AIG credit default swaps--who is looking out for whom?

Naked Capitalism's guest poster, Tyler Durden, has an interesting short blurb on AIG's unwind of its credit default swaps (CDS), at "AIG CDS Unwind Goes From Waterfall to a Trickle," May 13, 2009.

Why is this interesting?  AIG unwound a trillion or so of its swaps portfolio in an extraordinarily short time, resulting in huge cash drains from AIG that were paid for by good ole American taxpayer money.  That money drained straight from AIG over to the big investment banks that were mostly AIG's counterparties on those swaps.  So when we bailed out AIG, we were really bailing out big investment banks.  Many of the same banks were getting TARP funds directly, and likely some of those same financial institution counterparties (like UBS) were helping wealthy American taxpayers hide their assets offshore to avoid paying US taxes.   Great deal for the investment banks, but not such a good deal for US taxpayers (socializing losses, privatizing gains).

I'm glad Andrew Cuomo is proving a dogged investigator.  That is something on the ordinary taxpayer's side.  And I am glad that Washington is finally switching gears, with the Obama administration's request to Congress on Wednesday for legislation that would permit federal oversight of exotic derivatives like CDS, legislation that would undo the catastrophic December surprise of 2000, when Phil Gramm pushed through the "no regulation legislation" for CDS.  The proposal is for standard swaps and other derivatives to be exchange traded and reserved for, making the "shadow banking system" come out of some of the shadows.  Customized swaps would not be traded on exchanges, but they will need to be open and transparent nonetheless.  See Labaton and Calmes, Obama Pushes Broad rules for Oversight of Derivatives, NY Times, May 13, 2009.  This is a good move, since derivatives are risky and speculative and also very useful in engineering some kinds of tax deals.  Now if Congress can just resist the overtures of ISDA and the other securities lobbies to make this repeal of the Gramm Christmas surprise happen....And then move on to put the rest of the shadow banking system under the glass, by regulating hedge and private equity funds.

Comments

[Raza]

well said, Linda.

[gfnng]

China’s Stimulus Restores Confidence, Shows Recovery (Update1)
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four, which details the main proponent arguments.)

Regardless, the "Yada Yada" Troglodyte Right has gone ballistic calling either tax "costly", as if doing nothing were not "costly". The American Heritage site proof positive of this claim. They just don't know how to do the numbers in the calculation of a Cost-Benefit trade-off.

We'll see how they feel about cost, especially in remier Wen Jiabao said.

“China’s rapid

The stock market keeps going higher

dow 14000 soon according to experts

http://iamned.com/blog/

[moneymouth77]

With deflation reaching an all time record in the UK, one can only hope that these giants will cough up and help reinvigorate the global financial climate. Great article!

http://tinyurl.com/r7plg8

[DFMahey]

A clearing house for the CDS market...hmm It's about 10 years too late but its better late than never. I can't wait to here what institution will serve as the watchdog the SEC, Treasury??? As much as I appreciate the administrations zeal in theory its a good idea but the biggest issue with derivatives is that there are no reliable counterparties to pay in the event a derivative triggers - honestly who is going to do that? The only solution to the entire CDS market is to unwind it, void all contracts and outlaw it. Derivatives are nothing more than gambling they provide no economic value. Plus we can't go thru another potential financial collapse and have government (taxpayers) save the day.

[LindaMBeale]

I think you may be right, here, DF. CDS can be used to hedge, but in that case the counterparty is clearly insuring a financial transaction. The banks have shown themselves unable to operate prudently in acting as financial insurers. Moreover, the primary growth (and trillions of dollars worth) of CDC is not genuine hedging but speculative betting. Much of the concerns about market disrupting losses could be alleviated by simply disallowing this form of market bet. Regulating standard swaps and permitting "customized" swaps to proliferate unregulated does not do much good--there will simply be more customized bets and fewer standard bets.