Return to Transcripts main page
CNN Newsroom
Geithner, Bernanke Appear Before House Finance Committee; Napolitano Discusses Mexico Security Issues Before Congress
Aired March 24, 2009 - 10:00 ET
THIS IS A RUSH TRANSCRIPT. THIS COPY MAY NOT BE IN ITS FINAL FORM AND MAY BE UPDATED.
HEIDI COLLINS, CNN ANCHOR: Power, greed, and protecting your money. Happening right now on Capitol Hill, you see it there.
Senate lawmakers look to beef up the government's supervision on banks, while on the House side of the Hill, Treasury Secretary Timothy Geithner wanting new authority to deal with failing firms. He is appearing with Federal Reserve chairman, Ben Bernanke.
We just heard the gavel go down. The chairman now speaking, Barney Frank there. The president's top money men face questions about the top bonuses paid out to AIG executives.
I want to begin our coverage now with congressional correspondent Brianna Keilar.
Brianna, last week lawmakers grilled AIG's CEO Edward Liddy. Can Geithner and Bernanke expect some of the same type of questioning here?
BRIANNA KEILAR, CNN CONGRESSIONAL CORRESPONDENT: Certainly they're going to face some very tough questions today. In particular about this AIG bonuses, Heidi. We're actually outside of the hearing room, you can see right here where Timothy Geithner and Ben Bernanke are inside for the House Financial Services Committee. This hearing just starting up as we speak.
One of the big overall umbrella issues they're going to be talking about, Heidi, is just why did the government need to get involved with AIG? This is testimony that Ben Bernanke is about to give, and he is going to, as he says here, describe why supporting AIG was difficult, but a necessary step to protect our economy, and stabilize our financial system.
And then the big question of these bonuses. When did they know about them? We heard from Edward Liddy last week in this very room. He said that Ben Bernanke, the Fed chairman, knew three months before.
COLLINS: Yes.
KEILAR: He also said -- yes, really amazing. A lot of people were surprised by that. He also said that Timothy Geithner knew two weeks before his testimony, which is something that Geithner has contested. The Treasury Department has contested.
And judging by his testimony that he is set to give, Heidi, he will basically say that Edward Liddy was wrong in his numbers there, saying on March 10th, I received a full briefing on the details of AIG's pending retention payments.
Just a glimpse of what we're happening to hear inside of this hearing room here in a few moments.
COLLINS: All right. Now where exactly does Congress's effort to recoup some of that bonus money actually stand? I mean we know some of them have given back their bonuses.
KEILAR: That's right. It's really lost steam. You remember how much outrage we heard here on Capitol Hill last week. The House went ahead and very quickly passed a bill that would tax these bonuses at a 90 percent rate. Well, then the ball was in the court of the Senate and has lost steam in the Senate following some comments by President Obama. Call...
COLLINS: Right.
KEILAR: You know, he basically raised questions about this effort. And many key senators have now as well, Heidi. So in terms of moving the legislation...
COLLINS: Understood. Yes.
KEILAR: ... all the way out of Congress -- Heidi?
COLLINS: Yes. No, I was just saying, we'll have to see what happens with all of that, because as you mentioned, 15 of those top executives have given back their bonuses. So this is certainly something people are going to be watching for today, along with the bigger issue.
Brianna Keilar, thanks so much for that.
This new regulatory power that we were talking with Christine Romans about this resolutionary power. So we want to go ahead and listen in now just for a moment to Chairman Barney Frank and his opening words here now.
REP. BARNEY FRANK (D-MA), CHAIRMAN, FINANCIAL SERVICES COMMITTEE: ... chairman of the Federal Reserve last year, Mr. Paulson and Mr. Bernanke, together worked out an arrangement so that the creditors of Bear Stearns -- not Bear Stearns, not Bear Stearns shareholders, but that the creditors of Bear Stearns were compensated, for fear that a failure to compensate them would have severe negative consequences in the economy.
Then Lehman Brothers found itself in the same situation, and when efforts to find another private party to step in failed, the Bush administration made the decision at the time, in think in part in the context of criticism that had come from the intervention with Bear Stearns creditors, to allow it to fail, so that Lehman Brothers failed, and none of the creditors of Lehman Brothers were aided.
I recently was visited by two members of the House, our colleague, Ms. Speier and our colleague Ms. Eshoo, because the county they represent in California lost a lot of money when Lehman Brothers went under, and we have others -- we have many, many municipalities that are suffering from that.
But the decision was made to not intervene in Lehman Brothers, and I think it was fueled, in part, by the view that there had been too much intervention in Bear Stearns, and people said, "Let's have free enterprise. Let's let it work." Free enterprise means the right to fail with no safety net. So Lehman Brothers was allowed to fail with no safety net.
A consensus formed, I believe, fairly soon after that that allowing Lehman Brothers totally to fail had severe negative economic consequences. And that's the context which needs to be remembered when we think about what was done by the Federal Reserve with the support of the Treasury in 2008 with regard to AIG.
My own view is that the negative example of Lehman Brothers -- and that included a number of political criticisms as well as a view that it had a severe economic negative effect -- was, I believe, behind the decision to intervene for AIG.
I will remind people, the decision to intervene on behalf of AIG was a decision the Federal Reserve took under its statutory authority.
Unlike the subsequent vote in the House to create the Troubled Asset Relief Program, there was no congressional involvement, except you might say it was congressional involvement when we sit in a room and are told something and we say, "Wow." That was the congressional involvement with regard to that. We did raise some questions, but were being -- we were being informed.
I cite that because the going forward part -- people will talk about the -- about the bonuses, but the going forward part is this. I believe we have two very important negative examples before us of how not to proceed.
One was the Lehman Brothers example, where they were allowed totally to fail, and there was no help to any of the creditors. The other is the AIG example, where there was help for all of the creditors. Neither one is what we should be doing going forward.
The problem is -- and I would contrast what we saw with Lehman and with AIG with what we saw with Wachovia, IndyMac, WaMu, Countrywide. Banks also failed in 2008, and that was not a happy occasion in every case, although those of us who will mourn Countrywide are a very small number.
