Goldman Sachs made billions by pushing AIG to bankruptcy

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Goldman Sachs made billions by pushing AIG to bankruptcy
By Barry Grey
10 February 2010

An investigative report published Sunday by the New York Times
provides a glimpse of the predatory practices of major Wall Street
banks that played a central role in the financial meltdown and global
economic crisis.

The article, headlined “Testy Conflict With Goldman Helped Push AIG to
Precipice,” documents the role of Goldman Sachs, the biggest and most
profitable US investment bank, in pushing the insurance giant American
International Group (AIG) to the brink of bankruptcy.

At the height of the financial crisis, in mid-September 2008, the Bush
administration stepped in to rescue AIG with $85 billion in taxpayer
money. Since then, under Bush and then Obama, government aid to the
company has grown to $182.3 billion. The firm is currently 80 percent
owned by the US Treasury.

AIG has used its government bailout to award its top traders and
executives hundreds of millions of dollars in bonuses. In the face of
public outrage, the Obama administration has intervened to shield the
company and block any moves to limit these pay awards.

The Times article, by Gretchen Morgenson and Louise Story, is based on
a review of internal AIG documents and a recording of a January 29,
2008, conference call between Goldman Sachs executives and AIG. It
describes how Goldman, in the two years preceding AIG’s bailout,
worked to undermine investor confidence in the insurer, then the
biggest seller of credit default swap contracts, and drive down the
market value of mortgage-backed securities.

During this period, Goldman was betting on a collapse of the housing
bubble, which it had helped inflate by promoting sub-prime mortgages.
Even as Goldman’s top traders were structuring credit default
contracts with AIG on mortgage-backed securities in a manner that
enabled the bank to profit from a decline in the price of these
securities, Goldman was making money by purchasing the same type of
securities for clients and charging fees for bundling home loans into
so-called “collateralized debt obligations” and selling the
mortgage-backed CDOs into the market.

By means of the unregulated multi-trillion-dollar credit default swap
market, banks and corporations purchase insurance against the default
of bonds issued by other banks, companies and governments. If a seller
of swaps—AIG was by far the biggest—goes bankrupt, its counterparties
stand to lose billions.

By the fall of 2008, AIG was vastly over-leveraged and hemorrhaging
cash due to demands from its counterparties, including major banks and
financial firms in the US and internationally, that it fulfill its
guarantee to make good on mortgage-backed CDO losses. Its failure
threatened to tip some of the biggest banks, including Goldman and
Morgan Stanley in the US, into bankruptcy.

The Times article suggests that Goldman was using its close
relationship with AIG to manipulate the housing market and encourage a
panic selloff of mortgage-backed assets, in part by pressing the
insurer to make billions of dollars in collateral payments based on
Goldman’s “low-ball” estimates of the value of mortgage-backed CDOs it
had insured with AIG.

The article notes that Elias Habayeb, an AIG accounting executive,
testified before Congress in January that Goldman’s payment demands
were a major factor in AIG’s downfall.

The implication is that the financial crash was not simply the result
of disembodied “market forces.” Highly conscious profit-driven
calculations by financial giants such as Goldman played a critical role.

The Times reports: “The SEC [Securities and Exchange Commission] wants
to know whether any of [Goldman’s demands on AIG] improperly
distressed the mortgage market, according to people briefed on the
matter who requested anonymity because the inquiry was intended to be
confidential.”

The authors write, “Well before the federal government bailed out AIG,
in September 2008, Goldman’s demands for billions of dollars from the
insurer helped put it in a precarious financial position by bleeding
much needed cash.”

They continue, “Goldman stood to gain from the housing market’s
implosion because in late 2006 the firm had begun to make huge trades
that would pay off if the mortgage market soured. The further mortgage
securities’ prices fell, the greater were Goldman’s profits.”

The article indicates that Goldman made billions of dollars by
extorting cash from AIG and then made billions more at taxpayer
expense from the government bailout of the insurer. According to the
Times, the bank collected over $7 billion from AIG in just one year
before the government bailout of the insurer, and received another
$12.9 billion when the government, as part of the federal rescue of
AIG, covered in full the money AIG owed Goldman on insured housing
securities.

At the time of the AIG bailout, then-Treasury Secretary Henry Paulson,
Federal Reserve Chairman Ben Bernanke and then-President of the
Federal Reserve Bank of New York Timothy Geithner secretly funneled a
total of $62 billion from the rescue of the insurer to AIG’s major
bank counterparties. Goldman was by far the biggest beneficiary of
this back-door taxpayer bailout of the banks.

