage over the short run. Equally, the AIGFP employees had little to lose in leaving AIGFP once things went south.

    This relationship isn’t unique to AIGFP though, and all workers at every salary level wants just this sort of pay arrangement – heads I win, tails the company loses. Politically, it is easy to see how this system was created; hard to see how it unwinds. Still, is it viable for the long run?

  10. Clusterstock thinks in some cases it’s not even the so-called ‘talent’ that is being rewarded:

    If the senior mgmt in AIGFP France quit, the French regulator would appoint its own designee to step in and manage Banque AIG.

    So the bonus is not because the individuals are talented, because if they quit, the company would lose control of subsidiary. You could have a monkey in that position and AIG would still pay them millions! How do I get a job paying me millions in bonuses just to sit there?

    After all these ridiculous contracts, weird designations, one wonders how the heck AIG had a AAA rating as a company. Does this sound like a well-managed company to anyone?

  11. If we are going to leave AIG in private hands, then we have to accept they are going to run it as best they can. I would imagine it would be pretty hard to find somebody competent to take a job at AIG today- would you? I would not. Would your spouse or you kids let you? My advise to Mr. Liddy is to mail the keys back to the board (or Barney Frank) and wish them the best of luck.

    If you don’t like the way the management is running a private company then vote out the board or sell the shares. But we can’t do that with AIG- so take it through bankruptcy and get on with life.

    What we have now is the worst of both worlds.

  12. “…the people staying on had nothing to do with the part of the FP business that brought down AIG”?

    In that case they have no special knowledge that equips them, better than anyone else, to fix the mess.

    AIG’s proposal looks hollow.

  13. These are the smartest people in the room. If you give them an excuse to leave AIGFP, they will likely take it. The concern I have is what they will do on the outside, i.e. can they take their knowledge and skill sets, and turn it against AIG (READ US TAXPAYERS).

  14. Unpalatable as it may be, doesn’t the notion of paying the retention bonuses and taxing them disarm these default triggers (that you have so helpfully flagged up)?

  15. The real issue with retaining the people who cause the crisis at AIG is not that they lack the expertise. I would even argue that have some knowledge about how the knots are tied to be uniquely qualified to unravel them. The problem lies in the fact that they have a vested interest in keeping hidden the improper risks and mistakes they may have taken in the past. Why not let Bernard Madoff do his best to repair the damage caused by his ponzi scheme? Folloing this same logic, Societe General should have let Jerome Kerviel unravel currency trades to reduce their potential losses.

    Granted, the SocGen and Madoff examples of illegal activity but what is the difference between the losses caused by Mr Kerviel different than those caused by the experts at AIG FP? The only difference I can see is that Mr Kerviel intentionally violated SocGen risk controls, however ineffective they actually were. And if the folks at AIG FP knew they were exploiting a regulatorly loophole to run a hedge fund out of an insurance company (as Bernanke has said) then shouldn’t they be subject to prosecution in the same way that Kerviel was?

    But if the foxes are entrusted to repair the chicken coop, what accountability will we have? Instead of arguing over bonus or no bonus for these folks, shouldn’t we be talking about prosecution or no prosecution?

  16. Reprinted in my morning paper, from the Washington Post:

    Key points:
    – the employees in question would have jumped ship last year without these bonuses being promised.
    – the people who opened the CDS can of worms are long gone.
    – so is the CDS book of business.
    – if these bonusees are going to be slandered and threatened, they will leave en masse – and then who will run off AIG’s book ? It would be as MEAT for the remorseless trading community, which can smell blood in the water.
    – their individual knowledge of the vulnerabilities of AIG’s book will be most welcome elsewhere.

    Not in the article, but my two cent’s… C’mom, Congress, can’t you pay attention to the real issues here ? 165 million, is chicken feed – you can’t even get elected President with that kinda chump change. Poitical theater is often (as here) bad policy.

  17. “For years we have seen a steady move towards short-term payoffs…”

    Yes…a symptom of the same trend that saw the brightest minds of a generation take degrees in finance and head straight to Wall St. They added no value. Instead they bent their genius to perfecting the personal profit machine to which you refer.

    One hopes that this is cyclical.

    Today the river of profit has evaporated. Work at major financial institutions now involves containing loss, unwinding messes and answering to regulators. In this environment employment contracts that are front-end loaded yield little and so serve no purpose.

    Furthermore, one hopes a different type of individual will take up the work, one who will accept a fair salary and the more traditional promise that if something of value is created over a period of time there will be a decent reward.

    Finally, one hopes that bright kids going forward will forego “black box” math and return to studies in medicine, science or foreign affairs.

    (If we move too quickly to shore up the system that brought us so much grief this, of course, won’t happen.)

  18. If 400 people could save or kill the world economy, shouldn’t we do more than just pay them a lot of money? It sounds like if something happened to any one of these guys, the whole thing could fall apart. Yet any one of them could get sick, or somehow be unable to continue their job. Does AIG have any plans for replacing personnel who cannot continue to do their job? If not, shouldn’t the government, as majority shareholder demand replacement employees get trained, and maybe spread around the country in case of some disaster?

  19. Sheila Bair is one of the good bankers!

    You can listen to her testimony and gleen that she is fully aware that what has occurred has been WRONG, but she has to be careful how she speaks for the fact that she is in the middle of BANKSTERS!!!

  20. CEO Liddy was put there by the Govt so its man is at the top.
    A shareholder can’t ask for more than that without micromanaging.

  21. Even if AIG have to pay the bonuses they should probably get rid of the people who caused the mess. That’s obviously sensible. You want someone with fresh eyes and no investment in pretending that what went before was sensible.
    Which makes the decision to keep Tim Geithner in a central position all the more extraordinary.

  22. What the US and Canada dearly need is to develop, au plus tot, a fox guarding henhouse prohibition at every possible level, starting with AIG. Dump the foxes and replace with people armed with commonsense and financial savvy to recognize the overall hoax and all the micro-hoaxes as well, under the financial and monetary headings and across and down our institutions and so-called self regulating orgs.That would keep investigators and legislators sustainably employed.

  23. Matthew Iglesis as right: Dump thee foxes and replace with people armed with commonsense and financial savvy.

  24. It seems quite obvious to me that people that behaved incompetently/dishonorably in the past and have shown no remorse are likely to do it again, given the opportunity.

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