But the fact is that we have in place mechanisms, involving a very well-run FDIC, with the cooperation of other financial regulators, that contained the damage. So when these banks failed, it was neither a Lehman Brothers total negative on the economy or an AIG excessive intervention in the minds of some on behalf of creditors.
Our job -- and again, this was first raised by Secretary Paulson last year and Mr. Bernanke, and we are now at the point where we will be addressing that -- we need to give somebody somewhere in the federal government the power to do -- when non-bank major financial institutions need to be put out of their misery, we need to give somebody the authority to do what the FDIC can do with banks.
It's called resolving authority. But it is giving somebody -- and -- and it is, as people should understand, a form of the bankruptcy power given under the Constitution.
It allows us to avoid the choice of all or nothing -- nothing in the case of Lehman Brothers, all in the case AIG -- equally unacceptable alternatives. And our job is to work together to try and find some other way.
The gentleman from Alabama is recognized for five minutes.
REP. SPENCER BACHUS (R-AL), RANKING MEMBER: Thank you, Mr. Chairman.
Mr. Chairman, I'm going to distribute our time -- three minutes to the gentleman from New Jersey, Mr. Garrett; three minutes to the gentleman from Texas, Mr. Hensarling; and two minutes to the gentleman from Delaware...
FRANK: The gentleman from...
BACHUS: ... Mr. Castle.
FRANK: ... New Jersey is recognized for three minutes.
REP. SCOTT GARRETT (R), NEW JERSEY: Thank you, Mr. Chairman.
You know, today I look forward to hearing all the testimony today, as well as the answers to many questions that Americans have, I believe, for this panel.
It seems, like many of my colleagues, I have questions to pose to our witnesses.
To Chairman Bernanke, I'm interested to hear more about the Fed's ongoing relationship with AIG's leadership as they work together in running and also dismantling this entity on behalf of its largest shareholder, the American taxpayer.
I'm also concerned, though, about the Fed's transparency and its independence in regards to publicly releasing details about AIG's counterparties.
As the chairman knows, there was -- back in March -- or December, I sent a letter asking for specific counterparties to AIG and who would benefit from that if they (INAUDIBLE) insolvent.
In reply, I received on March 4th -- I was told that, quote, "In keeping with normal business practices, CDS contracts have not been made publicly available because counterparties and AIG considers this information to be commercially sensitive and non-public information," end quote. Then, lo and behold, just less than two weeks later, this information was released, and we found out just who those counterparties were, some being -- of which -- foreign banks.
So since it's my understanding that AIG doesn't do anything without the approval of Fed these days, why, then, did the Fed basically do an about-face on its policy of disclosing AIG counterparties?
Was it, in part, due to bowing to pressure from the administration in what many would say is politically difficult times? And do you feel that there is pressure performing these regulatory functions and those pressures undermine your independence in performing your -- your monetary functions?
But probably more important than that whole issue is why didn't the Fed insist on negotiating with foreign and also domestic counterparties for a more reasonable resolution to these contracts, instead of paying a dollar for dollar, especially when we learned after the fact that many of these counterparties had themselves hedged their bets or hedged their exposures with AIG anyway?
Next, I would also like to revisit Chairman Bernanke's assertion the AIG problems originated, as he said, in unregulated portions of its holding company.
Well, you know, we heard testimony last week from the OTS acting director Polakoff that seems to contradict this assertion. Mr. Polakoff explained OTS was actively regulating that division and was aware of AIG's CDS dealings and that they did raise concerns with AIG back in 2005.
And, Secretary Geithner, many members of this committee, as well as the American people, would like a straight answer on the handling of the AIG bonus fiasco.
The secretary has been referred to as, quote, "the original architect of the AIG bailout."
There's also been some questions as to the extent of the Treasury's -- Department's involvement in altering provisions in the so-called stimulus package and assuring that the bonuses would, in fact, be honored.
Moreover, we are told he was informed about the bonuses at least a week and a half before they were paid out.
We also know the secretary had specific conversations with AIG's CEO, Mr. Liddy, about it just a few days before.
So as the secretary of treasury and a representative of the United States and the people -- which is the largest shareholder, again, in AIG -- I would like to hear from the secretary his recollection of that conversation with Mr. Liddy and the letter as well, and would like to know if he raised these issues with the president before the bonuses were paid and did the president sign off on them.
FRANK: The gentleman from Texas for three minutes.
REP. JEB HENSARLING (R), TEXAS: Thank you, Mr. Chairman.
And thank you, Mr. Secretary, thank you, Chairman Bernanke, for joining us today.
Bonuses paid out by profitable companies to outstanding employees makes sense. Taxpayer-funded bonuses paid out by failing companies who owe taxpayers money makes no sense.
The close to $200 million in bonuses paid out to AIG's employees was merely last week's TARP outrage of the week. The outrage, however, pales in comparison to the outrage that taxpayers have now seen four different bailouts, and have put $173 billion into a failed company with no apparent end in sight.
It pales in comparison to the outrage that taxpayer money is being used to make counterparties whole, many of which are foreign financial institutions. They assumed a risk that the schoolteacher in Mesquite, Texas, who is now helping make those counterparties whole, did not take.
It also pales in comparison to the outrage that we have seen no convincing plan of sustainability, profitability or taxpayer recoupment that has been presented to us, this committee, the Congress, much less the American people.
And finally, it pales in comparison to the outrage that we should have that the Democrat leadership in Congress, in the Obama administration, either knew about these bonuses or should have known about these bonuses, and could have stopped them.
After we learned a provision in the so-called stimulus legislation -- which, as a practical matter, the Republicans were not permitted to read -- ensured that these bonuses would be paid out, we witnessed the spectacle of Speaker Pelosi pointing a finger at Senator Dodd, Senator Dodd pointing a finger at Secretary Geithner, and Secretary Geithner and the Treasury staff seemingly pointing a finger at Senator Dodd.
