HR 1586

by hilzoy

Even though I am furious at the people who brought down AIG, along with all the other Masters of the Universe, I do not support the House bill that passed yesterday -- the one that would tax bonuses at 90%. For starters, it's badly targeted. On the one hand, it leaves out the incredibly troubling Merrill Lynch bonuses, along with any other bonuses paid before Jan. 1 of this year. On the other hand, it hits people who were just writing life insurance policies at AIG. Moreover, it also hits anyone AIG hires now. Suppose, for instance, that AIG were to hire Paul Krugman to supervise the liquidation of its Financial Products Division. And suppose AIG wanted to pay him a bonus if he did his job quickly and well. His bonus would be taxed under this bill, even though he had nothing to do with the financial crisis (which is why I picked him), and is being given a bonus for helping to solve it.

The bill would also allow firms receiving TARP funds to avoid the tax by simply paying their employees exorbitant salaries. Bonuses are bad, but exactly the same amount of money paid to exactly the same employee in the form of a salary is apparently fine. This seems exactly backwards to me. Part of the problem with the AIG bonuses was precisely that they were not tied to performance in any way: the people at AIG-FP, who had gotten enormous amounts of money when times were good, supposedly on the basis of their performance, locked down the same level of compensation when it looked as though their trades were about to go bad. Now, apparently, we want to give people an enormous incentive to decouple their compensation from performance in exactly the same way. Oh goody.

If that weren't enough, it seems likely to drive down the value of AIG generally, which will make it much harder for us to get the rest of our money back. 

Besides all that, it's spooking the banks needlessly. I want to emphasize the word 'needlessly' here. There are a lot of things I think we ought to do that would spook the banks. Nationalizing several of the large banks, for starters. Putting in place regulations that ensure that no company is "too big to fail", that depository banks and investment banks are different companies, that liquidity requirements are bigger and (preferably) countercyclical, etc. Regulating all types of financial services firms, including hedge funds, and all financial instruments, including derivatives. Setting up procedures to liquidate any companies that manage to become systemically important despite these regulations, procedures that ensure that their investors take a very serious haircut. Unless someone can explain to me why off-balance entities serve some useful purpose, I think they should be banned. So I am fine with spooking banks.

That said, no business does well when the rules are constantly changing all around them. A lot of the reforms I favor are aimed not just at making the rules better, but establishing predictable rules where none exist. The fact that we have been improvising ever since this crisis hit is a tremendous indictment of every preceding administration that could have set up mechanisms to deal with these sorts of problems but did not. 

If we want to spook the banks, then, I think we ought to do it in some way that actually solves a genuine and serious problem, and does it in an intelligent and targeted way. This bill is neither intelligent nor targeted. Moreover, while the bonuses are outrageous, they are not on my list of the top 100 things we need to worry about right now. 

I'd rather save my fury and use it to force serious, lasting reform of the entire financial industry, and save spooking the banks for something really worthwhile, like nationalizing Citi.

Comments

[publius]

i reluctantly agree -- largely because the overbroad application. it's just not a good bill.

but... the primary benefit is to get *the country* in a place to politically accept more sweeping reform. I sort of feel like this is how the House was supposed to work. it reacts quickly, provides a catharsis, and the Senate slows it down.

it's sort of the ideal of deliberative democracy in action -- and it doesn't hold up very much i think.

but generally speaking, bills passed in haste turn out bad.

[Tony P.]

HR 1586 accomplished at least one worthwhile thing: it got Eric Cantor(!) to vote for a 90% marginal tax rate. I'm not sure it was intended to accomplish much more than that.

The charge that it's "badly targeted" because "it hits people who were just writing life insurance policies at AIG" is valid, if you're thinking of people who were getting $250K salaries for "just writing insurance policies" and got bonuses on top of that. Leaving aside whether such people actually exist, leaving aside whether they 'deserve' their money, surely the fact that they are employees of AIG counts for something. Every company that ever went bust had people in it who deserved their pay. It was just their bad luck to have signed up with a losing team.

As for bailed-out companies raising salaries instead of paying 'bonuses', well: Nancy Pelosi can probably get half the House Republicans to vote for a 90% surtax on the raises, too. At least, she can make all the House Republicans vote on it:)

--TP

[Fledermaus]

I don't think serious lasting reform is possible at this point. The house bill maybe (ok, is) a boondoggle. But ocassionally you have to throw a wall street broker against the wall to show the rest you mean business.

[Debra]

I said in an earlier comment that this affair, the general anger directed towards the Wall Street brokers, and high level management, is essentially about ARISTOCRACY, and our general feelings about privilege in a supposedly "democratic" society.
We need to take this into account before throwing the brokers against the wall, collectively or individually, moreover.
We churn out endlessly the pabulum that we live in a "democratic" society (some of us do, anyway), and then we go and allow a financial aristocracy to rule us ?
Sounds like a good deal of "servitude volontaire" in my book...
I'm not hostile to aristocracy either.
But I DO believe that in any society, it's important to look carefully at what you're going to enshrine as VALUES in the aristocracy that you pick.
Frankly, an ideal of making the most mucho bucks possible is just not an ideal that I find tasteful, OR viable.

[Jared]

I have been reading the criticism of the house bill, how it was too broad in some ways and too punitively narrowly focused in other ways, and and how the tax code is the wrong tool for doing this kind of thing, and how firms could just raise salaries to get around it. And I agreed. Then I realised there was a kind of perverse genius to this method. AIG and the other firms have just had real wages slashed across the board, they now have the option of renegotiating wages with valued employees on a case by case basis. The others can take the pay cut or go pound sand, AIG has all the leverage. Liddy can start paying people what he thinks they are worth in 2009 without taking the political or legal hit for it, and Geithner's hands are clean too.

