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Dig Deeper


Tim Geithner

Federal Reserve Bank of New York and United States Treasury Department
Bachelors – Dartmouth; Masters – Johns Hopkins

Based on how he acted before, during and after the crisis Tim Geithner would appear to have a split personality.  While President of the New York Fed – his term lasted from November 2003 through January 2009 - Tim Geithner basically served as the Caspar Milquetoast of the financial crisis.  In particular, he completely shirked his considerable responsibilities as President of the Federal Reserve Bank of New York and all sorts of speculative excess took place on Wall Street as a result.                      

However, after the crisis, Geithner regained his resolve and acted with the same level of petulance as the proverbial spoiled child who gets caught with their hands in the cookie jar.  Instead of owning up to his obvious mistakes and enormous failings at the NY Fed, Geithner in 2009 - now as President Obama’s nominee to be Treasury Secretary – simply ignored the present circumstances to advance a completely nonsensical argument.  In particular, Geithner – in testimony to Congress no less – stated he was completely blameless for what happened on Wall Street in the years leading up to the crisis! The reason being - Geithner claimed that as President of the NY Fed he didn’t have any regulatory or supervisory responsibilities regarding Wall Street.                        

Geithner’s testimony to Congress on the NY Fed’s non-existent responsibilities for what transpires on Wall Street is completely contradicted by real world experience.  The president of the NY Fed has always had a very important role in the Federal Reserve System.  In fact, in the years leading up to the Great Depression, Ben Strong basically ran the entire Federal Reserve System with an iron fist while perched high atop the NY Fed.  It was in his capacity as governor of the NY Fed that Strong played such an enormous role in causing the stock market crash and subsequent Great Depression.  Today, the head of the NY Fed, now given the title president, also serves as vice-chair of the Fed’s Open Market Committee (FOMC).  In this capacity, the president of the NY Fed is a key voice in setting interest rate policy.                          

In addition, and according to no less an authority on the Fed than Ben Bernanke (#3), the NY Fed president also has an important role in “banking supervision” because many of the nation’s largest banks are headquartered in New York.  The NY Fed itself elaborates on this supervisory role and its attendant regulatory responsibilities,          

“…the Supervision Group of the Federal Reserve Bank of New York supervises the financial institutions that are subject to the Board’s supervision and are located in the Second Federal Reserve District….the objectives of supervision are to evaluate, and to promote, the overall safety and soundness of the supervised institutions, the stability of the financial system of the United States and compliance with relevant laws and regulations.”  (Emphasis on regulations added)                      

However, the best understanding of the enormous practical importance the NY Fed has to what transpires on Wall Street is not found on the NY Fed’s website or Ben Strong’s enormous blunders from the 1920s.  Instead, this enormous practical importance – and Tim Geithner’s equally enormous failure to exercise his critical supervisory and regulatory role in the years before the crisis – is best reflected in the post-crisis memoirs of both Ben Bernanke and Henry Paulson (#38).  On January 21, 2008 – the day the FOMC took the extremely rare action of cutting interest rates between regularly scheduled meetings - Bernanke recalled Tim Geithner “checking in with his market contacts.”   Later, Bernanke describes Geithner as the “Fed’s eyes and ears on Wall Street.”   As an example of how Geithner serves as the “eyes and ears of the Fed,” in his memoir, On the Brink, Paulson recalls Geithner briefing him in September 2008 that Lehman Brothers needed to borrow $230-billion overnight in the “repo” market.

Amazingly, in spite of both the fact that the NY Fed gives itself a clear supervisory role - the objective of which is “the stability of the financial system in the United States” - and the post-crisis recollections of Bernanke and Paulson, Geithner completely disavowed any supervisory or regulatory responsibilities while president of the NY Fed.  On March 26, 2009 and during the hearings that were held after President Obama nominated Geithner to be Treasury secretary, Geithner claimed, “First of all, I’ve never been a regulator…I’m not a regulator.”

As Bill Clinton (#12) famously demonstrated when he conditioned an answer to a question with the preface of, “it depends on what the meaning of the word ‘is’ is,” attempting to parse words like “responsibility” with people like Tim Geithner is an exercise in total futility.  Individuals like Tim Geithner - who have been conditioned by their educational and occupational experiences to never admit a mistake - will rarely, if ever, subject themselves to anything even remotely resembling humble introspection.  Any attempt to make the Tim Geithner’s of the world soberly and honestly reflect on their actions - or inactions – is doomed to ignominious failure.  Instead, the much better course of action is to simply lay out the facts of a particular situation and let these facts speak for themselves.  Fair-minded people will then be able to draw their own conclusions.  From a purely practical standpoint, who really cares what Tim Geithner thinks anyway?                          

