Good Advice

In "What Do [sic] Do About AIG?" Megan McArdle brings up bonuses for AIG employees. McArdle states that there is no way to tell which traders at AIG are good employees and which aren't. McArdle also says that since we now own the company we don't want to chase good employees away. Oh, heck, here's the whole paragraph because it's just so precious.

Why not just say "no bonuses for anyone at AIG"? To hell with the bums! Well, we now own the company. If we hasten the flight of quality employees out of the company, that will cost us money. The answer might be some kind of performance bond. But as in other financial firms, traders often take as bonus what should be salary, which means that they need at least part of their bonuses to maintain their lifestyle. If they're faced with bankruptcy, the traders who are talented will go elsewhere--the financial market is shrinking, but the top traders still have other opportunities. AIG has a lot of positions to unwind. Do we want to leave the job to the dregs of the organization?

This reminds me of what McArdle said about auto company employees. She seemed to think their benefits were outrageous theft from their company, not part of their pay package. She had no problem advocating for their elimination altogether. This is why I call McArdle a hypocrite. I doubt she even noticed that she said bankers need their bonuses because they are part of their salary, but auto workers should lose their benefits, the greedy bastards, although benefits are most certainly part of their pay. It's just how she thinks, where she places her priorities, and whom she considers valuable.

AIG spent money on lavish trips for employees and then on the huge bonuses, at a time when it was receiving taxpayer funds. If employees decide to leave, who cares? This is the company that was fined 1.6 billion for shady accounting practices, like Enron. Then its insurance bets went bad, and the government has to prop them up. If the employees want to leave for better jobs they can do so. Employees who ran their company into the ground shouldn't be given bonuses to continue running the company into the ground. If they're reputable they'll get some other job and if they don't they can retrain, as Bush was always telling the little people who lost jobs. We may not be able to take away the bonuses, but we can certainly say that they don't deserve them and we won't forget their greed.

Final paragraph:

Perhaps it is true, as my interlocutors accuse, that I am too stupid to understand the obvious. On the other hand, perhaps excessive confidence in your diagnosis means that you just haven't asked the right questions.

Let's review the questions McArdle asked about AIG.

Last night after my AIG posts I ducked out to a Reason Happy Hour. Naturally, everyone wanted to know what this would mean for the markets. With my crack talent for prognostication, I said, "Well, they will go up. Or they will go down. Though it's possible they might stay the same."

It's absolutely clear to me that we bailed out AIG because of its counterparty CDS risk, and that they're escalating other problems more generally. But it's less clear to me that they're the main source of contagion in the financial markets. And at this point, many, many, many things are escalating other problems.

I don't mean to downplay the role of CDSs. I'm just not sure how they came to be the main villain of the piece, that's all.

Damned if I know. But the markets seem a little unsettled . . . down 140 points as of this writing. Not catastrophic. But certainly not good.

This is all somewhat airy-fairy; perhaps you want to know exactly what will happen if Citibank and America will fail. Will CDS markets blow up? Insurance companies in receivership? Bank runs across the land?

So AIG is applying to the Federal Reserve for bridge financing to allow it to enter a restructuring deal with KKR. AIG got itself into big trouble writing credit default swaps for the mortgage market, and is now facing massive losses on Hurricane Ike. That the Fed is even considering the move shows just how much the lines between different types of financial firms have blurred in this brave new world of novel financial instruments and megamergers.

But as the Lehman bankruptcy illustrates, we have no idea exactly what will happen.

Ben Bernanke is in a tough place. Opening the loan facilities to the insurance business will further strain a loan portfolio already crammed full of risk--just as the Fed has announced that it will start accepting equity as collateral. But if AIG doesn't restructure, it may have to start dumping its massive asset portfolio. This, of course, will further erode the value of the securities held by solvent banks, meaning that more of them will likely show up at the Fed's discount window with their beggar's bowls out.

This is where I'm supposed to end with a snappy, sure summation of what the Fed should do. But all I know right now is that I'm sure glad I don't have Ben Bernanke's job.

It doesn't do any good to ask questions if your answer is always "I don't know." It's especially bad for a journalist, whose job it is to find out the answers to the questions and report them to the public. But I don't want to give the impression that McArdle never gave an opinion on AIG. She did.

If AIG fails, what happens to my policy?

[snip] The answer is that most of you can relax. Your insurance policy and/or annuity will probably be fine.

[big snip] If I had my homeowner's insurance with AIG, I'd probably bite the bullet and buy a new policy elsewhere; ditto some massive asset. But in general, unless you're insured/annuitized for a huge amount and planning to die/retire in the next few months, don't worry. With the exception of wealthy folks who bought gigantic policies, you should be able to get at least most of your money back out.