Nate Silver's blog says this law is wrong because valued employees at AIG and elsewhere are being punished along with the paper shufflers, but genuinely valuable people can just ask to renegotiate using one of the many loopholes. For the rest, they can repeat the mantra we have heard so much this week, "contracts are sacred, our hands are tied" :-)
Does anyone agree with my thinking?

[byrningman]

Part of the problem with the AIG bonuses was precisely that they were not tied to performance in any way: the people at AIG-FP, who had gotten enormous amounts of money when times were good, supposedly on the basis of their performance, locked down the same level of compensation when it looked as though their trades were about to go bad.

Since the bonuses were intended to retain key staff to help AIG weather the storm and unwind its businesses as best as possible, it makes absolutely no sense at all that the bonuses would be tied to performance. The company's performance is going to be terrible, that's the point, that's why we need to give these people an incentive to stick around.

Honestly, i really do think America is doomed now. The new administration, and congress at large, has enthusiastically chosen to indulge a nonsensical mob mentality. Although the passion is understandable, the substance of the mob's arguments -- this blog included, uncharacteristically -- don't amount to much. It seems likely now that the US government is going to fatally mismanage those firms it has invested heavily in, basically rewinding the clock 12 months but having spent an enormous amount of money in the interim.

It's looking like the worst investment that the American people (and a substantial number of foreigners like myself) have made over the past year is the staggering sum of billion dollars they paid to elect Obama.

[byrningman]

I look forward to congress next passing a law stripping retired auto workers of the pensions and medical benefits they agreed to many years ago. After all, not only is it intolerable that these people should continue to live in idle luxury while the auto manufacturer's are on taxpayer-funded life support, but eliminating these costs will actually make a real positive difference to the performance of those companies (unlike AIG bonuses).

[von]

Even though I am furious at the people who brought down AIG, along with all the other Masters of the Universe

(Emph. mine.) You mean, like He-Man and Battlecat? I get anger at AIG. I get anger at Barry M. and others. I get anger at execs at CitiBank. But this free-floating anger at the "Masters of the Universe" -- is that everyone who works in finance? -- I don't get.

I particularly don't get why it's coming from you, Hilzoy. You're usually very good at being specific in your criticisms (even where I disagree with them). These kinds of statements seem more appropriate coming from Glenn Beck or Lou Dobbs.

I'd rather save my fury and use it to force serious, lasting reform of the entire financial industry, and save spooking the banks for something really worthwhile, like nationalizing Citi.

The Pottery Barn rules applies here, just as it applied in Iraq. Be careful what you ask for.

On a broader, more meta level regarding HR 1586: I agree with Hilzoy's criticisms. I am getting the same sense now as I got after 9-11. Folks are panicking. Just as happened post-9/11, it's leading to overreaction and bad policy.

The lesson of 9-11 and the current financial crisis is not that everything changed. It's that nothing changed: the rules we felt no longer applied to us still do. The world is more complex, difficult, and dangerous than we gave it credit.

[byrningman]

The lesson of 9-11 and the current financial crisis is not that everything changed. It's that nothing changed: the rules we felt no longer applied to us still do. The world is more complex, difficult, and dangerous than we gave it credit.

Amen.

[Johnny Canuck]

VON: "Hilzoy. You're usually very good at being specific in your criticisms (even where I disagree with them). These kinds of statements seem more appropriate coming from Glenn Beck or Lou Dobbs."

Von, I second your motion. I have been reading Hilzoy for about 6 months-and usually agree with her posts and/or are enlightened by them.
Your analogy to 9/11 resonates with me. good. Many now recognize how this blind rage was used to start a war against Iraq- even though Iraq had nothing to do with 9/11; fewer recognize that it was used against Afghanistan- invading while the Taliban govt was still deciding whether or not to expel bin Laden. Who knows what the outcome would have been.

I'm not trying to divert the thread but just expand on your analogy.

Americans are incredibly impatient, and more so when riled. "Economic arson" was the term quoted in Nocera's NYT article to describe Congress's behaviour towards AIG.

Calming the mob mentality is what is most needed.

[byrningman]

The madness is scary. People object to these retention bonuses on the basis that the people at AIG and other troubled companies are easily replaceable, yet by retroactively taxing their compensation, the government is sending the signal that only the most desperate financier would even consider working at a firm with government involvement now. Any terms you come to are literally not worth the paper they are printed on.

Quite apart from the fact that a good number of those getting bonuses are part of the solution, not the problem, and that even the bad eggs are most likely being paid off to go away quietly without any fuss. The latter phenomenon certainly irritates, but it's for the greater good.

[Johnny Canuck]

byrningman: " Although the passion is understandable, the substance of the mob's arguments -- this blog included, uncharacteristically -- don't amount to much. It seems likely now that the US government is going to fatally mismanage those firms it has invested heavily in..."

"It's looking like the worst investment that the American people (and a substantial number of foreigners like myself) have made over the past year is the staggering sum of billion dollars they paid to elect Obama."

I agree with your first paragraph, but think (hope) you are premature on the second.

While I was disappointed that Obama didn't face the mob on the AIG bonus issue, I noticed that he quickly turned it towards the broader issue of executive compensation and the need for regulatory reform.

Numerous times during the campaign Obama's judgment to refrain from direct attack proved correct. I trust his judgment now.

i am struck by the pressure the media applies to insist on a plan now. Then when they see the plan, attack the plan. If you're taking time to develop the plan, why haven't you published the plan.