Tim Geithner’s total and complete abdication of the supervisory responsibilities he had as president of the NY Fed can easily be seen by a cursory review of AIG and their disastrous trade in credit default swaps (CDS) related to mortgages.  Additionally, a review of AIGs trade in CDS will prove why labelling Geithner the Caspar Milquetoast of the financial crisis is completely justified.  In their CDS trade, AIG essentially issued “insurance” against mortgage bonds losing money.  Mortgage bonds are a collection of perhaps thousands of individual mortgages, with the price of the mortgage bond determined by the present value of the combined mortgage payments each month.  Unlike a motorist purchasing insurance for their automobile, the typical purchaser of a mortgage bond “insurance” policy was rarely the same entity that had purchased the mortgage bond.  Instead, the entity – a hedge fund for example – would purchase mortgage bond insurance because they were convinced the mortgage bond would suffer losses.  For perhaps $20-30-million in premium payments each year, a potential windfall of $1-billion could be earned from the “insurance” if the mortgage bond collapsed.  For this reason, the purchasers of mortgage bond insurance can be accurately likened to people who were betting on the mortgage bond to collapse.  AIG and other issuers of “insurance” simply took the opposite side of the bet.                        

The mortgage bond “insurance” that AIG issued did not resemble a conventional insurance policy, the likes of which any homeowner or auto owner would be familiar with.  Instead, the insurance was issued in the form of a complicated financial derivative called a “credit default swap.”  All the complicated – albeit practically useless – mathematics latent in the creation of the derivatives that AIG essentially bet on notwithstanding, what AIG did is very simple to understand.  In fact, AIG basically made the same mistake as the mafia bookmakers in the movie “Any Which Way You Can,” the second of the two Clint Eastwood orangutan movies.   

In the movie, the mafia backed a bare-knuckle fighter named Jack Wilson and Wilson justified the mafia’s confidence by wreaking a path of destruction in fights the mafia organized.  Over time, the mafia earned tremendous amounts of money by not only organizing Wilson’s fights but betting on the outcome.  However, Wilson was so dominant that people stopped betting on his fights.  In fact, there was only one other brawler who was even given a chance to beat Wilson in a fight – Clint Eastwood’s character, Philo Beddoe.  The fight between Wilson and Beddoe was arranged.  However, because of Wilson’s fearsome reputation, he was established as a heavy favorite.                        

As a result of being such a heavy favorite, a large wager on Wilson to win – say $10,000 – might only pay $1,000 if Wilson did win.  Nevertheless, the mafia saw very little downside to betting on Wilson, even though they were risking far more than they could ever hope to win.  In fact, so confident was the mafia in Wilson winning the fight, they took on far more bets than they could hope to cover if Wilson lost.  Of course, in the movie, Clint Eastwood won the fight and the mafia lost their bets (and thus incurred the enduring wrath of the Black Widows motorcycle gang).  AIG’s mistake in regard to its CDS or mortgage bond insurance business was identical to the mafia’s mistake in Any Which Way You Can.  AIG risked far more than it could ever earn, and took on far more bets on the housing market staying strong than it could ever hope to cover if the housing market weakened.                        

AIG dominated the market for mortgage bond insurance.  AIG offered mortgage bond insurance to any and all takers, up and down Wall Street.  AIG had almost $50-billion in exposure to mortgage losses by issuing credit default swaps to just a handful of the world’s biggest banks including Société General, Goldman Sachs, Deutsche Bank, Merrill Lynch and UBS.  By virtue of its interconnectedness with the largest Wall Street banks and the sheer size of this interconnectedness - $50-billion is a lot of money even on Wall Street – it is almost inconceivable that the NY Fed would be virtually completely ignorant of what AIG was up to as the housing bubble was inflating.  Yet, completely ignorant is what the NY Fed of Tim Geithner was.                        

When the housing bubble collapsed, the mortgage bond losses that AIG was obligated to cover soared.  (It is important to note, that the collapse of the housing bubble only required housing prices to stop rising.  It was only after the collapse of the housing market metastasized into a wider financial crisis that home prices began to fall.)  Because of AIG’s interconnectedness and the tens of billions it owed to other banks, a failure of AIG was considered a much bigger crisis than the collapse of Lehman Brothers.  Ben Bernanke recalled briefing President Bush on the implications of an AIG collapse and cited the fact that AIG had over $1-trillion in assets and was 50% bigger than Lehman.  In September 2008, Henry Paulson believed, “If we don’t shore up AIG, we will likely lose several more financial institutions; Morgan Stanley for one.” 