In a town where few are loathe to brag about legislation they authored, this bonus-enabling provision appears to be one-of-a-kind, and that it is an apparent orphan.
The House went to great lengths to cover up this embarrassment, passing what many believe to be an unconstitutional tax to punish action which Congress did not agree. We could have simply required AIG to pay back 100 percent of the bonuses before they received another bailout, which we all know is coming. But the majority insisted on setting the dangerous precedent of punishing people after the fact who engaged in conduct with which they did not agree.
Secretary Geithner, I hope this legislation has not jeopardized your efforts to attract the private portion of your public-private investment partnerships.
There's something else that is needed, Mr. Secretary. The public needs a straight answer. What did the Obama administration know, and when did they know it?
For your plan to succeed, it needs confidence. And for there to be confidence restored, there must be openness, accountability and honesty. As one of my colleagues told me last evening, if you like the way the government has been running AIG, you're going to love socialized health care.
FRANK: The gentleman from Pennsylvania is recognized for three minutes.
REP. PAUL E. KANJORSKI (D), PENNSYLVANIA: Thank you very much, Mr. Chairman.
Thank you for working with me to schedule this important hearing, to hear directly and publicly from those federal entities now responsible for overseeing American International Group, or AIG. As I said last week, the Treasury Department and the Federal Reserve have much to explain, not only to us, but also to the American people.
Since last fall, when it received governmental assistance for the first time, I have maintained an active, ongoing and strong interest in AIG. Early on, I wrote to the Federal Reserve to inquire about its oversight of AIG. I have contacted them regularly since then.
After AIG's TARP investment, I also contacted the Treasury Department about these matters. Taxpayers now own 80 percent of AIG. Today, I therefore hope that we can learn more about how the federal officials are protecting the taxpayers' interest in AIG.
I also want to learn more about the plan, the people and the resources dedicated to AIG oversight. Additionally, because the Federal Reserve was the first to intervene in AIG, I would greatly appreciate an explanation from them on how and why they made the decision to get involved.
Further, I want to know the plan to recover the loans from AIG, so the taxpayers can be paid back in full with interest as quickly as possible.
During the last week, the American people have rightly expressed outrage about the sizable retention bonuses given to workers at the very unit that caused AIG to seek federal aid. If federal officials had exercised effective, proactive oversight at the company, we could have prevented this problem.
Going forward, I would like the Federal Reserve and Treasury to be more active and transparent in their oversight of AIG.
That said, Mr. Chairman, we are in the midst of an economic crisis. As a result, the Treasury Department and the Federal Reserve have assumed an extraordinary amount of responsibility, and they have worked to develop and implement a broad array of innovative programs. As such, they may lack...
COLLINS: All right, so we are listening to some of the opening comments now from committee members here, of course, the House Financial Services Committee, where we are awaiting Treasury secretary, Timothy Geithner, and also Fed chairman, Ben Bernanke, to get to the microphones.
Also in the room, just to let you know, Mr. William Dudley, the president and chief executive officer of Federal Reserve Bank of New York. That is the third gentleman that you'll see a little bit later on at the microphones there, talking today about the AIG bonuses and also perhaps more importantly, as a jumping off point here, this new regulatory power.
What it means and what sort of authority Treasury Department and the Federal Reserve will actually have in regulating some of these banks. So we are watching very closely there. We will bring you more information, and some of that sound just as soon as they get to the microphones.
Meanwhile, we do have word that 15 top executives from AIG have returned their bonuses now. New York attorney general Andrew Cuomo says that adds up to about $50 million. In all, $165 million was paid out in bonuses earlier this month. Cuomo says he believes his office can recover about half of that total. He hopes more employees will return their bonuses on their own.
Looking at the big board for you, really quickly there, because obviously yesterday was a huge day. Dow Jones Industrial Averages down right now by double digit. It's about 54 points there. Yesterday, though, ended the day up nearly 500. So we're seeing some of that going back, just a small amount for right now.
We'll keep our eye on those numbers as well throughout the hearings. You'll never know.
Now the Treasury Department's new power play top man, Timothy Geithner, wanting new authority to seize failing firms and prevent a repeat of the crisis now facing our financial system.
CNN's Christine Romans, part of the CNN money team, joining me again from New York.
So Christine, these new powers that we should talk because we understand this is what Timothy Geithner will be asking for, basically today.
ROMANS: These are new powers, basically, resolution authority, they call it. This is a power the Treasury Department doesn't currently have to go in, Heidi, for a company that is likened AIG or, frankly, a Lehman Brothers, or any other kind of company that is a non-bank financial institution, a hedge fund...
COLLINS: Right.
ROMANS: And fix the problems that are happening there, if it could take down the global economy. They could seize the firm, then they could also renegotiate, dissolve the pay packages, rewrite those rules as it's happening instead of the current situation we're in where they couldn't do anything, really.
And they can scrutinize the risky bets that this company is making. You know, AIG is a big, stable insurance company. And on top of it was this hedge fund, the financial products division, and the risky portfolio of loans. And that -- and derivatives in that part of the company was a real problem.
The resolution authority would allow the Treasury Department to look at that, and see that, and see what kind of risk that could be to not only the company like AIG, but all of the other companies that does business with in the global economy.
COLLINS: Yes.
ROMANS: So that's what they're looking for. This new -- it's a big power, yes.
COLLINS: Well, yes and a big job. And who exactly -- I mean, I know you probably don't know the answer to this question, but we're talking about human beings here. We're talking about people who have to decide, and it seems maybe a little subjective. Or are there going to be specific guidelines that they go on?
You know what? Before we answer that question, we want to go ahead, because I believe Timothy Geithner is getting ready to speak. We want to hear that.
Let's go ahead and listen in.
TIMOTHY GEITHNER, U.S. SECRETARY OF TREASURY: I welcome the attention you are bringing to it. I'm going to try to answer as many of your questions in my oral statement, but I'm sure we'll need to go over many of these things in more detail.
I'm very pleased to be here with Chairman Bernanke and President Bill Dudley of the New York Fed.