Instant solutions may not be available to complex problems. (A bit like Ron Weasley's disappointment in the last Harry Potter book
that Harry didn't have a plan.)

Like Von, reminding us of the Pottery Barn analogy, I'd rather go with someone taking time to develop a good plan, rather than seizing the first idea and running through the Barn inadvertently causing havoc.

[liberal japonicus]

Calming the mob mentality is what is most needed.

How, precisely, does one do that? The standard trope in the Western is the sheriff meets the mob and says well, you may get to lynch the guy in here, but you are going thru me first and I'm going to take at least as many people as I have bullets. Who plays sheriff? As distasteful as this may sound, the american public wants blood, and it's not going to be satisfied until it gets someone's. The people who can say I told you so in regards to Iraq and Afghanistan haven't, by virtue of hindsight, been recognized for their acumen and insight. I suspect that the same is going to be true for those who argue that the american people should look less for revenge.

[Johnny Canuck]

"Who plays sheriff?"
Liberal japonicus, that is Obama's role. but it is hard when your deputies in Congress have joined the mob. I think he recognized that he couldn't over come the mob instantly. I'm hoping that voices of reason will start to be heard and cool the mob, so the sheriff's voice of reason can be heard and stop the riot.

[publius]

byr - doesn't happen much, but i disagree with basically every thing you've written in this thread.

the more i think about it, the more i completely reject the idea that AIG employees are such indispensable geniuses that only they have the knowledge and incentive to fix all this. i don't think they have either. and ignorant people couldn't possibly do worse.

what's the quote - "the cemeteries of the world are full of indispensable men."

and besides, it's the lack of FEAR of a 'mob mentality' that led to the lax oversight and CEO worship that got us into all this. our nation is so ridiculously pro-corporate that mob mentality doesn't threaten the french revolution -- it just provides some small correction to the center of gravity. hell, the senate is going to water down completely - and that's probably good.

as for the suggestion that obama was worse choice than mccain, it's hard for me to believe that's what you meant.

[KCinDC]

Byrningman, since Geithner and Summers and the other people advising Obama seem to agree completely with you that the Wall Street geniuses really are as good as they think they are, I'm not clear on what is making you so worried that you now think you'd prefer John "Government Spending Freeze" McCain.

[Yarrow]

I don't like the bill either -- why not tax all income over $250,000 at 90%?

We can't possibly pick out the deserving rich from the undeserving rich at this juncture (if we ever could; if there ever have been any deserving rich). So let the bailout roll. Then tax it all back.

[hilzoy]

The thing is, I think there is an argument for thinking that the people at AIG-FP, or some of them at least, are not readily replaceable. It goes like this:

Those people have (at least) two kinds of useful knowledge. One is knowing how to structure a derivative, and so forth -- general knowledge. I assume they're good at this, which is not the same as saying that they're good at assessing risk (plainly, the ones who got us all into this are not), etc. But they are probably good derivatives technicians. And this, I assume, is replaceable in the current economy.

The second bit of useful knowledge is knowing exactly how AIG's derivatives, in particular, were put together. This, I assume, is not replaceable.

A lot depends on how important this second bit of knowledge is. If custom derivatives are as complicated as they are made out to be, it might be quite important.

Paying for that knowledge, and thus rewarding the people who did this, flies in the face of ordinary notions of fairness. It's like paying someone who created a minefield and then put your child in the middle of it to defuse the mines. But it might nonetheless be a good idea, if you want your child back, and if this person is the only one who knows just where the mines are.

[Johnny Canuck]

KCinDC: I look forward to Byrningman's response to your post, but would suggest that you may be misinterpreting him. He doesn't say he prefers McCain just that Obama hasn't made a difference. Even if this is his meaning I think he is wrong.

Again I'm not sure anyone is saying the Wall Street geniuses are as good as they thought they were, but rather that the problem is very difficult and you need to be really careful. The normal word picture is usually shoot yourself in the foot, but think rather of blasting a hole in the bottom of the rowboat. We're in the rowboat too. So let's be careful.

[byrningman]

Pub - I'm not saying serious housecleaning is required in the near-medium future, but I'm talking about practicable and sensible strategies for dealing with what remains a very dangerous situation in the financial markets. A lot of governments have spent a lot of money in an effort to restore market confidence -- and by market confidence I don't mean the average punter sitting at home who fancies a bit of a dalliance in retirement funds, I mean Big Finance who need to start doling out big loans again to restart economic activity.

The opinions of Wall St, the City of London, Frankfurt, Tokyo etc. matter a very great deal, because if they take fright at the government's involvement in these big beasts like AIG that we have deemed 'too big to fail', then they'll take what toys they have left and go home.

We can get back on the financial armageddon train again any time if everyone believes AIG is being run into the ground, and that it will bring down other big beasts with it.

[John Ballard]

You're on to something important, but it's bigger than this one bill.
The time is here for a return to multiple tax tiers.
Congress got it right for the most recent examples of Avarice Gone Wild.
If they will calm down enough now to connect the dots, our elected representatives will see that what happened over the last twenty-five years has resulted in a near-fatal harvest of unintended consequences.
It's time to set things right and return to a meaningful update of the Sixteenth Amendment.

Nouriel Roubini had it right when he said (last week in Forbes)
Madoff may now spend the rest of his life in prison. U.S. households, financial and non-financial firms, and government may spend the next generation in debtor's prison having to tighten their belts to pay for the losses inflicted by a decade or more of reckless leverage, over-consumption and risk-taking.

Americans, let us look at ourselves in the mirror: Madoff is us and Mr. Ponzi is us!