Other recipients included Morgan Stanley and JPMorgan Chase, each of
which netted billions of dollars in the furtive transaction. The
French bank Société Générale received $11 billion. According to the
Times article, a portion of that money was subsequently transferred to
Goldman Sachs under an agreement the two banks had made.

The Times reports that in December 2006 Goldman began to increase its
negative bets on the mortgage market. Some months later it began to
demand that AIG pay it billions of dollars on mortgage-backed
securities the bank valued considerably lower than either AIG or
third-party entities. AIG objected to Goldman’s valuations and
attempted for more than year to resolve the dispute, to no avail.

The article cites a January 28, 2008, conference call between 21
Goldman executives and AIG that lasted more than an hour and ended
without any retreat by Goldman from its hard-line position. The Times
reports AIG’s suspicions that Goldman was encouraging other banks to
take a similarly aggressive position.

Finally, on August 18, 2008, “Goldman’s equity research department
published an in-depth report on AIG. The analysts advised the firm’s
clients to avoid the stock because of a ‘downward spiral which is
likely to ensue as more actual cash losses emanate’ from the insurer’s
financial products unit.” This was tantamount to a death sentence for
the insurance firm.

While the Times article paints a damning picture of the predatory role
of Goldman Sachs, it omits any mention of the most crucial aspect of
the story. What emboldened Goldman to pursue a course that could
easily have backfired and driven it into bankruptcy along with AIG?

The answer is its certainty that the government would step in to cover
its potential losses from an AIG collapse. At the heart of the Goldman
saga is the incestuous and corrupt relationship between the most
powerful Wall Street firms and the government.

For many years, the subordination of the US political system—including
both parties and extending from the White House to Congress, to the
courts and the media, to the financial elite—has been exemplified by
the role of Goldman in Washington. Known on Wall Street as “Government
Sachs,” the bank has funneled top executives into the highest
government positions, in Democratic as well as Republican administrations.

The Obama administration is stacked with Wall Street insiders,
including protégés of Robert Rubin, the former top Goldman executive
who served as Bill Clinton’s treasury secretary. These include Obama’s
chief economic adviser, Lawrence Summers, and his treasury secretary,
Timothy Geithner.

Henry Paulson was chairman of the board and CEO of Goldman before he
took the post of treasury secretary under George Bush in June of 2006.
Paulson, working closely with then-New York Fed President Geithner,
engineered the bank bailout in the fall of 2008, including the AIG
rescue that was used to cover the potential losses of Goldman and
AIG’s other bank counterparties.

With Paulson at the head of the Treasury Department, Goldman launched
its strategy of profiting from and encouraging the collapse of the
housing market and AIG. Since the AIG bailout, it has been revealed
that Paulson was in constant communication with his successor at the
helm of Goldman, Lloyd Blankfein, during the height of the financial
meltdown in the fall of 2008.

Paulson, working with Geithner and Bernanke, not only organized the
backdoor bailout of the banks via the AIG rescue, he personally fired
the then-CEO of AIG and replaced him with a Goldman board member,
Edward M. Liddy, who at the time owned Goldman shares now valued at
more than $4 million.

Geithner has been implicated in efforts, recently revealed in emails
between the New York Fed and AIG, to conceal the use of taxpayer funds
handed to AIG to pay off its bank counterparties at 100 cents on the
dollar. Obama’s elevation of this long-time Wall Street fixer to the
post of treasury secretary unequivocally demonstrated the class
character of his administration as an instrument of the American
financial aristocracy.

These facts confirm that the financial crisis was deliberately
exploited to usher in a fundamental restructuring of class relations
in the US, aimed at resolving the crisis of the capitalist system
through the impoverishment of the American and international working
class.

The actions of Wall Street banks such as Goldman and their government
accomplices are criminal in the full sense of the word. As the World
Socialist Web Site wrote of Paulson last August (See: “Paulson and
Goldman Sachs: A dirty secret of the Wall Street bailout”), “There is
every basis for launching a criminal investigation, and aside from
potential violations of law, the destructive social consequences for
hundreds of millions of people in the US and around the world of his
policies—which are being continued by Obama—are incalculable.

“Paulson, however, is not an aberration. The multi-millionaire banker
turned cabinet official is rather an embodiment of the domination of
social and political life by a financial oligarchy, whose leading
representatives partake in the revolving door between the corporate
suite and the highest levels of the state. This Augean stable of
reaction and corruption can be cleaned out only through the
independent mobilization of the working class on the basis of a
revolutionary socialist program.”

http://wsws.org/articles/2010/feb2010/gold-f10.shtml

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