AIG highlights very broad failures of our financial system. Our regulatory system was not equipped to prevent the buildup of dangerous levels of risks. Compensation practice rewarded short-term profits over long-term financial stability, overwhelming the checks and balances in the system.
We came into this crisis as a country, and this is a tragic thing. We came into this crisis without the authority and the tools necessary to contain the damage to the American economy posed by the very severe pressures working through the financial system.
Now, I share the anger and frustration of the American people, not just about the compensation practices at AIG and in other parts of our system, but that our financial system permitted a scale of risk- taking that has caused grave damage to the lives of so many Americans.
The companies insured by AIG in the United States alone employ one in three Americans. AIG directly guarantees over $30 billion of 401(k) and pension plan investments, and is the leading provider of retirement services for teachers and educational institutions.
In September, at a time of unprecedented financial market stress, losses on derivative contracts entered into by AIG's Financial Products group, forced the entire company to the brink of failure.
The Department of the Treasury, the Federal Reserve and the Federal Reserve Bank of New York acted to prevent the collapse of AIG. That action was based on a judgment, a collective judgment, that AIG's failure would have caused catastrophic damage, damage in the form of sharply lower equity prices and pension values, higher interest rates and a broader loss of confidence in the world's major financial institutions.
This would have intensified an already deepening global recession, and we did not have the ability to contain that damage through other means. And we did not have the authority to unwind AIG.
For these reasons, with extreme reluctance, on September 16th, the Federal Reserve Board authorized an $85 billion revolving credit facility to provide liquidity and avoid default. As a condition of that loan, 79.9 percent of the shares of the company were placed in a trust run by appointees of the Federal Reserve Bank of New York.
The government installed a new management team, and began the process of restructuring AIG's board. And the new management team committed to return AIG to its core insurance business by winding down its derivatives trading operation and selling non-core businesses.
This loan, of course, was only the first step in a series of efforts to stabilize the company and provide the funding and liquidity necessary to execute that restructuring plan.
Following that initial action in September, the Federal Reserve Bank of New York initiated a broad review using outside experts of the full range of executive compensation plans that exist across this large company.
In November, as part of the government's infusion of capital, the Treasury Department imposed the executive compensation conditions and standards that were required under the Emergency Economic Stabilization Act.
Earlier this month, in March, when in response to further losses on the company's investment portfolio we committed additional resources alongside the Fed, we made that assistance subject to forthcoming conditions on executive compensation that were based on both the president's proposals of February 4th and the provisions adopted in the American Reinvestment and Recovery Act.
Now, on March 10th, I received a full briefing from my staff on the details and extent of AIG's -- AIG-FP's pending retention payments, including information on the details of payments to individual executives. I found those payments, as have so many, deeply troubling. And after consulting with colleagues at the Fed and exploring our legal options, I called Ed Liddy, the CEO of this company, and asked him to seek to renegotiate these payments.
He explained that the contracts for the retention payments were legally binding and pointing out the risk that by breaching the contracts, some employees might have a claim under Connecticut law to double payment of the contracted amount.
He committed, however, to renegotiate and reduce future payments totaling hundreds of millions of dollars, and that process is now under way.
In addition, Treasury is working with the Department of Justice to determine what legal avenues may be available to recoup retention bonuses that have already been paid out and have not been voluntarily repaid.
Treasury will also impose on AIG a contractual commitment to pay the Treasury from the operations of the company the amount of retention awards not recouped.
And finally, Treasury will deduct from the $30 billion in recently committed capital assistance an amount equal to those payments.
Now, this issue of executive compensation extends beyond AIG and requires substantial reform of the incentives and compensation throughout the financial sector.
As we move forward, we need to ensure that taxpayer resources do not reward failure but are used to get our financial system back to the business of providing credit on reasonable terms to American businesses and families.
I know that much of the public anger has fallen on Mr. Liddy, but this is not fair. Mr. Liddy did not create this mess. He did not seek this job. He agreed in response to a request by the government of the United States to work to restructure the company and help us get back the assistance provided by the taxpayer.
And in taking on what I think is the most challenging job in the American financial system today, he inherited an enormous range of problems, including these retention contracts that are the understandable source of public outrage.
AIG has thousands of employees that are working now, every day, to unwind the very business that got us into this situation and return AIG to the business of insurance.
They are working hard to reduce the company's risks and exposures, and it's important that we support them in this effort to wind down AIG in an orderly way that protects the American taxpayer.
Now, in addition to the problems with executive compensation, this financial crisis has revealed very problematic gaps in the regulatory structure governing our financial markets.
The lack of an appropriate regulatory regime and resolution authority for large non-bank financial institutions contributed to this crisis and will continue to constrain our capacity to address future crises.
I will testify before this committee on Thursday and discuss in that context a broad set of regulatory reform proposals, particularly those related to mitigating systemic risk, to creating a more stable financial system.
As we've seen with AIG, distress at large...
FRANK: Geithner, will you stop, please?
GEITHNER: Yes.
FRANK: Will you please act your age back there? Stop playing with that sign. If you have no greater powers of concentration, then you leave the room. We're trying to have a serious discussion which will include, as you understand, a lot of criticism. We really need people to grow up.
GEITHNER: Thank you, Mr. Chairman.
As we've seen with AIG, the stress at large complex financial institutions can pose risks as dangerous as those that led the United States to establish a full framework of tools for dealing with banks.
We need to extend those protections and authorities to cover the risks posed by our more diverse and complicated financial system today. And we are proposing legislation the provide those tools and look forward to working with this committee and the Congress to pass such legislation as quickly as possible.
The proposed resolution authority would allow the government to provide financial assistance to make loans to an institution, to purchase its obligations or assets, to assume or guarantee its liabilities, and purchase an equity interest.
U.S. government as conservator or receiver would have additional powers to sell or transfer the assets or liabilities of the institution in question, to renegotiate or repudiate the institution's contracts, and prevent certain financial contracts with the institution from being terminated on account of conservatorship or receivership.
This proposed legislation would fill a significant void in the current financial services regulatory restructure in respect to these large complex institutions, and implementation would be modeled on the resolution authority that the FDIC has under current law with respect to banks.