[byrningman]

Publius: i completely reject the idea that AIG employees are such indispensable geniuses that only they have the knowledge and incentive to fix all this. i don't think they have either. and ignorant people couldn't possibly do worse.

I just feel like this is a nice thing to say, but deep down everyone here knows it's not true. First off: qualified people are in short supply. Has it occurred to anyone that all those newly-jobless financiers who you think can just be thrown into AIG or elsewhere are jobless for a reason? They are either low-level or they've been ditched for running other companies or divisions into the ground. Basically, you'd replace the guys running AIG with the guys who ran Bear. Great result.

Talented people who've produced good results throughout recent years are ALWAYS in hot demand: they are being offered big money at those firms not on government life support, and you're dreaming if you think you can tempt a significant number of them to come work at a dead-end AIG and run the risk of being shafted by pols and the mob to boot.

Besides, the fact remains that a good number if not most (none of us knows for sure, which is surely why we should err on the side of NOT throwing faith in contract law out the window) of the 400-odd bonus recipients at AIG were not involved in credit default swaps, and are thus part of the solution, not part of the problem.

[Johnny Canuck]

"The second bit of useful knowledge is knowing exactly how AIG's derivatives, in particular, were put together. This, I assume, is not replaceable. A lot depends on how important this second bit of knowledge is. If custom derivatives are as complicated as they are made out to be, it might be quite important."

Hilzoy, as I understood Liddy's testimony, AIG FP are not writing new derivatives (the easily replaceable knowledge); they are managing the liquidation of the existing very complicated portfolio.

The credit default swaps -the minefield that exploded- have already been liquidated. Those were the bad guys; their are is gone.

You seem unwilling to believe this and want to put the people who wrote derivatives and the people who wrote credit default swaps in the same box. You don't strike me as the type who stereotypes all members of a broader group. Perhaps you know something I don't. Can you point me to it?

[byrningman]

Hilzoy - I think you don't appreciate how finance is both a very complicated and very personal business. Units operate quite autonomously and are inherently secretive both in order to protect the confidentiality of their clients and in order not to give away their competitive secrets (which can involve both highly-sophisticated and expensively-developed formulae and personal contacts and relationships) to competitors in other companies and in the office next door. When someone is headhunted by another firm or group, he or she typically brings their business with them.

Now consider that anyone new taking over has to acquaint themselves from scratch with someone else's setup. They've probably got little to work with, as not only did the last person not leave a lot of instructions, he or she was probably escorted from the building on being sacked/terminated without even being allowed to go back to their desk or say goodbye to anyone.

Furthermore, everything is constantly changing everyday, demanding constant attention and action. What are the changes of the new person making a costly mistake from lack of familiarity with their new brief? And what do you think he or she then fears happens in the current environment? They'll find themselves pilloried in the press in all likelihood by mob who knows little about what they speak and by business journo hacks who would be in business themselves if they actually had an confidence in their own insights.

[byrningman]

The credit default swaps -the minefield that exploded- have already been liquidated. Those were the bad guys; their are is gone.

Yes. Doubtless a great many of the bad guys have been bought off to go away easily and quietly, which sucks enormously, and sure there's some who've survived the axe. But it's crazy to think that these firms, by and large, are in the habit of sticking determinedly with people who've just cost them a great deal of money, that's the opposite of how finance works.

[hilzoy]

byrningman: my second point was supposed to basically be the one you made, but perhaps I was unclear.

[von]

Byrningman is making some very good points. A lot of the criticisms of even the money being paid in AIG bonuses -- something that I personally deplore -- are unsophisticated. Which is to say, they are wrong in important ways. When the criticisms get expanded to a broader or different category (Citi, the so-called "Masters of the Universe"), the errors are magnified to the point that they overwhelm whatever helpful criticisms are being made.

[byrningman]

Actually, I'll tell you where the biggest flops end up: working for the government. That's why we should be very afraid - it's the guys who got us into this mess who are now running the regulatory shop. There's so much tragic irony in all this it's hard to know whether to laugh or cry.

In contrast, given the last 24 months of so of vicious pruning, the average quality of financial professionals currently in operation in private industry has probably never been higher. If they've dodged the axe so far, they're almost certainly much better at their job than some clowns the government will hire.

[byrningman]

Byrningman, since Geithner and Summers and the other people advising Obama seem to agree completely with you that the Wall Street geniuses really are as good as they think they are, I'm not clear on what is making you so worried that you now think you'd prefer John "Government Spending Freeze" McCain.

Well, it seems like there's a good chance Geithner's not going to last long in the job. Summers seems to me to have a great deal of culpability for the current mess. See my post above about government being the last refuge of scoundrels.

As for McCain as opposed to Obama? Who knows, it's a counterfactual. My point is that the American people paid a lot to give Obama the job, and so far his performance with regard to the financial crisis is very poor. I'm very willing to give him the benefit of the doubt, as it's early days still, but at some point in the not-to-distant future we'll have to stop making excuses based on a new administration, old administration's problems etc.

Do most people realise here that the economic policy posts of the administration are still massively understaffed? There's almost nobody answering the phones at the Treasury. It always takes a while to hire people for a new administration of course, but I would think that the obvious difficulties the president is having finding people for the job would tell us all that it's really not that easy to find super-talented people to take over AIG.

Look, the last Dem prez's (Clinton) culpability is probably comparable to Bush 2's for this whole mess, so let's not assume that Obama's party ticket is somehow a magic bullet.

[byrningman]

Hilzoy, sorry I misinterpreted you, I've read you again now and see what you mean.