Quoting Bernanke and Paulson on the importance of AIG is not an endorsement of the subsequent bailout of AIG.  Instead, the fact that Geithner, the president of the Federal Reserve Bank of New York, could be so colossally ignorant of AIG’s condition before the financial crisis speaks volumes on the comprehensive incompetence Geithner brought to the NY Fed.  Geithner’s incompetence aside – and reflecting the beliefs of Bernanke and Paulson – the Federal Reserve provided an $85-billion bailout to AIG on September 16, 2008 – one day after the collapse of Lehman Brothers.                        

As the weeks wore on after the AIG bailout and the financial crisis continued to mount, the bailout was still largely unsettled.  Not unlike what occurs in even much smaller bailouts or bankruptcy proceedings, little progress had been made in negotiations between an overly indebted business, AIG in this case, and its many creditors.  There is never enough money to satisfy all creditors, and each creditor insists they get paid back first.  During the week of November 03, 2008 Tim Geithner took over negotiations on behalf of AIG in their effort to negotiate terms with their mortgage bond insurance counterparties.  These counterparties were the large banks that had purchased mortgage bond insurance from AIG.  In cases such as the one facing AIG - where creditors are negotiating with a soon to be bankrupt company - creditors typically resign themselves to collecting only a fraction of the money owed to them.  For example, when Washington Mutual collapsed in September 2008 – which remains the largest bank failure in US history - creditors were only paid 55-cents on the dollar. After Lehman Brothers collapsed their creditors were only paid 11-cents on the dollar.                      

On November 05, two days after Tim Geithner took over the AIG negotiations, Henry Paulson was already briefing President Bush on the revised terms of the AIG bailout. Rather than negotiating some sort of haircut for these creditors – Geithner folded - like origami.  Included in the final version of the AIG bailout was the condition negotiated by Geithner – “surrendered” is a much better term - that AIG’s credit default swap counterparties would be paid in full, or at “par” for their wining bets against the housing market.  According to the report looking into the entire sordid affair, the counterparties made whole by Geithner’s complete cowardice and incompetence includes many of the world’s largest banks.  The volume of money Geithner funneled to these huge banks via AIG’s rotting corpse breaks out as follows;                         

  • Société General ($16.5-billion) 
  • Goldman Sachs ($14-billion)
  •  Deutsche Bank ($8.5-billion) 
  • Merrill Lynch ($6.2-billion)   
  • UBS ($3.8-billion).

Geithner was at least smart enough to realize the political implications of rolling over the way he did.  He insisted that the AIG bailout terms he negotiated with some of the world’s biggest banks remain secret.  The negotiations themselves were also made in total secrecy.  (In March 2009, a Freedom of Information Act request finally forced the Fed to admit what it did.)  

In order to place Geithner’s fecklessness in its proper context it is critical to understand the AIG bailout had nothing to do with AIG.  In fact, all the political hot air spent castigating AIG is little more than a transparent attempt to obscure the easily observable fact that a huge part of the AIG bailout was nothing more than an elaborate – and secret - scheme to put money in the pockets of the world’s biggest banks.  The AIG bailout had everything to do with making sure these enormous banks got paid for their winning bets on the collapse of mortgage bonds and the housing market.  The AIG bailout required a completely feckless, weak and incompetent person at the Fed to give these enormous banks exactly what they wanted.  That person was the Fed’s “eyes and ears on Wall Street,” Tim Geithner – the Caspar Milquetoast of the financial crisis. 

Additional Information:                      

For another example of Wall Street’s purported regulator, the Federal Reserve Bank of New York, folding in the face of Wall Street malfeasance see Thomas Baxter (#2).  See Lloyd Blankfein (#4) for more information on how some of the largest Wall Street banks may have created mortgage bonds that were virtually guaranteed to fail.  For more information on AIG see Joseph Cassano (#9) and Martin Sullivan (#44).  See Steve Friedman (#22) for a former Goldman Sachs CEO and member of the NY Fed capitalizing on Geithner’s cowardice.  For more information on AIG’s trade in credit default swaps see Gary Gorton (#27).  See Alan Greenspan (#29) for more information on Ben Strong’s disastrous policy initiatives of the 1920s.