This is an extraordinary time for our country, and your government has been forced to take extraordinary measures. We will do what is necessary to stabilize our financial system and, with the help of the Congress, develop the tools we need to make our economy more resistant -- more resilient and our financial system more stable and more just.
We need to work together to create an environment where it's safe to save and invest and where all Americans can trust the rules governing their financial decisions.
Thank you, Mr. Chairman.
FRANK: Mr. Bernanke?
BEN BERNANKE, CHAIRMAN, FEDERAL RESERVE SYSTEM BOARD OF GOVERNORS: Thank you.
Chairman Frank, Ranking Member Bachus and other members of the committee, I appreciate having this opportunity to discuss the Federal Reserve's involvement with AIG.
In my testimony, I will describe why supporting AIG was a difficult but necessary step to protect our economy and stabilize our financial system. I will also discuss issues related to compensation. I know of two matters raised by this experience that merit congressional attention.
We at the Federal Reserve, working closely with the Treasury, made our decision to lend to AIG on September 16th of last year. It was an extraordinary time. Global financial markets were experiencing unprecedented strains and a worldwide loss of confidence.
Fannie Mae and Freddie Mac had been placed into conservatorship only two weeks earlier, and Lehman Brothers had filed for bankruptcy the day before. We were very concerned about a number of other major firms that were under intense stress.
AIG's financial condition had been deteriorating for some time, caused by actual and expected losses on subprime mortgage-backed securities and on credit default swaps that AIG's financial products unit, AIG-FP had written on mortgage-related securities.
As confidence in the firm declined and with efforts to find a private sector solution unsuccessful, AIG faced severe liquidity pressures that threatened to force it imminently into bankruptcy. The Federal Reserve and the Treasury agreed that AIG's failure under the conditions set for failing...
FRANK: Please, with all -- no, you understood. You had the sign up. The next one that holds a sign -- it is distracting to people. I understand that there are some people for whom rational discussion is not an appropriate means of expressing themselves.
You are entitled to do that in general, but not in a way that interrupts those of us who are trying to have rational discussions. So the next one that holds a sign will be ejected.
I do not know how you think you advance any cause to which you might be attached by this kind of silliness.
Mr. Bernanke, please proceed.
BERNANKE: Thank you, Mr. Chairman.
The Federal Reserve and the Treasury agreed that AIG's failure under the conditions then prevailing would have posed unacceptable risks for the global financial system and for our economy.
Some of AIG's insurance subsidiaries, which are among the largest in the United States and in the world, would have likely been put rehabilitation by their regulators, leaving policy holders facing considerable uncertainty about the status of their claims.
State and local government entities that had lent more than $10 billion to AIG would have suffered losses. Workers whose 401(k) plans had been purchased -- had purchased $40 billion of insurance from AIG against the risk that their stable value funds would decline in value would have seen that insurance disappear.
Global banks and investment banks would have suffered losses on loans and lines of credit to AIG and on derivatives with AIG-FP The banks' combined exposure exceeded $50 billion. Money market mutual funds and others that held AIG's roughly $20 billion of commercial paper would also have taken losses.
In addition, AIG's insurance subsidiaries had substantial derivatives exposure to AIG-FP that could have weakened them in the event of the parent company's failure.
Moreover, as the Lehman case clearly demonstrates, focusing on the direct effects of a default on AIG's counterparties understates the risk to the financial system as a whole. Once begun, a financial crisis can spread unpredictably.
For example, Lehman's default on its commercial paper caused a prominent money market mutual fund to break the buck and suspend withdrawals, which in turn ignited a general run on prime money market mutual funds with resulting severe stresses in the commercial paper market.
As I mentioned, AIG had about $20 billion in commercial paper outstanding, so its failure would have exacerbated the problems of the money market mutual funds.
Another worrisome possibility was that uncertainties about the safety of insurance products could have led to a run on the broader insurance industry by policy holders and creditors.
Moreover, it was well known in the market that many major financial institutions had large exposures to AIG. Its failure would likely have led financial market participants to pull back even more from commercial and investment banks and those institutions perceived as weaker would have faced escalating pressure.
Recall that these events took place before the passage of the Emergency Economic Stabilization Act which provided the funds that the Treasury used to help stem a global banking panic in October.
Consequently, it is unlikely that the failure of additional major firms could have been prevented in the wake of a failure of AIG. At best, the consequences of AIG's failure would have been a significant intensification of an already severe financial crisis and a further worsening of global economic conditions.
Conceivably, its failure could have resulted in a 1930-style global financial and economic meltdown with catastrophic implications for production, income and jobs.
The decision by the Federal Reserve on September 16th, 2008 with the full support of the Treasury to lend up to $85 billion to AIG should be viewed with this background in mind.
At that time, no federal entity could provide capital to stabilize AIG and no federal or state entity outside of a bankruptcy court could wind down AIG.
Unfortunately, federal bankruptcy laws do not sufficiently protect the public's strong interest in ensuring the orderly resolution of non-depository financial institutions when a failure could pose substantial systemic risks, which is why I have called on the Congress to develop new emergency resolution procedures.
However, the Federal Reserve did have the authority to lend on a fully secured basis, consistent with our emergency lending authority provided by the Congress and our responsibility as the central bank to maintain financial stability.
We took as collateral for our loan AIG's pledge of a substantial portion of its assets, including its ownership in its domestic and foreign insurance subsidiaries.
This decision bought time for subsequent actions by the Congress, the Treasury, the FDIC and the Federal Reserve that have avoided further failures of systemically important institutions and have supported improvements in key credit markets.
Having lent AIG money to avert the risk of a global financial meltdown, we found ourselves in the uncomfortable situation of overseeing both the preservation of its value and its dismantling, a role quite different from our usual activities.
We have devoted considerable resources to this effort and have engaged outside advisers.
Using our rights as creditor, we have worked with AIG's new management team to begin the difficult process of winding down AIG-FP and to oversee the company's restructuring and divestiture strategy.