I'm going to stop drowning others out now, but I just want to summarise my basic argument thus (along the lines Von just did): much of the criticism of the bonuses is misguided, but even where it's not, it's just not very important in practical (not moral) terms of dealing with the big issues.

[KCinDC]

Byrningman, I agree completely with your 11:15 comment. I'm just having difficulty mustering the level of confidence you have in the ability of the financial system to identify the competent people and the right policies, considering the manifest evidence of its horrendous failure to do those things over recent years.

I'm not assuming that being a Democrat means Obama is perfect. My point is that the election wasn't between Obama and some ideal possible president. It was between Obama and McCain, and if McCain's performance during the campaign is any indication, then as president he would be lurching from one ill-considered stunt to another. Surely whatever problems market confidence is having now are nothing compared to what we'd have under those circumstances. But there's not much point worrying about counterfactuals.

[d'd'd'dave]

The house voted to give these bonuses in the stimulus bill. Now they are voting to take them away through taxation.

Where is the outrage that should be directed at the Lying SOB congress? They give. Then they demonize. They they take away.

What is wrong with you people?

Your money wasn't involved in this until congress put it in via the bailout. Congress screwed you, not the AIG folks. The AIG folks blew their investor's money and their customers. That's unfortunate in the extreme. But buyer beware applies.

You should be outraged at congress. They're the ones that hurt you.

[d'd'd'dave]

Publius the brownshirt:

"the primary benefit is to get *the country* in a place to politically accept more sweeping reform."

Beat them up ... kick them around ... break some storefront windows ... then they'll go along.

[byrningman]

KCinDC, yes I largely agree with you. McCain certainly did not impress me.

I was just trying to combine the observation that Obama has been a bit ropey on the economic crisis with an axe I have to grind about the nature of his election, which I admit is off-topic.

Now, I donated money to Obama's campaign, but I am deeply disturbed that his campaign war-chest eventually rose to $1B, or so we are told. I do think that the huge sums of money involved in American politics are very corrosive to the spirit of the democratic process, and I also think that many of America's ills in recent years are due to failures of the democratic process.

Therefore, I quite seriously ask the question: 50 or 100 years from now, which will seem the most truly historical significant aspect of Obama's election -- the colour of his skin, or breaking the billion-dollar barrier? If America is indeed entering a bleak period comparable to the 1930s, is not the expensive nature of Obama's election somehow symbolic of an era of asset price inflation and unsustainable excess in general?

[d'd'd'dave]

//I don't like the bill either -- why not tax all income over $250,000 at 90%?

We can't possibly pick out the deserving rich from the undeserving rich at this juncture (if we ever could; if there ever have been any deserving rich). So let the bailout roll. Then tax it all back.

Posted by: Yarrow | March 21, 2009 at 10:27 AM//

Let's run our society this way: Each of us will eat the one in front of us in line. That will be a good society won't it?

[Tony P.]

The house voted to give these bonuses in the stimulus bill.

Somebody on the internet is WRONG.

--TP

[d'd'd'dave]

TP

Are you referring to me?

[d'd'd'dave]

TP
http://www.foxnews.com/politics/first100days/2009/03/20/maxine-waters-demands-obama-clarify-aig-bonus-provision/

Maxine Waters: "I didn't read the bill I voted on and now I'm mad that there was something in it I didn't know about ... who can I blame? I'll blame Obama. I sure as hell won't blame myself."

[Johnny Canuck]

Posted by d'd'd'dave: "The house voted to give these bonuses in the stimulus bill. Now they are voting to take them away through taxation."

A little simplistic. Dodd crafted a bill to prevent bonuses by companies who received TARP money. Treasury said this may be subject to court challenge because it applies retroactively. Dodd said OK we'll change it so it only applies going forward.

It would be interesting to know whether the people in Treasury giving this advice were the people in Treasury aware of the AIG bonuses. I'm inclined to believe Dodd that no one pointed this out to him. If they had he would have found a way to cover his backside much more effectively.

I think Congressmen much more likely to be over their heads than lying on this issue.

[publius]

i don't know -- bernanke got up recently and explained (quite correctly) that the compensation structures are completely off-base. They reward short-term with no regard for long-term. Those structures create externalities that are now biting us in the butt.

if this sort of rabble rousing generates a reassessment of these structures, then great.

more generally (and moving beyond the AIG sideshow), i think people are overestimating just how radical all this is. Our country is ideologically, structurally, and politically pro-capital. it's going to stay that way.

the larger point is that our policy is and has been out of whack and recent developments are moving in a direction where it needs to go (even if it's just raising top marginal rates). the chamber of commerce has dictated economic policy for 8 if not the past 30 years. for once, politicians now feel like they have the cover to resist their preferred policies.

for instance, how do you think a vote would turn out right now on what level to tax hedge fund managers earnings? That's the point -- this is going to help correct other policies. And even these new reforms/laws aren't going to be so extreme to trigger some sort of capital flight, as if we were Venezuela or something

this isn't the french revolution, but there is a benefit for Wall Street and others to make it look like that. look, it's going to sound messy. and at the risk of sounding too marxist, any alteration of existing economic arrangements is. but it's actually a very small and much welcome alteration (we hope)

[publius]

on the last point, that's why the EFCA is such a dogfight. there's actually something tangible at stake.

[KCinDC]

for instance, how do you think a vote would turn out right now on what level to tax hedge fund managers earnings?

Yes, eliminating the unconscionable special treatment of those commissions is one of the benefits I'm hoping this anger makes possible. But a bill to fix it will have to be brought up some time before the anger cools, allowing Chuck Schumer to pull things together to derail the fix again.

[byrningman]

Publius: bernanke got up recently and explained (quite correctly) that the compensation structures are completely off-base. They reward short-term with no regard for long-term.

Oh I agree that the compensation and bonus structure seems to have been totally skewed toward short-term profit at the expense of long-term instability. My first comment on that, though, is that shouldn't we expect short-term profit to be the determining driver of (most) players in the financial game? I think this incentive structure would not be a problem if the people at the top, both within companies and at the regulatory level, had set rules of the game that took this into account. Just as we shouldn't expect an auto worker's union not to seek the best possible deal for its members even if that seems difficult for the company to sustain, we should not expect bankers not to go after profit on the table. Ultimately, I stand by the judgment that the real villains are at the top of the foodchain, in the companies but also above them, in government and the regulatory bodies.

But my more pertinent observation is that the AIG retention bonuses we are discussing here are not typical of the bonus structure over the past few years: these bonuses were intentionally not tied to any short-term achievements, but were designed in order to guarantee that key staff stayed on board as the company looked into the abyss.

Thus, while there are very legitimate arguments to made about the bonus culture in general, the AIG bonuses seem to me to be *precisely* the wrong ones we should be criticising.

[publius]

i think you have distinguish b/w the AIG bonuses. if it's to keep people on board an otherwise sinking ship, fine. but a lot of the undisputed "bad guys" negotiated for bonuses totally free from performance. that seems to be the issue.

now, it's not the government's place to dictate salaries. but... unlike auto worker salarires, these compensation structures inflicted a great deal of pain on the global economy. it seems like *threatened* political action is arguably even more effective than trying to deal with these structures from a regulatory point of view (there is a place for regulation, but not here).

i can't remember where i read it (yglesias maybe), but silicon valley doesn't adopt these type of compensation structures and it's be a net good for all.

maybe the lurking threat is a good thing -- superior even to actualy intervention

[byrningman]

By the way, publius, I think it's funny how, living in the honest heartland, you're morphing into a yanqui Hugo Chavez (or at least a Peron), while I, in the shadow of the City of London, find myself serving as waterboy to the pinstriped pirates.

[now_what]

But my more pertinent observation is that the AIG retention bonuses we are discussing here are not typical of the bonus structure over the past few years: these bonuses were intentionally not tied to any short-term achievements, but were designed in order to guarantee that key staff stayed on board

You keep saying this but it isn't true. Some of these bonuses are going to be paid to people who have already left AIG. How does saying, "We will give you a million dollars next year whether you are here or not" guarantee that key staff stay on board? It doesn't and they haven't.

The bonuses are being paid for the same reason they have always been paid - because the management of these firms is in the business of looting a business sector that has returned zero percent to its shareholders over the course of several decades.

The current financial emergency is a much larger threat to the US than any foreign war has been over the last 50 years. If these workers are truly essential, let's reinstate the draft, conscript them, and have them report for work at a private's pay, with a quick trial and firing squad for any deserters or derelicts. It doesn't always have to be all carrots, you know.

[publius]

byr - funny. on that note, maybe you could send me a "Hot 4 Trotsky" T-shirt. They're hard to come by in Texas

[TJ]

Thus, while there are very legitimate arguments to made about the bonus culture in general, the AIG bonuses seem to me to be *precisely* the wrong ones we should be criticising.

We'll see. If you and J. Canuck are correct, AIG will not require any more bailout money, ever, and will shortly start showing a profit. According to Liddy, there are no more CDS, so everything is hunky-dory. If they require more money and "another mistake was made" then I believe you'll see what real mob rule looks like. I'm just not sure that the mob will be the American public or the counterparties who get stiffed, looking for blood.

[Johnny Canuck]

Posted by now_what: You keep saying this but it isn't true. Some of these bonuses are going to be paid to people who have already left AIG. How does saying, "We will give you a million dollars next year whether you are here or not" guarantee that key staff stay on board? It doesn't and they haven't."

You are like someone who missed an episode in a serial. My only source of information was listening to all of the testimony of Liddy before Congress.

This is what I understand to be the story. Early 08 AIG FP realizes it is in big trouble. To prevent rats and others leaving sinking ship offers bonuses equivalent to annual salary if they will stay on.
Liddy takes over in September, mandate for these employees is to wind up portfolio they are managing and then depart. some did so quickly. Entitled to leave and get paid their bonus March 09. Some still working on their portfolio

So the statement was made early 2008
"We will give you a million dollars next year if you stay until your responsibilities are cleaned up."

[Johnny Canuck]

TJ:"We'll see. If you and J. Canuck are correct, AIG will not require any more bailout money, ever, and will shortly start showing a profit. According to Liddy, there are no more CDS, so everything is hunky-dory.

Not quite. I'm just in the don't shoot the sheriff you sent in to clean up the mess. Liddy said all credit default swaps gone; derivatives portfolio of $1.6 trillion being wound down over two- three years; if no further deterioration in market loss on this only $2billion. Sale of other AIG operating entities dependent on market of buyers with capital. If Congress et al continue to commit "economic arson" and degrade the value of AIG name maybe you won't get all your money back.

[TJ]

If Congress et al continue to commit "economic arson" and degrade the value of AIG name maybe you won't get all your money back.

"Degrade the value of AIG name"????? Now I think you're a spoof.

[Josh G.]

A mob mentality is precisely what we need, as the antidote to the last 29 years of right-wing complacency.

I *want* these sociopathic scam artists to be afraid for their lives. I *want* Wall Street to run red with the blood of bankers. A few hangings from lampposts would have a salutary effect on American political culture. Thirty years from now, when bankers even *dream* about putting together another scam, I want them to think of the Wall Street Riot of 2009 and reconsider.