Progress is being made on both fronts. However, financial turmoil and a worsening economy since September have contributed to large losses at the company, and the Federal Reserve has found it necessary to restructure and extend our support. In addition, under its troubled asset relief program, the Treasury injected capital into AIG in both November and March. Throughout this difficult period, our goals have remained unchanged -- to protect our economy and preserve financial stability and to position AIG to repay the Federal Reserve and return the Treasury's investment as quickly as possible.
In our role as creditor, we have made clear to AIG's management, beginning last fall, our deep concern surrounding compensation issues at AIG. We believe it is in the taxpayers' interest for AIG to retain qualified staff, to maintain the value of the businesses that must be sold to repay the government's assistance.
But at the same time, the company must scrupulously any excessive and unwarranted compensation. We have pressed AIG to ensure that all compensation decisions are covered by robust corporate governance, including internal review, review by the compensation committee of the board of directors, and consultations with outside experts.
Operating under this framework, AIG has voluntarily limited the salary, bonuses and other types of compensation for 2008 and 2009 of the CEO and other senior managers.
Moreover, executive compensation must comply with the most stringent set of rules promulgated by the Treasury for TARP fund recipients.
The New York attorney general has also imposed restrictions on compensation at AIG.
Many of you have raised specific issues with regard to the payout of retention bonuses to employees at AIG-FP. My reaction, upon becoming aware of these specific payments, was that notwithstanding the business purposes that might be served by this action, it was highly inappropriate to pay substantial bonuses to employees of a division that had been the primary source of AIG's collapse.
I asked that the AIG-FP payments be stopped, but was informed that they were mandated by contracts agreed to before the government's intervention.
I then asked that suit be filed to prevent the payments. Legal staff counseled against this action on the grounds that Connecticut law provides for substantial punitive damages if the suit would fail.
Legal action does have the perverse effect of doubling or tripling the financial benefits to the AIG-FP employees.
I was also informed that the company had been instructed to pursue all available alternatives and that the reserve bank had conveyed the strongest pleasure of the Federal Reserve with retention payment arrangement.
I strongly supported President Dudley's conveying that concern and directing the company to redouble its efforts to renegotiate all plans that could result in excessive bonus payments. I have also directed staff to work with the Treasury and the administration in their review of whether the FP bonus and retention payments can be reclaimed.
Moreover, the Federal Reserve and the Treasury will work closely together to monitor and address similar situations in the future.
To conclude, I would note that AIG offers two clear lessons for the upcoming discussion in the Congress and elsewhere on regulatory reform.
First, AIG highlights the urgent need for new resolution procedures for systemically important nonbank financial firms.
If a federal agency had had such tools on September 16, they could have been used to put AIG into conservatorship or receivership, unwind it slowly, protect policyholders and impose haircuts on creditors and counterparties, as appropriate.
That outcome would have been far preferable to the situation we find ourselves in now.
Second, the AIG situation highlights the need for strong, effective, consolidated supervision for all systemically important firms. AIG built up its concentrated exposure to the subprime mortgage market, largely out of the sight of its functional regulators.
More effective supervision might have identified and blocked the extraordinarily reckless risk-taking at AIG-FP. These two changes can measurably reduce the likelihood of future episodes of systemic risk, like the one we faced at AIG.
Thank you, Mr. Chairman.
FRANK: Thank you.
Mr. Bernanke, let me go back...
COLLINS: All right. There you have Federal Reserve Chairman Ben Bernanke, and also before him, Treasury Secretary Timothy Geithner, speaking before the committee today that we have been waiting to hear. We have the chairman, Barney Frank, now talking. And while we are waiting for the next moment here, want to go ahead and get back to CNN's Christine Romans to talk more about, Christine, what we have heard so far.
To me, it seems like maybe just a little bit of backtracking in order to tee up what they're trying to talk about today, which is going to be this new idea for regulation, like you've been talking about, resolution power. Talking about why they gave the money to AIG in the first place.
ROMANS: You know, I heard both of these gentlemen trying to speak to the American people, Heidi. You're right, backtracking a little bit to try to explain to them why we're here in this mess in the first place. The Fed chairman saying that we risked a 1930s-style global and financial economic crisis that would traumacally hurt everybody if we didn't go in and fix AIG.
And also, the Treasury secretary said one in three American workers works for a company who is insured by AIG or backed by AIG. If AIG were allowed to go down, I mean, that's 30 percent of the American working public, it could have hurt their jobs and their livelihood. They went on at length, both of them, with why your money market mutual fund, your job, your quality of living depended on what they did for AIG. So, I think they're trying to speak directly to the American people...
COLLINS: Yes, I do, too.
ROMANS: ... and say, we get the outrage on the bonus front, but we want to remind you why we did this.
COLLINS: Yes, and what AIG is, and what it stands for, certainly. We also just heard Ben Bernanke talking a little bit about the highlight. He's saying that all of this -- because he gave that big history lesson, if you will, and it really seemed to highlight the need for stronger supervision so that we're not in a situation again talking about systematically important firms. I don't know if everybody understands that term with regard to banks and bank bailouts.
ROMANS: Right. AIG is a systematically important firm. It is not a bank. It's an insurance company with this financial products unit. And there are other companiies that are hedge funds, insurance companies, that aren't necessarily banks, but that are financial firms, and they all fall under this alphabet soup of regulators. There's the OCC, the OTF -- I mine, I could go down the list of all these different firms.
Some regulate this part of it, some regulate this part of it, some of them failed miserably in what they were supposed to be regulating, quite frankly. And what the Treasury Department is saying is, we need to come in as the Treasury Department and be able to look beyond this entire regulatory infrastructure and be able to look at the systematically important firms, and we need to be able to figure out, do we need to just seize them? Can we renegotiate those pay packages? Can we scrutinize all of their risky portfolios and derivatives?
COLLINS: At what point do they do that? And what I was asking you before we got into the testimony here is, who exactly is going to do that? Who's going to make up this little team of people who decide, well, hey, it's getting too risky. We're getting close to sort of the breaking point, and now we're going to intervene?