More than that, I want the Overton Window moved to the left. Maybe a 39% top marginal tax rate - or even higher - won't look too extreme when the alternative is street justice.

Arguing about the specific merits of the bonuses is 100% missing the point. The American people are incandescantly angry because they realize everything they have been told about capitalism for the past several decades is a lie. Wall Street is a gigantic fraud, and there is no risk for the wealthy and well-connected, and no relief for the ordinary working man. And the realization has come that the system must be turned upside down if we are ever to have a decent life in this country again.

[Johnny Canuck]

"Degrade the value of AIG name"????? Now I think you're a spoof.

Would you want to work at any AIG entity? Presumably the better people have the best chance of switching to other insurance companies? Outraged clients may express their displeasure by switching to other companies.
Normally, this would be a good thing- you perform badly, disgracefully, company should be punished. The shareholders should bear the loss. But who is now the big AIG shareholder you want to punish? the American taxpayer.

Just as for several years after 9/11 it was a state secret that George Bush was a lazy incurious idiot, so to, until AIG was sold off, it should have been a state secret that it wasn't the best example of American capitalism. The tragic part, if Liddy is right, is that the regular insurance parts of AIG were as good as any. The problem was the AIG FP group that did all the damage.

[Johnny Canuck]

Josh G., Wouldn't it be better to right the fleet, get to shore and then punish the bad guys? Just on the AIG ship alone you have between $79 billion and $170 billion of cargo. It is your cargo, not theirs. What is really in your collective self interest?

[now_what]

Early 08 AIG FP realizes it is in big trouble. To prevent rats and others leaving sinking ship offers bonuses equivalent to annual salary if they will stay on.

If they did what they did knowing that bankruptcy was likely in the short term, that is evidence of fraud, and is reason enough to stop any bonus payments.

But your argument here doesn't make sense. Here is what we are being told:

1) It was a very small division of AIG that was the problem, and the rest of the company was doing fine.
2) The bonuses needed to be paid so the small number of people who knew the precise details of that very small division would stay a few months to wind down its investments.
3) A very large number of people were paid the bonuses.

Something there isn't true.

[Gary Farber]

Publius the brownshirt:

"the primary benefit is to get *the country* in a place to politically accept more sweeping reform."

Beat them up ... kick them around ... break some storefront windows ... then they'll go along.

d'd'd'dave, meet Mike Godwin. Mike Godwin, meet d'd'd'dave.

[KCinDC]

Now_what, if the entire company is in trouble, then it wouldn't be just the people in the division that caused the problem that would need an incentive not to jump ship. Also, Johnny is saying that the people in the problem division who are getting the bonuses are not the people who caused the problem but the people who are cleaning up after them. I don't know whether it's true, but it's not illogical.

[KCinDC]

d'd'd'dave, meet Mike Godwin. Mike Godwin, meet d'd'd'dave.

More like "d'd'd'dave, meet pie filter."

Shouldn't someone with such an extensive real estate empire have better things to do than trolling blog comments?

[Josh G.]

Johnny Canuck: "Josh G., Wouldn't it be better to right the fleet, get to shore and then punish the bad guys? Just on the AIG ship alone you have between $79 billion and $170 billion of cargo. It is your cargo, not theirs. What is really in your collective self interest?"

The problem is that if we "right the fleet" and "get to shore" then the "bad guys" will be back in control and we will not have a chance to stop them from going back to their old ways. History has shown that only a crisis situation can force reform in our dysfunctional federal system.

The political power of Wall Street must be decisively crushed. Only sustained public rage has any chance of accomplishing this. The path of least resistance for politicians (especially Senators) is to take money from the fat cats and vote in their interests. Even now, the Senate has declared mortgage cramdowns DOA. They are fine with bailouts for the wealthy malefactors who caused this mess, but not for middle-class homeowners.

Reform in the U.S. will only happen when the propertied classes fear that the consequences of not doing so will be even worse.

[Johnny Canuck]

The bonuses needed to be paid so the small number of people who knew the precise details of that very small division would stay a few months to wind down its investments.
Something there isn't true.

Posted by: now_what

1.Entity in trouble is AIG FP 400-500 employees
2. Had three segments to its business
3. the one that caused trouble Credit swap defaults - 20 people

4. Need to wind down all three segments

still need the people who are unwinding the derivative segment of the business. Liddy testified contracts very unique and steep learning curve. Need daily monitoring and risk assessments. Liddy testified would take 2-3 years. He based this on experience of Warren Buffet winding down a similar business of 1/3 the size.

[Johnny Canuck]

Josh G. You may very well be right. My focus has been exclusively on AIG. I watched an afternoon in which ignorant Congressmen ranted at Liddy, the guy govt appointed last year to go in and clean up mess.

Appeared to me as if Fed Reserve had signed off on all of Liddy's decisions- they had representatives at all meetings. Given Liddy's mandate to wind down AIG and recover taxpayers investment, the rage appeared to me misdirected.

Obama came to office facing monumental challenges. It appears he decided to let the establishment approved guys handle the banking crisis (by appointing Geithner), while he tackled the rest of the universe. May turn out to be a very unfortunate decision.

[TheWesson]

KING MOB (the voice of moderation)

I don't think we should let King Mob rule the country, but I think Obama should invite King Mob to the White House to discuss shared interests, and then afterwards King Mob could take a tour of Wall Street and meet some bankers, financiers, and bond rating agents, in order to offer some perspective on current events.

[TJ]

He's gotta bring Ragged Robin and Lord Fanny with him.

[matth]

Hilzoy,

Re: Why off-balance sheet entities

I'm no expert in this.... Off-balance-sheet entities are actually useful, though. The crisis showed that regulators weren't imposing sufficient capital requirements against banks' implicit and explicit contractual ties to the SPVs, not that SPVs are all bad.

An off-balance-sheet entity (commonly called "special purpose vehicles," or SPVs) is usually a shell company that holds assets and that, in effect, sells the assets to third parties. The "sale" might take the form of bonds issued by the SPV to the buyers. The SPV gives the proceeds of selling the bonds to its parent (which we'll call "the bank").

Why is this useful? Because the assets might be something like mortgages that are payable to the bank. The bank has to hold capital against the mortgages, but not against the cash the SPV gets from selling the bonds.

Though you'd think the cash the SPV gets should basically equal the face value of the mortgages discounted by the capital requirement, that won't always be so. Maybe, for example, the regulatory capital requirements are set too high. You could change the regulations so banks get to negotiate with regulators and convince them to lower the capital requirements on a case-by-case basis: but we're suspicious of whether the regulators will stand up to the banks during a bubble. You could say: screw the banks, let's just impose a flat capital requirement. But then the banks won't want to make loans that aren't risky enough to justify the capital requirements.

[hilzoy]

matth: what I have never understood, not being a finance type, is why, if the bank (or whatever) still basically controls the mortgages (or whatever) in the SPV -- if these are still basically (if not technically) its assets -- it should not have to hold capital against them.

I mean, I always thought that balance sheets ought to contain a company's assets and liabilities, and that setting up entities that allow companies to move things off their balance sheets in any way other than by actually selling them (or giving them away) indicates either something dodgy or a problem with the regs.

[matth]

Let me re-iterate my lack of expertise, but here's my understanding: It comes down to what it means for the bank to still "basically control" the mortgages.

In the most extreme case, the bank has no residual interest in the SPV's assets, and has no obligations to the SPV. There, the bank clearly shouldn't be obligated to hold a capital reserve against the cash it got for the mortgages.

In reality, we saw lots of weird hybrids. Banks extended contractual guarantees to SPVs. Banks implicitly promised to provide additional support to the SPVs. Banks often retained some residual ownership interest in the SPV.

So from an accounting perspective, the bank has an asset (cash from the SPV) and some difficult-to-quantify liabilities (contractual guarantees). From a regulatory perspective, the bank's cash is no longer risk-free; there is some credit risk associated with it, which should trigger a capital reserve requirement.

Since SPVs are genuinely useful, my hope would be that regulators can make banks' contractual relationships with SPVs trigger stricter regulatory capital requirements, separating the legitimate SPVs from the regulatory arbitrage.

BTW, anyone interested in this should look at Gary B. Gorton, The Panic of 2007 (Nat’l Bureau of Econ. Research, Working Paper No. 14358, 2008), from whom I'm cribbing most of this.

[hilzoy]

matth: thanks. ;)

[Bernard Yomtov]

Matth,

An off-balance-sheet entity (commonly called "special purpose vehicles," or SPVs) is usually a shell company that holds assets and that, in effect, sells the assets to third parties. The "sale" might take the form of bonds issued by the SPV to the buyers. The SPV gives the proceeds of selling the bonds to its parent (which we'll call "the bank").

Could you trace this a little more specifically? The bank holds a mortgage, say, which carries a capital requirement. It sells the mortgage to the SPV for cash that it invested in the SPV to begin with? Then what? The SPV issues bonds backed by mortgage proceeds?

Confusing.

[Bernard Yomtov]

I watched an afternoon in which ignorant Congressmen ranted at Liddy, the guy govt appointed last year to go in and clean up mess.

Appeared to me as if Fed Reserve had signed off on all of Liddy's decisions- they had representatives at all meetings. Given Liddy's mandate to wind down AIG and recover taxpayers investment, the rage appeared to me misdirected.

Couldn't agree more. One of the things I really hate is the practice of pulling people in front of a Congressional committee not for any legitimate purpose but to let members of Congress grandstand by berating them for their villainy. This is nothing but an attempt at poblic humiliation as a sort of ad hoc punishment. It's often misdirected, as Johnny Canuck says, but even if it's not, I don't like it.

And frankly, I think this tax is an extension of this sort of behavior. Congress had the chance to make rules about bonuses. It went along with Geithner (or Paulson?), for reasons good or bad. To come back and kick and scream now is just wrong.

Pay the bonuses, forget the tax, and be more careful next time.

[matth]

Bernard, I believe the SPVs get the cash to buy the assets by selling bonds against the assets. Though there's kind of a chicken-and-egg thing, you could imagine different ways to get around it. I'm just making this up, but maybe something like this: (1) bank forms SPV as corporation, contributing mortgages for 100% of SPV's stock; (2) SPV sells bonds for cash (to buyers the bank would have already lined up); (3) SPV pays out cash as dividend (since bank is only shareholder, it gets everything). There'd be lots of tax and regulatory issues, obviously.

[Bernard Yomtov]

matth,

Thanks.

So they substitute ownership of the SPV for the mortgages on their balance sheet and that, I guess, gets them out from under some regulation or other.

Sounds a little shaky to me - a change of form but not substance, but there is probably more to it than I understand.

[Slartibartfast]

largely because the overbroad application

My objection is that the application isn't broad enough. This may not be exactly a bill of attainder, but it's within rock-throwing distance. IMO, natch.

But, as always, IANAL.

I think we've hit the Constitutionality issue on this topic, previously, but I don't recall that we ever had any general agreement as to whether this constitutes a bill of attainder.