ROMANS: There's no one to do that right now. That authority does not exist right now, and the Treasury Department is asking Congress to write them the law so that they can do it. I'm sure they have details on how they would want it to look, but it simply doesn't exist right now, which is why we're cleaning up these messes after the fact, they say, rather than going in and being able to prevent them. One thing that we know, Heidi, we know that for ten years there has been excessive risk-taking that has been unchecked by regulation, either because the regulators weren't doing it, the regulators weren't savvy enough or there wasn't proper regulation, or it was 1970s, '80s- style regulation in a 2006, '7, '8 market. All of that stuff has to be fixed.
And I will say that Henry Paulson, the prior Treasury secretary a year ago unveiled hopes for a big overhaul of regulation, too. He said at the time, we do not have a modern regulatory system to handle challenges, and that was well before the fires were really burning.
COLLINS: Is he going to come back? Is he going to come back and be the guy to write this?
ROMANS: No. I'm not sure that his idea of regulation is necessarily the same as his counterparts' in the Treasury Department today. There's different philosophies on how to do that regulation. But I think that there's no question, Heidi, that after the last 10, 15 years of excessive risk-taking, you will see more regulation.
COLLINS: Yes, absolutely. All right, CNN's Christine Romans, we will be watching this closely with you. A quick break here right now, as we continue to watch all of this testimony today. We'll be back in just a moment.
(COMMERCIAL BREAK)
COLLINS: While we continue to watch the hearings at the House Financial Services Committee today regarding AIG and the larger picture, this new regulatory power that they'll be asking for, we are also watching the Department of Homeland Security, Secretary Janet Napolitano talking about U.S.-Mexico border security.
Let's go ahead and listen in to some of that.
(JOINED IN PROGRESS)
JANET NAPOLITANO, U.S. HOMELAND SECURITY SECRETARY: ... doubling the number of law-enforcement personnel that are working in border enforcement teams along the border. These are called best teams. These are teams that combine state and local with ICE and CDP personnel. Every state along the border will now have BEST teams. New Mexico previously has not had one. But just to give you a sense of how effective they are, they have already made more than 2,000 criminal arrests and seized nearly 8,000 pounds of cocaine.
We are also strengthening Operation Armas Cruzadas. This is our operation where we work to seize arms that are going south to be used in this violent war in Mexico. Just this past week, March 7 through 13, we seized 997 firearms in one week that were going into Mexico, along with $4.5 million in conjunction with those firearms. So, that is under way.
We are tripling the number of Department of Homeland Security intelligence analysts located on the southwest border. We are increasing the ICE -- that's Immigration and Customs Enforcement -- attache personnel in Mexico by 50 percent. These will primarily be located in Mexico City, working alongside the attorney general of Mexico.
We will be increasing our efforts on what's called Operation Firewall. This is a Treasury-directed initiative. That's designed to interdict money laundering that is going back and forth between the drug cartels in Mexico and where they get the cash, which is in the United States. We are doubling the number of agents in our violent crime alien sections along the border. This is designed to prosecute violent recidivist aliens. We are quadrupling the number of border liaison officers. This is designed to make sure -- these officers work between us on the border and Mexican law enforcement on the border and make sure that things are properly coordinated and go smoothly.
We are bolstering technology and resources with a significant increase in our biometric identification deployment. What does that mean? What that means is, the capacity of state and local law enforcement on the border to run fingerprints on people they have apprehended that are in the jails and so forth, to make sure they've been run through the ICE databases, among other things, to identify whether they are criminal aliens. We are embarking on increased screening of...
COLLINS: A little bit of flavor there, coming to us from the Department of Homeland Security secretary, Janet Napolitano, who is actually going to be heading to Mexico next week, talking about U.S. and Mexico border security, and some new -- let's see, well, Operation Firewall just being one of the new ideas they have, trying to cut down on the violence and certainly on the power of the drug cartels there.
Also Secretary of State Hillary Clinton actually heading to Mexico tomorrow. So, we'll be continuing to follow all of that four, as well.
Meanwhile, on Wall Street, quickly want to get there, because the market's two-week rally is running into some problems, as you can see today. Stocks are pulling back, one day after the Dow surged 500 points, fifth-biggest gain ever, actually. Susan Lisovicz of the New York Stock Exchange now with details on this. We kind of thought that maybe those numbers would come down a bit today, but interesting as we watch the numbers and as we watch the House Financial Services Committee, yes?
SUSAN LISOVICZ, CNN CORRESPONDENT: That's right, Heidi.
I don't think that investors are hearing anything shocking here. Both Mr. Bernanke and Geithner are saying things that led up to the disaster at AIG. They're repeating a lot of their beliefs about what needs to be done, and that is that you can't have a disorderly, unwinding of a colossal company like the size of AIG.
So, what you're seeing in the meantime is the market giving a little bit back. And is what's encouraging here, and what's positive, frankly, is that you're not seeing stocks get crushed.
COLLINS: Yes.
LISOVICZ: Yesterday, the Dow surged nearly 500 points. Right now, we're seeing a relatively modest pullback after two weeks of gains. But let the pictures tell the story. The Big Board right now, you'll see the Dow Industrials are down 89 points after a big runup, 1,200-point runup over the last two weeks. The Nasdaq, meanwhile, is up -- is down, excuse me, nearly two percent -- Heidi.
COLLINS: All right. Well, Susan, we're going to continue to watch that alongside you, those numbers, as well as what is happening in the House Financial Services Committee. I believe we want to get back to some of those proceedings now as Timothy Geithner, the Treasury secretary, of course, is being questioned.
Chairman Barney Frank there doing some of that questioning, as well as other committee members. And that, I believe, is Mr. William Dudley. He's the president and chief executive officer of the Federal Reserve Bank of New York.
Let's go ahead and listen in a little bit more.
FRANK: Would you elaborate?
BERNANKE: Yes, sir, I have. I do think that it's very important that -- that compensation that -- links performance and reward appropriately and, in particular, does so in a way that does not incentivize excessive risk-taking, that makes sure that we don't get short-term compensation for long-term outcomes, and that in general is more consistent with both appropriate proportionality but also with maintaining the appropriate incentives for safe (INAUDIBLE) behavior.
And that was missing in AIG.
FRANK: And you think that should be done across the board with large financial institutions, whether or not they're receiving federal money.
BERNANKE: Yes, sir, I do. We have already undertaken that through the supervisory process.
FRANK: So that you think that lessens the -- the -- the possibility that people will get into trouble.
BERNANKE: It's an important issue for avoiding future systemic crises.
FRANK: Well, I appreciate that, because in 2006 and 2007, I was involved with legislation -- we had a hearing on it in 2006 when my Republican colleagues were the majority, and we petitioned under the rules for a hearing.
And then in 2007 we brought forward legislation dealing with executive compensation, at that point a more restrained form of it called "say on pay," and it became a very partisan issue. So I -- I do want to say we're probably going to revisit this, and we ran into a great deal of opposition, and it's apparently something that divides the parties.
There is a considerable view, particularly on the side -- on the Republican side, that we should not at all intervene in the questions of compensation unless we are talking about people getting federal money. We all agree that's a different category.
I was pleased to hear you say what you said, because it does seem to me that -- and we're not talking now about the amount of compensation, although you do mention proportionality, but the incentive structure of the compensation, that compensation which incentivizes top decision-makers to take risks unduly adds to the risks in the system.
And I -- I solicited that comment because that's one of the things we will be returning to, and there will be a debate this year in the Congress as part of our efforts to diminish systemic risk on whether or not the structure, the incentive structure, of compensation should be included.
And as I said, the last time that came up, there was a partisan debate. I hope there is less one.
Now, on the resolution authority, again, let me ask this directly, Mr. Bernanke. If the resolution authority had existed in September 1 of 2008, would AIG have been handled differently?
BERNANKE: Quite differently. The -- it could have been taken into receivership or conservatorship.
We could have -- this bonus issue would not have arisen, because all the contracts could have been adjusted by the conservator. As necessary, we could have taken haircuts against some of the counterparties without creating a default or disorderly situation.
So it's very similar, as you pointed out, to the way the FDIC would now handle an IndyMac, for example, and with some disruption, obviously, but not nearly the consequences of a failure of a -- disorderly failure of a large insurance company.
FRANK: Thank you.
The gentleman from Alabama?
BACHUS: Thank you.
Secretary Geithner, on September 14th, you and Secretary Paulson met with AIG to discuss Lehman's failure and their worsening condition.
GEITHNER: We had a series of meetings in the days preceding the action by the Fed on the 16th...
BACHUS: On the 16th, OK. GEITHNER: ... with AIG and a range of other financial institutions. As the chairman said, you know, the -- the world was going through a -- a...
BACHUS: Oh, yeah, I -- I understand that, but you met with them and as a result of that -- those meetings, September 16th there was a government intervention supervised and -- and coordinated and led by the New York Fed, and you were president of the New York Fed.
GEITHNER: I was president of the New York Fed.
BACHUS: At September 16th, the government became the 79.9 percent owner of AIG, is that -- that's correct.
GEITHNER: That is correct.
BACHUS: All right. Then there was a $85 billion government guarantee that went to AIG -- or funds, is that correct?
GEITHNER: That's correct.
BACHUS: Then on October the 8th, a good amount of that money was paid to the counterparties. is that correct?
GEITHNER: Well, again, the purpose of the intervention was to prevent default by AIG because the -- our judgment was the consequences of default would have been catastrophic to the American economy, and so...
BACHUS: Sure. I -- I understand that.
GEITHNER: So AIG was able to, as a result of the intervention -- to meet a full range of its obligations as a large complex financial institution.
BACHUS: Sure, I understand that. But what I -- what I am saying is that -- took over on September 16th, then on October the 8th began to pay the counterparties off.
GEITHNER: Well, again, throughout that period of time -- and this was critically important to the stability of the financial system -- we wanted to make sure AIG was able to meet its commitments.
BACHUS: I understand that, to -- and you -- to pensioners, to -- to retirees, to...
GEITHNER: Municipalities.
BACHUS: ... Municipalities.
GEITHNER: To banks.
BACHUS: But what I'm saying is within about two weeks these payments are -- or three weeks, payments were made to the counterparties. I -- I'm not...
GEITHNER: Well, I think probably within hours, technically.
BACHUS: Within hours, OK.
GEITHNER: Within minutes, probably.
BACHUS: All right. Within hours. Now, you know, there's been now a total of somewhere over $50 billion worth of these payments to counterparties. I'm -- I'm very interested in that.
I mean -- and we -- these payments to counterparties -- these were parties that took a risk in entering into agreements with AIG, were they not?
GEITHNER: Absolutely.
BACHUS: OK. And these were credit default swaps, securities lending, things of that nature, which you can lose money on.
GEITHNER: Well, any insurance contract written by AIG posed risks to the person who bought that insurance contract.
BACHUS: Sure. And a credit default swap is sort of a -- I guess you could call it a form of insurance. But what...
GEITHNER: (INAUDIBLE)
BACHUS: ... I'm saying is it was an agreement between two parties.
GEITHNER: (INAUDIBLE)
BACHUS: And AIG defaulted or as on the...
GEITHNER: AIG was...
BACHUS: ... verge of defaulting.
GEITHNER: Well, AIG was on the verge of default, so...
BACHUS: OK.
GEITHNER: ... again, any of the contracts AIG had with millions of people who bought insurance from it, from...
BACHUS: Well, I understand those people and those contracts with people, you know, retired teachers, et cetera. But now I'm focusing on the counterparties. Were they repaid 100 percent of everything AIG owed them, is that correct?
GEITHNER: I'm not sure if technically that's right. But, again, the purpose of the intervention was to ensure...
BACHUS: No, I'm not talking about the purpose of the intervention. I'm...
GEITHNER: No, but the result of the intervention was, AIG was able to meet its obligations under its full reach of insurance contracts.
